America's economic ills spread to Europe

updated 2:12 p.m. ET July 18, 2008

MILAN, Italy - It took a few months. But the economic woes touched off by soaring oil prices and the subprime mortgage crisis in the United States are finally engulfing Europe.

While each country has written its own recipe for what appears to be a looming slowdown, they all have one key ingredient in common: "Inflation, inflation, inflation," said economist Gilles Moec of the Bank of America in London.

Pinched by higher prices, consumers aren't spending — reflected in low consumer confidence most of Europe's big economies.

Marie-Charlotte Robin, 23, a communications student who drives every day through Paris for her summer internship, says she has to devote more and more of her budget to gas. Recently, she has spent about 70 euros, or $110, per week at the pump.

"I don't even fill up my whole tank anymore because the price makes me sick to my stomach," said Robin, sitting on a park bench on a street just off the Champs-Elysee during her lunch break.

Inflation could well be the hallmark that defines what might otherwise have been a normal, cyclical slowdown after two or three years of strong growth in Europe. Unusually, it is food and oil prices that have risen without driving up core inflation. But many worry it is just a matter of time before prices for other goods begin rising as well.

"Overall inflation is at 4 percent, twice the target of the European Central Bank," said Marco Annunziata, chief economist of UniCredit Markets and Investment Banking in London. "If you look at core inflation, if you ignore the prices of food and energy, it is less than 2 percent. That shows the prices of everything else except food and energy are quite stable. The question is: How long can it last?"'

European economy woes The economic troubles from high oil and food prices and the U.S. subprime mortgage crisis are catching up with Europeans. For instance: — French truckers, farmers and fishermen are protesting the high price of fuel. — One of Spain's biggest real estate developers had to file for protection from creditors, with $8 billion in debt — part of a real estate shakeout after several boom years fuelled by low interest rates. — German exports have been a mainstay of growth, but fell 3.2 percent in May, the biggest drop in three years — Inflation is running at 4 percent in the 15 countries that use the euro — well above the European Central Bank's goal of just under 2 percent.

A stronger euro buffered Europeans somewhat from higher oil prices, since crude is priced in dollars, and for a while their economy rolled on a faster track. But as oil hits records over $147 per barrel higher gas prices are finally starting to bite, and fears about inflation and trouble in the US — a top export market — are starting to bite.

Kabir Siyar, who owns a mobile phone and electronics business on Hauptwache square, one of Frankfurt, Germany's busiest shopping areas, said business had slowed. "For the past year or year-and-a-half, for things that cost as little as 5 euros, or $7.90, people are asking if they can have it for 3 euros, or $4.75, instead. You never used to see haggling," he said. "People used to just hand over the money, now they're trying to get a better price."

The blueprint for slowdown varies greatly from country to country, creating a complex scenario that is exacerbating worries about how bad it will get — and making harder for the European Central Bank to conduct its one-size-fits-all interest rate policy. The bank's president, Jean-Claude Trichet, has stressed the need to fight inflation, with higher interest rates, if necessary. The bank raised its key rate to 4.25 percent earlier this month despite fears that might weigh on growth.

Spain, Ireland and Britain suffer from a burst housing bubble like the one in the United States. Germany's export motor, running strongly for several years, is suddenly sputtering. Italy, Europe's perennial underperformer, limps along, burdened by chronic structural problems.

Denmark is already in a technical recession — two consecutive quarters of negative growth. And according to many economists, the list of suspects for second-quarter contraction is growing: Spain, Italy, Ireland and possibly France and even Germany.

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