Commission cuts eurozone growth forecast to 1.6%

The European Commission slashed its growth forecast for 2005 yesterday for the second time in six months, as it warned soaring oil prices and rising unemployment would put the brakes on eurozone economies.

The European Commission slashed its growth forecast for 2005 yesterday for the second time in six months, as it warned soaring oil prices and rising unemployment would put the brakes on eurozone economies.

It singled out Germany, once the powerhouse of Europe, as it cut its forecasts for GDP growth across the 12 eurozone countries to 1.6 per cent for 2005, down from the 2 per cent it predicted in October.

The new forecasts mark a slowdown from the 2 per cent achieved last year, but bring Brussels in line with City economists who have pencilled in growth of 1.5 per cent this year. The IMF and the European Central Bank are counting on growth no higher than 1.6 per cent.

Gwyn Hacche, an economist at HSBC, said: "[The Commission is] really catching up with all the downward revisions to eurozone growth made by private sector economists. We are more pessimistic than the consensus, with 1.3 per cent growth for this year and next because we think we'll see a global slowdown coming through later in the year." The EU's weakness is in marked contrast to the US, where growth is forecast to hover around 3.6 per cent this year and drop to 3 per cent in 2006.

The Commission almost halved its forecast for German growth to 0.8 per cent from 1.5 per cent, predicting the country would breach the budget deficit limit for the fourth year in a row. Unemployment has shot higher in Germany, hitting a post-Second World War high of 12 per cent last month.

Joaquin Almunia, the Economic and Monetary Affairs Commissioner, said Brussels may ask Germany to do more to narrow its shortfall. Last month the Commission eased the budget constraints posed by the Stability and Growth Pact to try to avoid the need to impose sanctions on France and Germany. He also warned that Italy, Greece and Portugal were set to breach the EU's deficit rules, but said France could be off the hook for the first time in five years.

Brian Hilliard, at Société Générale, said: "Most disturbing is the outlook for Germany. Much as the ECB would like to raise rates, given their recent hawkish rhetoric, this would seem a dangerous strategy at the moment." Mr Almunia said: "The second half of 2004 was a very bad period, very low growth rate, so the carryover for 2005 was not strong."

The Commission highlighted the threat of "downside risks" to its forecasts, warning continuing high oil prices and volatile exchange rates could hit investment and consumer confidence. Oil climbed above $58 a barrel in New York, setting a record on fears that US demand this summer would exceed supplies.

The UK was one of the few countries to escape a cut to its growth forecasts, which were held at 2.8 per cent for 2005.