The unexpected stalling of the recovery in late 2011 is set to extend into the first two quarters of 2012. However, modest growth is predicted to return in the second half of the year.

On an annual basis, real GDP in 2012 is now forecast to remain unchanged in the EU (0.0%) and to contract by 0.3% in the euro area. Uncertainty remains high and developments across countries are uneven.

The inflation forecast for 2012 has been revised slightly upwards compared with the autumn, due to persistently high energy prices and increases in indirect taxes. It now stands at 2.3% in the EU and 2.1% in the euro area.

Commission Vice-President for Economic and Monetary Affairs Olli Rehn said: "Although growth has stalled, we are seeing signs of stabilisation in the European economy. Economic sentiment is still at low levels, but stress in financial markets is easing. Many of the steps that were essential to deliver financial stability and to establish the conditions for more sustainable growth and job creation have now been taken. With decisive action, we can turn the corner and move from stabilisation to boosting growth and jobs."

Growth forecast for the EU and euro area revised down

Against the backdrop of a waning growth momentum and continued low confidence, real GDP is expected to remain unchanged in the EU (0.0%) and to shrink by 0.3% in the euro area in 2012. This constitutes a downward revision of 0.6 pp in the EU and 0.8 percentage points in the euro area compared to the autumn forecast of 10 November 2011.

Looking at individual Member States, growth divergence remains pronounced. In 2012, GDP growth is forecast to be negative in nine countries, stagnant in one and positive in seventeen. Growth will be highest in Latvia, Lithuania and Poland and lowest in Greece and in Portugal.

Domestic and global demand prospects

The outlook is conditioned by a less supportive global economy, with the ongoing weakening of global demand weighing on net exports. EU business and consumer confidence are still at low levels, although a recent slight improvement has been noted as the financial sector has shown signs of stabilisation.

Credible policies in vulnerable countries and the increasing recognition of the steady progress in tackling the sovereign-debt crisis have helped to stabilise the markets. Sovereign risk perceptions have recently abated somewhat for certain countries, but spreads remain at elevated levels and credit conditions for the private sector have been tightening.

While the broad financial-market situation in the EU remains fragile, and uncertainty is still weighing strongly on private investment and consumption, the risk of a credit crunch has been reduced, largely due to the liquidity measures taken by the ECB. Also, in the light of subdued demand, credit conditions are not expected to constrain investment and consumption over the forecast horizon. Overall, a gradual return of confidence and a recovery of investment and consumption in the second half of 2012 are expected.

Inflation easing only gradually

On the back of persistently high energy prices, inflation has remained higher than forecast in the autumn. With core inflation stabilising at about 2% and recent increases in indirect taxes preventing a faster decline in price pressures, headline HICP1 inflation has decreased more gradually than expected. Reflecting the predicted weakening of economic activity, inflation is expected to continue its slow decrease over the forecast horizon. For 2012 as a whole, the HICP inflation rate is now projected at 2.3% in the EU and 2.1% in the euro area.

Risk assessment

Amid lingering uncertainty, risks to the EU growth outlook for 2012 are tilted to the downside. If an aggravation of the sovereign-debt crisis were to result ultimately in a credit crunch and a collapse in domestic demand, this would probably entail a deep and prolonged recession.

Upside risks to GDP include a stronger-than-expected rebound of confidence and more resilient global demand, stemming from e.g. a stabilisation of housing markets in the US. As regards inflation, risks appear broadly balanced, with major downside risks relating to a sharper-than-expected contraction in GDP, which would also depress underlying price dynamics. On the upside, disruptions of oil supply due to geopolitical tensions and stronger than expected demand from emerging markets might fuel commodity price inflation.

A more detailed report is available at:

http://ec.europa.eu/economy_finance/articles/eu_economic_situation/2012-02-23-interim_forecast_en.htm