Euro zone in recession, will be hit hard in 2009

By Nigel Davies

LONDON (Reuters) - The euro zone economy is likely already in its first recession since monetary union and the outlook for next year looks grim as a global financial crisis spills over to most sectors, a Reuters poll showed.

Economists said unprecedented efforts by central banks and governments to shore up the global banking system, including some of Europe's biggest names, would not be enough to stop the euro zone economy from sliding into recession.

The quarterly survey of more than 80 economists, conducted October 8-15, showed the economy is expected to grow 1.1 percent this year, and just 0.4 percent in 2009.

That was lower than the 1.3 and 0.9 percent growth rates predicted last month and the 2.6 percent reported in 2007 and marked the seventh consecutive monthly downgrade to growth forecasts. Six analysts even see the economy contracting in 2009.

Economists say such a sharp economic deterioration will see the European Central Bank cut interest rates again this year after it joined forces with other global central banks to slash rates by half a percentage point earlier this month.

"The recession that probably started in the middle of this year is likely to stay longer than we expected, through 2009," said Juergen Michels at Citi.

He said a pickup in unemployment and cuts in company investment plans had only just begun, and warned the euro zone could experience four to five years of below-average growth.

The majority of economists, or 34 of 41 who answered the question, said the euro zone was now in recession. Gross domestic product is predicted to contract by 0.1 percent in the third quarter, after falling by 0.2 percent in the second.

On average they saw recession lasting for another six to 12 months, with most saying it would be 'average' in severity by historical standards, as opposed to 'shallow' or 'deep'.

That is despite a big retreat in the euro's exchange rate against the dollar from around $1.60 in July, which has eased pressure on exporters, as well as a dramatic fall in oil prices from record highs over $147 a barrel to $75 at present.

The central bank's response to dire economic times will be to cut rates further from their current 3.75 percent. Economists see the bank cutting by another half percentage point by year-end, in line with financial markets' expectations.

"A massive reduction of interest rates will eventually help to stabilize the economy," said Michels, forecasting rates would fall to 2.0 percent by mid 2009.

The majority of economists for now see rates bottoming at 2.75 percent in the third quarter.

INFLATION RELIEF, JOB LOSSES

Inflation is also forecast to fall sharply heading into 2009 as oil and food prices ease.