By Alister Bull, European Economics Correspondent
FRANKFURT, April 2 (Reuters) - Rising oil prices are a clear and present danger for the world economy that could hinder a recovery and revive fears of a double-dip recession.
The crisis in the Middle East has pushed oil prices close to $27 per barrel as the market has taken fright at escalating violence between Palestinians and Israel and calls for a 1970's-style oil embargo by some Arab producers.
This is taking the gloss off news that the United States bounced back from its shallowest-ever recession last year and that growth in the euro zone and elsewhere is also on the mend.
Economists warn that while a raft of much better than expected data signals that the recovery is well underway, it will be hard to sustain it if energy prices fail to subside.
"There is no doubt that a large increase in oil prices has proved over the last 30 years to have been a significant danger signal for the economy, leading to recession," said Professor Philip Lane at Trinity College, Dublin.
True, economies have adapted substantially since the 1970s, when OPEC oil producers sent prices soaring and contributed to one of the world's worst economic setbacks since World War Two.
Back in 1973, the European Union spent 13.4 percent of its gross domestic product (GDP) on oil imports but by 1999 this had shrunk to 4.9 percent, Lane said.
But oil remains a significant cost for businesses and a major burden for many households.
PAIN IN THE POCKET
Higher oil prices mean costlier petrol and heating fuel, hitting ordinary people's pockets at a time when rebounding economies on both sides of the Atlantic are desperate for consumers to spend more on goods and services.
This is truer still for Japan, emerging from its third recession in a decade last year with an economy that is even more dependent on oil imports than the U.S. or the eurozone.
Plus, the impact of higher oil prices on inflation may deliver a double-whammy by forcing central banks, who are likely to raise interest rates at some stage as the business cycle picks up, to do so sooner than later.
"Time lags mean the current upswing should be safe for the next few months. But if (oil prices) are sustained, it may mean the recovery will be soft and short-lived with growth back in a slowdown in six or nine-months' time," Lane said.
This would spell a 'double-dip' back into negative growth territory that some economists fear could still be the U.S. economy's fate, although their arguments are mainly based on fallout from lingering overcapacity or a current account crisis.
EUROZONE PRICES
Oil is the means by which Middle East tensions are transmitted into world economic growth. But the euro zone may prove more vulnerable to higher oil prices than the U.S.. ECB chief economist Otmar Issing warned last Wednesday that oil prices were a concern.
His fears were illustrated on Tuesday, when the European Union's statistical agency said that euro zone consumer inflation rose by 2.5 percent year-on-year in March, according to a preliminary estimate.
This was above the 2.3 percent forecast by the market and compares with 2.4 percent in February. It means that the European Central Bank (ECB) may feel it has to raise interest rates to get inflation under control.
The ECB defines stable prices as being between zero and two percent and has been saying for many months that inflation should fall back into this range by the middle of the year and stay there for the whole of 2003.
But models devised by the likes of the Organisation for Economic Cooperation Development estimate that higher oil prices add significantly to prices, placing this goal in jeopardy.
"Most economic forecasts are based on oil prices of between $20-$22/barrel so if oil stays near $27/barrel it will hit growth and add significantly to prices," said Julian Callow, chief European economist at investment bank CSFB in London.
"It may make all the difference to euro zone inflation being above or below two percent next year," he said.
The Paris-based OECD says a $10 rise in oil prices would add 0.5 percent to the rate of inflation in the eurozone in the first year, with the impact fading to 0.2 percent in the following 12 months and GDP growth sapped by 0.3 percent.
The hit is softer in the U.S., with growth slowed by a tenth of a percentage point less in the first year.
Economists said that the euro zone has found out the hard way that it has more to loose from spiralling oil prices.
During 2000, when oiljumped well above $30/barrel, the net impact on the euro zone was double that of the U.S., cutting economic growth by two percentage points, Callow said.
As oil has to be paid for in dollars, this also proved bad news for the euro and gives the ECB, the guardian of the EU's single currency, another thing to worry about. Renewed currency weakness would add to the second-round inflationary impact of oil, as happened early last year.
This may make the ECB adopt a less accommodating stance on oil prices than the U.S. Federal Reserve, which has tended to view energy costs as a tax on growth that dampens inflation elsewhere in the economy.
"Given the already low interest rates, this may tilt the balance towards an earlier tightening (in interest rates)," said Deutsche Bank economist Stefan Schneider in Frankfurt.
((Alister Bull, Frankfurt newsroom, 4969-7565-1215, alister.bull@reuters.com))
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