On Tuesday the OECD General Secretary Eric Piermont said that the 17-country EU was in danger of falling into a "severe recession" and that the global economy could be dragged down with it. It was quite a headline, and it certainly caught my attention. It seemed to me that Mr. Peirmont found and mashed the panic button as he called for governments and the ECB to come quickly and bail them out with a "what-ever-it-takes" attitude.
The OECD's Chief Economist, Pier Carlo Padoan, stated that the eurozone economy could contract by as much as 2%. This is their worst-case scenario. By way of comparison, U.S. GDP contracted by 2.8% at the depth of the Great Recession in 2008-09.
Both of these statements show the psychology of the business cycle in that they jump to the worst-case scenario and instill fear in policy makers, business leaders, and consumers. That fear can lead to hurried and ill-advised policy decisions and a voter backlash against austerity in favor of more government spending programs. The fear could inhibit many business leaders and consumers in their spending plans, which only exacerbates the problem.
A less-panicked view of the situation finds that the average OECD forecast calls for 2012 to end the year 0.1% below 2011. Our forecast calls for 2012 (EU industrial production) to come in 0.6% ahead of 2011 as the eurozone begins to recover late this year. A flat year demands a much different response than a "severe recession" warning cry.
There is another piece of psychology coming out of the OECD -- the statement about how the significant problem will spread to the rest of the world. That statement spreads the fear, presumably in order to induce other nations to help through various transfers of funds. The fear of a spreading recession appears to be aimed at the northern EU nations who are doing well. This is likely to be a hard sell to Germany and other nations. They question why the financially responsible countries should bail out the financially irresponsible, especially since the irresponsible are now saying that the move toward balanced budgets, etc. should not be imposed upon them according to the timeline that they themselves agreed to. Mr. Padoan of the OECD and President Hollande of France have both said that government should promote growth (stimulus spending) while reducing deficits. That makes for interesting copy, but you cannot easily do both at the same time.
All of this leads to several conclusions. First, it highlights the need for a credible forecast in lieu of panic-button headlines. The EU will face a mild recession, as we have forecasted, but the end of the world is not near. Second, this mess also highlights how the EU seems to be drifting toward a two-tiered system, which is what I mentioned in numerous speaking opportunities in the last six months. Third, it highlights the virtue of austerity and fiscal responsibility over free spending.
There is no need to panic. Plan on a relatively mild recession and a slowly healing eurozone in later 2012 and next year.