WASHINGTON -- A Federal Reserve pullback of its economic stimulus efforts could reignite the European debt crisis as that region struggles to recover from its longest-ever recession, the International Monetary Fund warned.
In its annual assessment of the Eurozone economy, the IMF said the prospect that the Fed soon could scale back its monthly bond purchases has led to higher borrowing costs for European nations.
Even German bond yields, which have held steady during "previous bouts of stress," have increased, the IMF said.
Turbulence in global financial markets caused by the anticipated end of Fed stimulus policies "could lead to additional, and unhelpful, pro-cyclical increases in borrowing costs within the euro area," the IMF said Thursday.
"This could further complicate the conduct of monetary policy and potentially damage areawide demand and growth," the report said.
In addition, the IMF said "financial market stresses could also quickly reignite" because of high sovereign debt levels and stalled attempts by European officials to address the region's financial problems.
The result could be a "debt-deflation spiral" that could reduce Eurozone economic growth by about 4 percentage points by 2018 and push down global growth by 1 percentage point, the IMF said.
The unemployment rate in the 17-nation Eurozone was a record high 12.1% in May. The debt crisis helped push the region into a recession that has lasted six straight quarters through the first quarter of the year.
Conversely, the unemployment rate in the U.S. has been dropping as the economy continues to recover from the Great Recession. That has led Fed policymakers to consider reducing the $85 billion in monthly bond purchases designed to stimulate the economy.
Fed Chairman Ben S. Bernanke and other officials have strongly hinted the central bank could start reducing those purchases in September. Talk of such a reduction in recent weeks has roiled financial markets and led to interest rate increases.