The eurozone thought it would escape the worst of the slump. It was wrong, says Ashley Seager

It wasn't supposed to be like this. As Britain and America suffered the inevitable consequences of falling house prices, frozen credit and massive consumer debt, the former plodders in the eurozone, with their preference for safe banking and greater reliance on manufacturing rather than services, would emerge relatively unscathed, said policymakers in France and Germany - at least until recently.

For the big surprise of recent months has not been that Britain and the US have plunged into deep recessions, but that most countries of the 16-member euro bloc have entered recession at the same time, and are looking every bit as sick, if not sicker, than the Anglo-Saxon economies.

Britain saw its economy, for example, slump by 1.5% in the fourth quarter of the year, the biggest fall since the early 1980s recession. But Germany, despite not having had a property boom or consumer debt binge, saw its economy contract even faster. The eurozone's biggest economy shrank by 2.1% in the three months to December, but was run a close second by Italy, which suffered a 1.8% drop in GDP. The French economy contracted by 1.2%, Spain by 1% and the eurozone as a whole by 1.5%.

Europe's manufacturers are being hurt by the severity of the global recession. Car sales have crashed and the Chinese have ceased buying Germany's machine tools. "Germany's problems are that we are export world champions and exports have slumped," says Professor Dennis Snower, head of the Kiel Institute for the World Economy. "And our Mittelstand [small and medium-sized businesses] are being crippled by a lack of credit." But he says Germany is not the worst affected nation: "Italy is really is the sick man of Europe."

Industrial production figures in the eurozone are grim. They fell by 2.6% in December alone and are down 12% from a year earlier, the biggest fall in the bloc's short history. Germany's fell a staggering 5% on the month as its exporters struggled with falling demand and a strong euro. The International Monetary Fund forecasts that Germany's GDP will fall even more this year than France's, Italy's or Spain's. The IMF thinks the eurozone will see a contraction of 2% in 2009 and flat growth in 2010, but many think that could prove highly optimistic.

Attention among economists has now moved from whether London is "Reykjavik-on-Thames" to whether the epithet of "the next Iceland" is more applicable to other countries. Germany is being called Reykjavik-on-the-Rhine and Ireland Reykjavik-on-Liffey. The joke goes that Ireland, whose property bubble has spectacularly burst, differs from Iceland only by one letter and six months.

The Mediterranean countries - Portugal, Italy, Greece and Spain - are now unkindly referred to as "the Pigs" because of their slumping economies and high public debt. Standard & Poor's has downgraded the sovereign debt rating of Spain, Portugal and Greece already.

Spain is suffering an economic collapse in spite of not allowing its banks to take excessive risks. Its tumbling house prices have dragged the construction sector into a huge recession and unemployment is surging.

Italy has the problem that, with public debt at 108% of GDP, it cannot embark on any meaningful fiscal stimulus for fear of pushing its debt higher still. With its economy having failed to adapt to the strictures of a single currency zone, it is hopelessly uncompetitive.

Part of the problem is the European Central Bank. It has been very slow in recognising the problem the bloc faces and has dragged its feet cutting interest rates, to the extent that it now looks way behind the curve with its key rate at 2%. The Federal Reserve and Bank of Japan are effectively at zero, while the Bank of England has cut rates to 1%.

ECB vice-president Lucas Papademos was in London last week and gave a hint the bank might cut rates again next month, but was still talking the language of "anchoring price expectations" at around 2%, even though inflation in the bloc is about to turn negative.

Some countries - Germany and France in particular - have belatedly launched economic stimulus packages in a bid to prevent unemployment, now on the rise everywhere, from rising too far. French president Nicolas Sarkozy has mocked Britain's VAT cut, preferring to encourage people to buy new, greener cars. But quite why people would want to buy a car if they have just lost their job, or fear they might do so, is not clear.

All the stresses and strains are showing up in the widening gap between yields on bonds issued by Germany (considered the safest bet) and those issued by, among others, Greece, Italy and Ireland, as markets fear that the danger of a sovereign default is growing.

Critics say this could all result in the break-up of the eurozone, or, at least, a country like Italy having to leave it. For now, that seems highly unlikely. But in this crisis, things that seem unlikely one month become the norm the next one.