Sandrine Rastello Washington

The International Monetary Fund (IMF) yesterday cut its global growth forecasts and now projects a second year of contraction in the euro region as progress in battling Europe’s debt crisis fails to produce an economic recovery.

The world economy would expand 3.5 percent this year, less than the 3.6percent forecast in October, the Washington-based IMF said in an update of its World Economic Outlook report. It expected the 17-country euro area to shrink 0.2 percent in 2013, instead of growing 0.2 percent as forecast in October, as Spain leads the contraction and Germany slows.

“Is Europe on the mend? I think the answer is yes and no,” IMF chief economist Olivier Blanchard said in a video released with the report. “Something has to happen to start growth.”

While measures to stem the debt turmoil last year helped boost financial markets around the world and decrease sovereign bond yields from Spain to Greece, European officials now still face a recession and unemployment at a record 11.8 percent. The IMF warned that the region still poses a “large” risk to the rest of the world if efforts under way to strengthen its economies and work on a banking union slip.

The forecast for a second year of economic contraction reflects “delays in the transmission of lower sovereign spreads and improved bank liquidity to private sector borrowing conditions”, as uncertainty remains over ending the turmoil that has engulfed nations from Ireland to Cyprus, according to the report.

The fund expects the region’s outlook to improve, forecasting a return to 1 percent growth in 2014. It sees the world economy expanding 4.1 percent next year, 0.1 percentage point less than in October.

In the US, “ underlying economic conditions remain on track”, the IMF said as it cut its forecast for the world’s largest economy to 2 percent from 2.1 percent in 2013 and raised it 0.1 percentage point to 3 percent next year. The priority is for Congress to avoid too much deficit reduction too soon, reach an agreement between Republicans and Democrats to raise the debt ceiling and craft a plan to reduce debt over the medium term.

While the forecast for Japan was left unchanged at 1.2 percent this year amid fiscal and monetary plans to stimulate its economy, the fund cut the 2014 prediction by 0.4 percentage point to 0.7 percent.

Fiscal expansion is “going to help growth in the short run, no question,” Blanchard said.

The IMF didn’t change its forecast for China, seen growing 8.2 percent this year and 8.5 percent in 2014. – Bloomberg