GLOBAL ECONOMY WEEKAHEAD-Slowdown arrives and credit tightens

WASHINGTON (Dec 12): Fiscal austerity in Europe demanded by markets
and exacted by Germany as the price for saving the euro currency is
taking its toll on the world economy. A global slowdown is spreading.

Its severity rests largely upon whether financial markets remain
confident that European Union leaders have delivered a euro-zone rescue
plan with strong enough protections to support their bond markets and
halt the spread of the sovereign debt crisis.

If markets lose confidence, financial contagion will spread and further damage a vulnerable global economy.

EU leaders agreed last week on deeper economic and fiscal union for
euro zone members, but uncertainty is rampant over whether Europe has
constructed firewalls strong enough to prevent further bond market
sell-offs. Neither the European Central Bank, the European bailout fund
nor the International Monetary Fund have sufficient resources to
backstop the euro zone.

Analysts warn this leaves the global economy exposed to further
financial turmoil in the weeks and months ahead. Already, emerging
markets are facing a credit squeeze as Europe's banks sell assets and
bring money back home to strengthen their balance sheets. This looks set
to worsen after the European Banking Authority last week said the
region's banks must raise 115 billion euros in extra capital.

An Institute of International Finance bank lending survey found that
domestic funding conditions for emerging markets tightened sharply from
June to September. Since then credit tightness has persisted and
deepened, said IIF Deputy Managing Director Hung Tran.

Trade finance also is tightening as European sovereign credits are
downgraded, pushing the cost of government-backed trade insurance above
those for emerging countries, he said.

"If this dries up, the wheels of global commerce can decline very quickly," Tran said.

Shipping brokers in the Pacific report a decline in business
activity, an early sign that world trade is declining, although the
Baltic Dry Goods Index, a global measure, has stabilised. In the euro
zone, money supply began contracting in October, with the sharpest
reductions from the five troubled periphery countries.

NO ISLANDS

The United States stands alone among major developed economies in
reporting its economy is gradually improving. Consumer sentiment
brightened in early December, auto sales are climbing, order books are
filling up and unemployment retreating. This will strengthen its
resilience against the global slowdown and Europe's woes.

If the European crisis is contained, analysts say it will shave only a
few tenths of a percentage point off U.S. GDP growth, currently seen
around a 2.5 to 3 percent rate. But the financial contagion could worsen
and pull down growth.

"No country is a financial island. We would feel the effects of the
slowdown spreading in the first quarter of next year," said Kathy Jones,
bond strategist for Charles Schwab.

The Federal Reserve at its Tuesday meeting is expected to take no
fresh action to support growth, although it may discuss ways to
communicate the future path of its monetary policy in preparation for
any additional easing measures next year.

Much of Europe is widely seen as already in recession. Even in
Germany, the euro zone's powerhouse, the central bank slashed its 2012
growth forecast last week to 0.6 percent from 1.8 percent. An early read
of the PMI manufacturing survey due on Thursday will measure the speed
of the downturn.

In China, the manufacturing sector also is contracting as Europe, its
largest trading partner, stumbles. Industrial output dropped in
November to its lowest level in two years and producer prices slowed
sharply. The government sets its economic policy goals in a three-day
meeting this week where flexibility for pro-growth policies such as
higher lending targets and monetary easing is expected.

Japan's capital spending contracted unexpectedly in the third
quarter, a bad omen for future growth. A negative reading is expected
when it releases its quarterly Tankan report on Thursday.

Several U.S. chipmakers, Texas Instruments and Altera, have cut their
revenue outlooks, citing weakening demand for personal computers, a
harbinger of a downturn strongly linked to Asia.

A major surprise last week was Brazil. Its go-go economy stalled in
the third quarter despite aggressive monetary easing over the past three
months. Cheap imports thanks to its soaring currency -- a byproduct of
investors fleeing crisis-wracked developed markets, particularly in
Europe -- have overwhelmed Brazilian producers, who have lost
competitiveness in an integrated global economy. - Reuters