Europe’s economy braces for coronavirus hit as market panic grips

Edmund HeaphyFinance and news reporter
Yahoo Finance UK
Travellers at an airport in Barcelona, where cases of coronavirus have now sprung up. (Reuters/Nacho Doce)
Travellers at an airport in Barcelona, where cases of coronavirus have now sprung up. (Reuters/Nacho Doce)

As coronavirus spirals into a public health emergency in Europe, economists expect a direct hit to the continent’s already fragile economy.

Bank of America on Thursday lowered its 2020 eurozone growth forecast from 1% to 0.6%, putting the 19-member common currency area on track for its weakest growth in six years.

Before the outbreak spread to Europe, analysts had already said spillover effects from China would dent European growth, due to disrupted supply chains and declining tourism.

Now — as the number of cases swells in Italy, Germany, France, and Spain — they see even deeper damage. Credit Suisse joined Bank of America in cutting its eurozone GDP growth forecast this year, slashing it from from 0.9% to 0.5%.

Read more: Why stock markets are panicking about coronavirus

“Before this week’s sell-off, the majority of investors seemed to have perceived the virus as causing short-term economic damage concentrated on China,” Michael Strobaek, global chief investment officer at Credit Suisse, wrote in a note to clients on Thursday.

“However, as infections spread beyond China to countries such as South Korea, Japan and Europe, this perception has clearly changed.”

The growth downgrades have coincided with panic in stock markets, as investors scramble to work out how the slump may affect businesses.

The STOXX 600 index (^STOXX), which tracks 600 of the continent’s biggest listed companies, has fallen by more than 7% since the week began. The index is on track for its worst performance in over a decade.

Trade-reliant Germany to take hit

To understand why economists and investors are concerned, look no further than Germany.

The eurozone’s economic powerhouse has only recorded 26 cases of the novel coronavirus, dubbed COVID-19, but is still feeling a chilling effect nonetheless.

“Germany’s strongest trump card has become its biggest vulnerability: its openness and dependence on exports and global trade,” said ING chief economist Carsten Brzeski in a note.

German industry, which is hugely dependent on Chinese-made parts, will suffer as sputtering factories in China disrupt global supply chains. The closure of around a dozen towns in Northern Italy, the country’s industrial core, will also have a knock-on effect.

Read more: Germany pessimistic about coronavirus hit to exports

“German manufacturing dependence on Italian imports is smaller than on Chinese imports, but still meaningful,” according to analysts at UBS.

Surveys from the country’s business and manufacturing sectors show the coronavirus outbreak has dealt a hammer blow to confidence. Sentiment fell sharply in the Ifo Institute’s February German Business Barometer, dropping from 0.8 points to -0.7.

Tourists, wearing face masks, pose for a selfie in downtown Milan, Italy, Thursday, Feb. 27, 2020. (AP Photo/Luca Bruno)
Tourists, wearing face masks, pose for a selfie in downtown Milan, Italy, Thursday, Feb. 27, 2020. (AP Photo/Luca Bruno)

Domestically, major trade fairs in cities like Frankfurt and Cologne have either been called off or postponed. The cancellations will have a damaging effect on the hotel, airline, and restaurant industries.

Companies are already taking defensive measures. German airline Lufthansa (LHA.DE) this week announced a hiring freeze and offered staff unpaid leave in a bid to keep costs down.

Deutsche Bank said Germany could tip into recession due to the epidemic, a prediction made even before the recent outbreak in Europe. Bank of America said Thursday German GDP is likely to contract in the first three months of 2020.

ECB has run out of ammunition

The German example is typical. Countries across Europe are likely to feel the economic effects of COVID-19 in one way or another.

ECB executive board member Isabel Schnabel said Thursday that the central bank was “very worried” about the spread of coronavirus in Europe, noting that its impact was “unclear”.

If the spread accelerates, the economic impacts will likely be more severe than economists currently predict.

In times of crisis, central banks are said to be markets’ best friends: they are usually willing to step in to boost economies and suppress volatility.

But after a decade of crisis fighting, ECB chief Christine Lagarde warned earlier this month that her bank’s policymakers had run out of tools to tackle flagging growth.

Interest rates are already low, and the ECB is already buying tens of billions in assets every month. There is little headroom to address the economic fallout of the coronavirus.

This is partly why this week’s stock market reaction has been so severe: investors aren’t betting on the cavalry to ride to the rescue this time.

Still, the ECB will be forced to confront the coronavirus and its fallout one way or another.

“If it turns out that the coronavirus becomes more persistent...we cannot look through it,” Schnabel said.

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