EU predicts inflation hike, lower growth for eurozone

BRUSSELS -- The European Commission on Monday sharply raised its inflation forecast for the eurozone this year while predicting slightly lower growth for the 15-nation bloc sharing the same currency.

"Economic growth is moderating in the European Union (EU) and euro area and the current, imported inflationary pressures are a matter of concern," said Joaquin Almunia, EU Economic and Monetary Affairs Commissioner.

Annual inflation in the eurozone would increase to 3.2 percent in 2008 amid soaring oil and food prices, up from the 2.6 percent previously expected by the Commission in February and more than one percentage point higher than the 2.1 percent in 2007.

"The sharp increase reflected a combination of soaring oil and food prices and the fading of favorable base effects," the Commission said in its spring economic forecast.

Pushed up by record-high oil prices and rising food prices, eurozone inflation has doubled since August 2007, reaching 3.6 percent in March, the highest level in 12 years and well above the two-percent ceiling preferred by the European Central Bank to maintain price stability.

Inflation in the 27-nation EU has also doubled from 1.9 percent in August 2007 to 3.8 percent in March 2008. Average inflation in the EU this year was expected to stay as high as 3.6 percent, up from 2.4 percent in 2007.

For 2009, the Commission forecast said inflation will ease to 2.2 percent in the eurozone and 2.4 percent in the EU.

"The biggest changes in our forecasts when we compare these figures with the previous ones regard inflation for 2008 for well-known reasons, (namely) oil price increases, commodity price increases and food price increases," Almunia told reporters at a press conference, adding rising prices are posing challenges not only for economic reasons, but also for social reasons.

Almunia said throughout 2008 inflation was expected to peak in the second quarter and then fall back in the latter half.

Meanwhile, the European Commission lowered its forecast for economic growth in the eurozone this year to 1.7 percent, slightly down from the 1.8 percent predicted by the EU's executive arm in its previous forecast in February.

The growth rate in the eurozone was 2.6 percent in 2007.

"The moderation in growth results from the persisting turmoil in the financial markets, the marked slowdown in the United States and soaring commodity prices, all of which are taking their toll on global activity," the Commission said.

Economic growth in the eurozone was expected to slow down further to 1.5 percent in 2009, according to the latest forecast.

In the 27-nation EU, the Commission said economic growth would reach 2.0 percent in 2008 and 1.8 percent in 2009, down from 2.8 percent last year.

The financial turmoil, which erupted last summer, is proving deeper, wider and longer-lasting, while the downturn in the U.S. looks set to be more pronounced and protracted than previously assumed, the Commission said in its spring forecast.

The Commission's baseline scenario assumed that uncertainty about the size and location of credit losses, which made banks reluctant to lend, would prevail until the end of this year, before gradually petering out during the first half of 2009.

However, the Commission said the EU economy is still in a relatively good position to weather the global headwinds on the back of improved fundamentals, thanks in part to the positive impact of past structural reforms and increased credibility of macroeconomic policies.

But the EU economy will not escape unscathed. Investment growth is weakening due to a cooling-off of overvalued housing markets and the cyclical slowdown. Private consumption growth is also set to slow with employment and real wage growth decelerating this year and consumer confidence in steady decline.

Following on the strong improvement in 2006-2007 momentum, the labor market is now softening. Improvement in public finances was also expected to come to a halt, with the average public deficit set to increase again in 2008.

Looking ahead, the Commission said the major downside risks relate to the still ongoing turmoil in the financial markets which may reinforce the US downturn further.

"The uncertainty is still large as regards the impact of the crisis on the real economy," the Commission said.

"The balance of risks for the growth outlook continues to be tilted to the downside, especially for 2009, while the risks for inflation are somewhat on the upside," it added.