July 3, 2008 / 11:37 AM / 12 years ago

WRAPUP 2-Pain in Spain as Europe economy shows house cracks

(Updates after ECB raises rates)

By Brian Love

PARIS, July 3 (Reuters) - Spain’s private sector plummeted towards recession in June, with Ireland and Britain not too far behind in surveys which show the hottest house-boom economies of Europe are now slowing hard on the heels of the United States.

The surveys of thousands of companies across Europe showed activity in the manufacturing and services sectors of the euro zone as a whole shrank in June for the first time in five years, though Germany and France were spared.

“The Spanish and the Irish surveys were both truly awful,” said Howard Archer, analyst at Global Insight, an economics consultancy.

The grim news for Europe’s economy did not stop the European Central Bank, fearful of inflation, from raising the euro zone’s benchmark interest rate a quarter of a point to 4.25 percent, though many economists think it will stop there.

Bar Italy, which has battled economic stagnation for years, the Markit Purchasing Managers’ Index (PMI) surveys suggested growth in Europe is most at risk in economies that prospered in a decade-long housing boom that was fuelled, as in the United States, by liberal mortgage lending.

A U.S. housing slump and the collapse of the sub-prime home loan market there snowballed into a global credit crunch last year which now appears to be hitting Europe’s shores in earnest.

CRUMBLING BRICKS

Earlier this week, Denmark, another country where a housing boom has turned to bust, became the first European country to confirm two straight quarters of shrinkage in gross domestic product, the general definition of recession.

Thursday’s news offered more evidence that Spain, the euro zone’s fourth largest economy, is falling hard after a decade or so of bumper economic growth fuelled by rising house prices and frenetic construction.

Spain’s services economy shrank at the fastest pace ever recorded in a euro zone PMI survey, according to Markit who compile the monthly surveys of corporate purchasing managers. Economists consider the PMIs a good “as it happens” measure of what is happening to the economy on the business side.

The PMI index for Spain’s services sector hit a record low of 36.7, and its manufacturing sector reading is also below the 50 mark which is the dividing line between growth and contraction.

June performance was not much stronger in Ireland and Italy, two other euro zone troublespots, nor in Britain, which along with Denmark is outside the ECB’s monetary policy area but suffering the same worries about high prices and low growth.

Ireland’s services economy shrank in June for the fifth consecutive month, and at the fastest pace in at least eight years, the PMI survey there showed.

One of the country’s most respected forecasters, the Economic and Social Research Institute, believes the small island economy is heading for its first recession since 1983 this year, although the government is clinging to less gloomy forecasts.

In Italy, the third-largest euro zone economy after Germany and France, the PMI showed service sector activity contracted for the seventh month running in June, though the rate of contraction was a bit less than the previous month. The PMI index edged up to 48.5 from May’s 48.1.

In Britain, the services sector shrank at its fastest pace since the aftermath of the 2001 attacks on the United States and researchers who compile the index think the economy is flirting with a recession.

The index of British activity dropped to 47.1 in June from 49.8 in May, for a second month in contraction territory.

For the euro zone as a whole, the PMI service sector index fell to 49.1 in June from 50.6 in May, dipping into the red for the first time since June 2003.

Yet the surveys offered little evidence that slowing demand was curbing the inflation pressures that have the ECB so worried.

While some surveys showed companies were finding it somewhat harder to pass on their higher costs to consumers, there was little sign that upward pressures on corporate costs were easing in any convincing way.

Consumer price inflation is running at a record 4.0 percent year-on-year in the bloc where ECB rates rule, propelled upwards by record fuel prices and soaring food costs. (With reporting from Reuters offices across Europe; Editing by Ruth Pitchford)

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