Credit Suisse: Next recession will cause the eurozone to collapse

(Mehreen Khan) A recession in Europe could lead to the collapse of the eurozone, as the single currency would buckle under the political turmoil unleashed by a fresh downturn, a leading investment bank has warned.

In a research note titled “Close to the edge”, economists at Swiss bank Credit Suisse warned the fate of monetary union hangs in the balance if Europe’s policymakers are unable to ward off another global slump and quell anti-euro populism.

“The viability of the euro is contingent on the current recovery,” said Peter Foley at Credit Suisse.

“If the euro area were to relapse back into recession, it is not clear it would endure.”

Although the bloc’s nascent recovery was likely to persist in the coming months, Credit Suisse said there were worrying signs of deterioration emanating from Europe’s economies. These include heightened credit stress in the banking sector and market volatility.

If the euro area were to relapse back into recession it is not clear it would endure.

“The near-term outlook for economic activity, as well as the risks around it, has shifted materially downwards,” said the seven-page report.

The eurozone’s 19 member states only managed to grow by 0.3pc in the last three months of 2015, despite asset purchases from the European Central Bank and the collapsing price of oil. Unlike the US and UK, the eurozone’s GDP still lags below its pre-financial crisis peak.

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Italy, the euro’s third largest economy, was stagnant at the end of last year, while Greece has slipped back into recession. Growth in Europe’s dominant economic power Germany has steadied to just 0.3pc.

Insipid growth has been coupled with a fresh fall into deflation in February, raising fears the continent is stuck in a low growth trap where it is unable to tackle mounting debts.

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This has put pressure on the ECB to devise more stimulatory measures to revive economic fortunes and escalated calls for governments to deploy their fiscal policy tools to support growth.

But a failure to fight off recessionary forces would cause “irrevocable damage” to the eurozone six years after the onset of the financial crisis, said Mr Foley.

Rising unemployment, falling asset prices, and mounting costs of debt would embolden anti-euro populist forces across the continent, “radicalising” electorates, said the report.

Europe’s fragile banks – which have been in the eye of a market storm since the start of the year – could also find themselves at the heart of a new financial crisis as their profitability is squeezed and lending to the economy grounds to a halt.

“The capacity for a renewed downturn to push the euro area into a destructive negative economic, political and financial feedback loop is considerable,” added Mr Foley.

The Swiss bank’s warning comes ahead of a crucial meeting of ECB policymakers next week, when they are widely expected to unleash a new round of quantitative easing and interest rate cuts.

Benoit Cœuré , executive board member at the ECB, said the central bank’s policy stance could not “become a source of uncertainty” for expectant markets.

“In the still fragile environment we face today, what is essential is that policy works to reduce uncertainty,” Mr Cœuré said on Wednesday.

He admitted that the ECB’s move into negative interest rates could have adverse effects on the continent’s lenders, hinting policymakers would mitigate the impact of its -0.3pc deposit rate on bank profitability.

“We are well aware of this issue. We are monitoring it on a regular basis and we are studying carefully the schemes used in other jurisdictions to mitigate possible adverse consequences for the bank lending channel,” said Mr Cœuré .