‘Severe economic slowdown’ awaits Europe as energy crunch bites

Across the globe, the OECD projects GDP to be $2.8 trillion lower than the Paris-based forum expected before Russia invaded Ukraine – a diminishing of expectations equivalent in size to the entire French economy.

“The global economy has lost momentum in the wake of Russia’s unprovoked, unjustifiable and illegal war of aggression against Ukraine,” OECD Secretary-General Mathias Cormann said in a statement. “GDP growth has stalled in many economies and economic indicators point to an extended slowdown.”

This chimes with the projections of other international economic bodies – notably the International Monetary Fund Managing Director Kristalina Georgieva’s warning in July, even before Russia cut off gas flows through the Nord Stream pipeline, that disruption to gas supplies risked plunging European economies into recession.

Germany likely to ‘suffer most’

The eurozone faces the largest downward revision in the world – with overall growth expected at 0.3 percent as opposed to the 1.6 percent forecast in June. The OECD also anticipates Europe’s largest economy Germany suffering a recession in 2023, defined as at least two consecutive quarters of falling GDP. German output is expected to fall by 0.7 percent next year, compared to a previous forecast of 1.7 percent growth.

“It’s a realistic forecast, Germany probably will suffer most this winter from the energy shock,” said Gustavo Horenstein, an economist and fund manager at Dorval Asset Management. “A German recession is expected because of its dependence on Russian gas and the size of manufacturing – a sector sensitive to energy supply problems – as a proportion of its economy.”

The eurozone’s other biggest economies are expected to escape recession, with growth of 0.6 percent expected in France, 0.4 percent in Italy and 1.5 percent in Spain while for its part the French finance ministry plans for 1 percent growth for its 2023 budget calculations.

But the OECD’s forecasts could well be revised downwards depending on how the energy crisis develops this winter.

There is “substantial uncertainty about the economic outlook, with significant downside risks”, the OECD warned, notably the “possibility of gas shortages as winter progresses”. In the worst-case scenario, eurozone growth – currently forecast at 0.3 percent – could undershoot this projection by 1.25 percent, well into recession territory.

Whether or not this happens will “quite simply depend on the temperatures this winter”, Horenstein said. “If it’s very cold, energy supplies will run out faster. And the risk is that demand for gas and electricity for heating will be much higher than the supply.”

The OECD noted that EU gas stocks have been significantly boosted this year – between 80 and 90 percent in most member states. However, gas and electricity prices are already very high – and the OECD suggests there’s quite a risk that Europeans will face shortages, especially if there is a severe winter or non-Russian gas suppliers disappoint.

The OECD has drawn up different scenarios for European gas stocks over the period from October 2022 to April 2023. The best-case scenario envisages a 10 percent drop in gas consumption due to European countries implementing demand reduction plans. In this case, their reserves would be sufficient for the winter.

However, the situation looks bad in the other two scenarios the OECD modelled. If European countries carry on consuming gas like they did during the period from 2017 to 2021, it faces a severe risk of disrupted energy supplies in February 2023. And if the winter is particularly cold, gas reserves would drop below 30 percent as early as January.

‘Industry comes last’

As well as the weather, “the ability of manufacturing industry in particular and European economies in general to manage their energy consumption” is going to be a major factor determining how things turn out.

The steep rise in energy prices is already damaging the bottom line of many companies in energy-intensive sectors – forcing several companies such as French glass company Duralex to scale back operations.

“When it comes to dealing with energy problems, most governments give priority to households and public services like hospitals – and industry comes last,” Horenstein said. “So in the event of a recession, this is where the most damage will be done this winter in Europe.”

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