Diehard Russophobes love blaming Russia for Europe’s current crisis. As Russia’s wanton war in Ukraine precipitates an energy crisis and fuels energy inflation, Europe is bearing much of the brunt. The continent is suffering steep falls in industrial output and living standards. Delinking Europe from Russian gas is disappointing as a non-starter. These negatives are now triggering a series of crises in Europe.

The Ukraine war could not have come at a worse moment. A Covid-hit Europe is reeling under the pandemic’s aftermath. Drought has left many European economies high and dry. The Ukraine conflict is deepening the European energy crisis, sending prices shooting and inflation ballooning.Now, an ugly recession is baring its menacing fangs at Europe’s threshold.

Predictable Chain of Rate Hikes

Unarguably, this is Europe’s worst economic crisis in decades. With its fundamentals badly mauled, Europe is not able to do much about the monsters of recession rearing their heads in many of its economies. Real incomes and living standards are taking a terrible beating. Europe’s outlook for the future has never been so dismal. Sadly, the crisis is arriving when the winds of fortune are not blowing towards Europe.

Inflation is at a record high and poised to move into double digits. This threatens to trigger a predictable chain of interest rate hikes by central banks across Europe, thus germinating the seeds of recession. Undeniably, an agonising recession is looming ahead for Europe. Concerned, the European Central Bank, which monitors the economies of the 19 Euro nations, hiked its rate by 0.75 per cent on 8 September 2022. https://euobserver.com/green-economy/156004 Now, the bank agrees dark clouds are hanging over Europe.

Crippling Power Shortages

Meanwhile, the European Union is considering an imposition of caps on energy prices and mandatory energy cuts to rein in the prices. Driven by self-interest and thus showing disinterest in these measures, many European nations are not expected to respect these measures. This will again germinate the seeds of recession in Europe. Such a recession will surely devastate the continent.

Unarguably, many European nations are dependent on Russian energy. Since early March 2022, for the first time, natural gas prices crossed the 2,800 USD-mark per thousand cubic metres.  https://www.telesurenglish.net/news/Gas-Price-Exceeds-2-800-perThousand-Cubic-Meters-in-Europe–20220822-0013.html  This huge rise in natural gas prices is a major threat to the rise of Europe as an industrial power. Plus, such a rise is degrading consumer living standards and disrupting social harmony in Europe. If this state of affairs continues, quite likely it will, industrial production will dip, power shortages will cripple the economy and energy prices will hobble economic growth in Europe.

Economic Problems in Major Markets

This is sure recipe for a deep recession. Over the long haul, such a recession is bound to leave lasting scars on the European society, on its income levels, on the distribution of its wealth and on its social fabric. A dreadful prospect indeed. Add to this the economic problems caused by the Covid outbreak in China, a major market for European exports, the imminent arrival of recession in Europe looks certain.

Plus, the Eurozone and America, which together with China account for more than 60 per cent of the economic activities on the planet, are expected to slow down soon. This bleakness threatens to accelerate the arrival of recession in Europe.  As the economic prospects of Europe turn more bearish, the European poor will be the worst hit when a recession ticks in. https://blogs.imf.org/2022/07/26/global-economicgrowth-slows-amid-gloomy-and-more-uncertain-outlook/

With reason. A lion’s share of incomes of the European poor is spent on food and energy. As Russia’s Gazprom will soldier on with stoppage of gas supplies, Europe will see its production machinery grinding to a halt, energy prices skyrocketing and constricted power supplies crippling European economy.

Public Debt to Balloon

At the end, many power companies will go belly up. Uniper, the Germany-based natural gas supplier to Europe, says it is losing in excess of 100 million Euros a day due to rising energy prices.  https://www.reuters.com/business/energy/uniper-requests-another-4billion-euro-credit-facility-2022-08-29/ There could be many more power companies in the same boat today in Europe. Many European nations have taken initiatives to bail out their power companies from possible bankruptcies. But, they will end up scratching the surface, if the Ukraine war goes on.

In such a likelihood, public debt in Europe is bound to balloon further and the World Bank can do nothing about this. As an end to the Ukraine war is nowhere in sight, commodity prices, whose rise began in 2020 in Europe, are relentlessly continuing their upward march. With input costs rising for industrial production, supply chains are getting disrupted and depleted on a wider scale.

Central Bank’s Kneejerk Reactions

These disruptions are paralysing factory supplies. As a result, household earnings are dropping and in turn depressing household spending. Thus, the approaching crisis of recession in Europe will be more of a supply problem, not a demand-driven issue. The way out of this recessionary predicament is to generate energy in energy-consuming European economies.

As a kneejerk reaction, the European Central Bank is sure to raise rates to make bank credit more expensive in a bid to tame the inflation monster. Following suit, the US Fed and the Bank of England will emulate the European Central Bank. Despite these reactionary gestures, European economies will hurtle down the recessionary precipice. The reason is simple. Raising interest rates cannot pull down energy prices anyway. Curtailing demand in hurting economies alone can do the trick.

Deadly Cocktail of Stagflation

Unaware of this basic principle of banking finance, many European economies are rushing today into predatory central bank actions and thus hastening the arrival of recession. Germany and Italy are classic examples of this syndrome. Others in the Eurozone are sure to follow suit by end 2022. The moral of the story: Impoverished economies should stay away from raising interest rates to fight inflation as high rates mean greater indebtedness and lesser consumption. Shockingly true, high rates thus stimulate recession in vulnerable economies. This is precisely what is happening in Europe now.

Economists call such a piquant situation as stagflation, a deadly cocktail of high prices and low growth. Stagflation has hit Europe now. As a harbinger of recession, any stimulus package from the European Central Bank would thus result in a rise in inflation. Finally, this will hurt the central bank’s credibility and frustrate its anti-inflation exercises.

Averting a Downturn Not Easy

In such a case, the central bank may go in for policy tightening, which will again apply the brakes on growth. These anti-inflation efforts are anti-growth and pro-recession. But, regardless, central banks love raising interest rates and they will continue do so. Thus, inflation and putative anti-inflation rate hikes herald a recession. Needless to say, recession is about to descend on Europe.

Under such conditions, averting a downturn is not easy. As sentiments turn pessimistic, as economic prospects look bleaker and as bankers turn more conservative, growth will be sacrificed. On the industrial front, this will hit energy-intensive sectors, forcing them to slash their output. On the domestic front, steep energy costs will compel slashes in consumption of services. These are major depressants, both for developing and developed economies. As depressants, they are sure to create supply bottlenecks and fuel inflation further.

Optimism or Wistful Thinking

Optimists have a different argument, however. The European labour market continues to be robust. Unemployment is hovering below 7 per cent. Wage growth is on the ascendant with renewal of long-term contracts on the anvil. Consumption shows signs of resistance to slumps. Where is the question of a recession then? But, when the ground situation is stark and shadowy, such optimism comes across as nothing more than wistful thinking.

There are many reasons behind saying optimists are nothing more than wistful thinkers. One, the European industry is not getting orders and is engaged in clearing the backlogs of the past. Two, importing countries are showing signs of slowing down. Three, key industries in Europe are contracting. Four, unhealthy dependence on a single importing country, China in Europe’s case. Five, consumer spending on services is on the decline as resources are too meagre to fund necessities.

The Sole Weapon in ECB’s Armour

Effects of these negatives are showing up in many European economies. Consider these examples. Germany is too dependent on China at the cost of its economic health. Italy is on a steep economic decline. United Kingdom is suffering a 40-year-high double-digit inflation. https://www.bloomberg.com/news/articles/2022-08-17/uk-inflationrises-more-than-expected-to-40-year-high-of-10-1 Many others are too vulnerable to be rescued from strength-sapping stagflation.

As winter approaches, economies in Europe are sure to be left in the cold. Worse, Russia-created energy crisis plus rising interest rates will fuel inflation to an extent never seen before. Whatever be the situation, the European Central Bank will opt for interest rate hikes, the sole weapon in its armour for fighting inflation.

In Conclusion

These hikes are counterproductive as European bond yields would rise and the Euro will slump. As a result, Europe’s economic health will worsen triggering an exodus of global investors. These developments will push the European economy down the hellhole of a recession. Plus, the World Bank downgrading growth forecasts for 2023 for Europe’s four major economies – Germany, France, Italy and Spain – is an eloquent evidence of an European recession closing in on Europe. https://blogs.worldbank.org/developmenttalk/global-economicoutlook-five-charts