Brussels, May 4 - Europe's economy will not start recovering until the second half of next year, the European Commission said on Monday as it slashed its forecasts to reflect the region's deepest recession since World War Two.
Despite what it called some "positive signals" in recent days, the EU's executive arm said the economy of the 16-country euro currency zone would shrink 4.0 percent this year and by 0.1 percent next year.
"The European economy is in the midst of its deepest and most widespread recession in the post-war era," Economic and Monetary Affairs Commissioner Joaquin Almunia said.
"The outlook is still gloomy, but for the first time since mid-2007 some positive signals have appeared in the last week," he told a news conference, noting healthier financial markets and an improvement in business expectations indices.
Euro zone manufacturing activity declined at its slowest pace in six months in April, and there were signs across its four leading economies that the worst of a severe recession may be over, a survey showed on Monday.
"We are no longer in a free-fall," Almunia added. "We have the feeling the bottom is closer and closer, and thanks to fiscal stimulus and monetary stimulus ... we will avoid any new falls."
The Commission growth forecasts are a sharp downward revision of Jan. 19 projections of a 1.9 percent contraction this year and 0.4 percent growth in 2010.
Almunia said that were it not for large automatic and discretionary fiscal stimulus from EU governments amounting to 5 percent of the bloc's GDP in 2009-2010, the contraction this year would be 5 percent rather than 4 percent.
Asked whether the EU needed to spend more, Almunia said the issue would be discussed by EU leaders in June.
"My feeling is it's a bit early in the day to know what the positive impact of measures adopted is going to be," he said.
The Commission also forecast soaring unemployment that would reach 11.5 percent of the workforce in 2010 and inflation well below the European Central Bank's target this year and next.
The ECB meets on monetary policy on May 7, when it is expected to cut its main refinancing rate by 25 basis points to 1.0 percent and announce other ways of policy easing.
ACTION ON TOXIC ASSETS
Almunia warned that for the 2010 recovery to happen, Europe had first to deal with toxic assets on banks' balance sheets that were choking off lending to the credit-starved economy.
"We need to proceed rapidly with the cleaning up of the impaired assets on bank balance sheets and recapitalise banks when appropriate," Almunia said.
"Member states have started tackling bad assets, but more needs to be done," he said.
The Commission's growth forecasts are slightly more upbeat than those of the International Monetary Fund, which expects the euro zone to shrink 4.2 percent in 2009 and 0.4 percent in 2010.
But they are more pessimistic than the ECB's worst-case scenario of a 3.2 percent economic decline in 2009.
In the wider, 27-nation European Union, the economy would also contract by 4 percent this year and 0.1 percent in 2010, the Commission said, revising its January forecasts of a 1.8 percent recession in 2009 and 0.5 percent growth in 2010.
"The main factors behind the recession are the worsening of the global financial crisis, a sharp contraction in world trade and ongoing housing market corrections in some economies," the Commission said in a statement.
The Commission expects euro zone inflation, which the ECB wants to be below but close to 2 percent over the medium term, to slow to 0.4 percent this year from 3.3 percent in 2008 and accelerate only to 1.2 percent in 2010.
"The risk of a deflation scenario, i.e. a persistent decline in a very broad set of prices, propagated by a self-reinforcing expectation of further price declines, appears limited at the current juncture, at least at the aggregate level," the Commission said.
The EU executive expects unemployment in the euro zone to jump to 9.9 percent of the workforce this year from 7.5 percent last year and soar to 11.5 percent in 2010.
Europe's public finances are taking a hit. The Commission forecasts that the euro zone budget deficit will more than triple to 6.5 percent of gross domestic product next year, well above the EU's upper target rate of 3 percent..
While Ireland will have the biggest budget gap in Europe with a deficit of 12 percent of GDP this year rising to 15.6 percent in 2010, the effect of the slowdown will also be dramatic in eastern European countries, ending years of growth and potentially undermining their efforts to join the euro.
Almunia said the Commission would proceed with disciplinary steps versus Romania, Malta, Poland, Lithuania and Latvia, the latest in a line of measures taken against states with rising deficits.