US, Europe dangerously close to recession, Morgan Stanley reports

The United States and euro zone are "dangerously close to recession," Morgan Stanley said today, criticizing policymakers and predicting the European Central Bank will have to reverse its rates policy.

The Morgan Stanley research note, which cut global growth forecasts, was cited by stocks traders as adding to market nervousness over the US and euro zone debt crises and the economic drag of austerity measures in debt-burdened countries.

Deutsche Bank added to the gloomy market tone by cutting its gross domestic product forecast for China, a major growth engine for the world economy.

Morgan Stanley cut its US GDP forecast to 3.9 percent growth from 4.2 percent for 2011, and to 3.8 percent from 4.5 percent for 2012.

"Our revised forecasts show the US and the euro area hovering dangerously close to a recession – defined as two consecutive quarters of contraction – over the next 6-12 months," Joachim Fels, who co-heads Morgan Stanley's global economics team, said in a research note dated with yesterday’s date.

That was not the bank's base case scenario, he said, noting the corporate sector still looked healthy and lower inflation will ease pressure on consumers' wallets, while central banks such as the Federal Reserve and ECB could try to loosen policy further.

"A negative feedback loop between weak growth and soggy asset markets now appears to be in the making in Europe and the US," Fels said. "Against this dire growth backdrop, we no longer expect the ECB to hike rates. Instead, we now see the Bank cutting rates next year. We lower our refi rate forecast for the end of 2012 to 1 percent from 2 percent before."

Economists are beginning to latch on to a shift of view already evident among investors. Traders in financial markets have been moving to price in a cut since the ECB's last press conference on August 4. Standard Bank said this week it expects the ECB to make its first cut early next year.