Why the euro zone is the greatest threat to global economic recovery

The world economy is “far from being out of the woods,” according to the latest report from the Organisation for Economic Co-operation and Development (OECD). The bi-annual economic outlook paints an alarming picture of the slow global recovery and the drag that the euro zone crisis, in particular, is having on the rest of the world. New forecasts from the Paris-based think tank suggest that the euro zone will contract for two more years, with a contraction of 0.4% this year and 0.1% in 2013.

Although the report says the US fiscal cliff is of serious concern, it’s the crisis in the euro zone where “the greatest threats to the world economy remain.” Angel Gurría, the OECD’s secretary general, said a “failure to solve the euro area crisis could lead to a major financial shock and global downturn.” The crisis has dragged on longer than necessary, says the report, which takes particular aim at the failure of policy makers to fix it. The problem isn’t about a lack of understanding of what’s needed to fix the problems, but rather a failure to reach agreement on a policy response. Making matters worse are ongoing problems that amplify shocks:

  • Solvency fears for banks and their sovereigns are feeding on each other due to government guarantees for banks and bank holdings of government bonds.
  • The possibility of exit from monetary union pushes up yields, which in turn reinforces breakup fears.
  • Worries about government debt are also driving up yields, which further weigh on debt dynamics.
  • Rising unemployment triggers reform fatigue and social resistance.

Along with its dire forecast, the OECD published a series of charts, with some showing the downward pull by the euro zone on everyone else.

Everyone suffers from a prolonged euro zone contraction

GDP contraction in the euro zone
GDP contraction in the euro zone (OECD)

Growing unemployment won’t help

Unemployment rising in the euro zone
Unemployment rising in the euro zone (OECD)

Consumer confidence in the euro area remains a problem

Lousy consumer confidence
Lousy consumer confidence (OECD / Datastream / European Commission)

Global trade suffers…

Global trade slowdown
Global trade slowdown (CPB / OECD)

…as does trade in emerging markets

Euro zone crisis effect on emerging economies
Euro zone crisis effect on emerging economies (OECD)

And economies shift in size, with Europe taking a smaller share of the pie

Economic shifts
Economic shifts (OECD / Johansson, Å., et al.)
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