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Europe Crisis Over; Recession Lingers As France, Italy Lag

The European debt crisis is a fading worry, and investor confidence is rebounding. But the region is still stuck in recession, and some of the biggest eurozone members threaten to become worse laggards.

Results from Italy's election this weekend will underscore the ongoing challenge. The winner is expected to preside over a weak coalition with little support for additional reforms that would make the eurozone's No. 3 economy more competitive.

No. 2 France was reminded recently of its own woes when Titan International (TWI) CEO Maurice Taylor said the tire maker would be "stupid" to rescue a Goodyear (GT) plant set for closure.

"The French workforce gets paid high wages but works only three hours," Taylor complained in a letter to Industry Minister Arnaud Montebourg. "They get one hour for breaks and lunch, talk for three and work for three.

Eurozone GDP has been flat or negative for five straight quarters, and Q4's contraction deepened sharply. Italy's GDP has fallen for six consecutive quarters, and Spain's for five.

Economists surveyed by the European Central Bank this month cut their 2013 eurozone GDP forecast to unchanged from an earlier view for 0.3% growth.

The ECB's pledge last year to buy the sovereign bonds of governments that request help has reduced the risk that indebted states will default and trigger a financial meltdown.

"The bad news is they still have a growth crisis on their hands," said Nariman Behravesh, chief economist at IHS Global Insight.

Improved business optimism could lead to more investment and hiring. But consumers are still cautious, and the euro's rise will hurt exports, he noted.

Behravesh sees GDP shrinking 0.3% this year before rebounding to 0.6% growth next. But southern European states like Italy, Spain and Greece should continue contracting into 2014. France looks to remain stagnant as well.

"It's hard to see where growth is going to come from," he added.

More optimistic economists like Miller Tabak's Andrew Wilkinson also acknowledge Europe's recovery will be a long, uneven slog, with hopes resting on powerhouse Germany to stimulate demand elsewhere.

The ECB's pledge to keep bond yields down will spur more business investment, and surveys of purchasing managers should point to expanding activity again later this year, he predicted.

France Going South But Markit's initial readings on eurozone manufacturing and services slipped in February, indicating activity shrank faster.

The research firm warned of a widening schism between Europe's top two economies, with Germany rebounding in Q1 and France headed for a steeper downturn. The gap between the two was the widest since Markit's surveys began in 1998.

France is starting to resemble Europe's weak periphery more than "the now solitary-looking German 'core,'" Markit said.

The divergence could raise political tensions, making it harder to tackle problems in the periphery as well as hammer out accords for fiscal and banking unions, said Andrew Grantham of CIBC World Markets.

Meantime, Germany will hold an election in September that could spark more volatility, and a political scandal in Spain might worsen turmoil there.

The ECB's 2012 pledge calmed investors but masked underlying risks, Grantham said. "Markets are a little bit too optimistic."