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UN: European Crisis Remains Biggest Threat To World Economy

A United Nations report released Thursday described the ongoing European debt crisis as the biggest threat to the world economy at present. The report also warned that the austerity measures being implemented by the affected nations will plunge them further into recession, and called for a shift in fiscal policies to stimulate growth.

"An escalation of the crisis could result in severe turmoil in financial markets and a sharp rise in global risk aversion, leading to a further weakening of global growth," stated the UN World Economic Situation and Prospects (WESP) 2012 mid-year update released Thursday.

The report, complied jointly by the UN Department of Social and Economic Affairs (UN DESA), the UN Conference on Trade and Development (UNCTAD) and the five United Nations regional commissions, said most developed countries are still trying to recover from the 2008-2009 global financial crisis. The fiscal austerity measures aimed at addressing the debt situation are backfiring.

"The severe fiscal austerity programs implemented in many European countries, combined with mildly contractionary policies in others, such as Germany and France, carry the risk of creating a vicious downward spiral with enormous economic and social costs," it said.

The report stressed the need to change the course of fiscal policies of crisis-hit EU nations by shifting their focus from short-term consolidation to medium- to long-term fiscal sustainability. It also emphasized that fiscal policies should be internationally coordinated and should support direct job creation and green growth.

High unemployment, deleveraging by banks, firms and households, and bank exposure to sovereign debts are also contributing factors to the economic downturn, the report said. The European countries in particular are struggling to overcome these weaknesses.

The update warns that the situation in Italy and Spain currently poses the biggest danger for the euro area as the size of their debts would likely challenge the region's rescue funds.

"The main fear is that Spain will slide deeper into recession, driving up its borrowing costs, leading to increased market turmoil and eventually requiring a bailout. This would leave insufficient funds available for Italy and renew speculation on a break-up of the euro area, further unsettling financial markets and triggering a downturn in global economic activity," the report said.

In addition to a shift in fiscal policies, WESP recommended that monetary policies be better coordinated internationally, and called for an acceleration of reforms in the financial sector.

WESP also predicted that world gross product will grow by 2.5 per cent this year and 3.1 per cent in 2013, following growth of 2.7 per cent last year. Its latest forecast is slightly lower than the predictions made in January.

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