Continued crisis in the eurozone including a recession shared with the UK, further nationalisation of banks, and Bund yields rising above 4% are among the predictions for next year served up by Ted Scott, director Global Strategy at F&C.

I have written similar notes in 2010 and 2011. The choices reflect my top down macro view of the UK and world economies as well as opinions on important and relevant issues such as the Euro sovereign debt crisis. Most importantly, they relate to the effect they are likely to have for asset markets, good or bad, and the hope is that they will provide some guidance for portfolio construction for the year ahead.

1. The Eurozone crisis moves closer to breakup

We are almost 2 years into the Eurozone debt crisis and it is like watching a slow motion car crash. The magnitude of the problem has grown due to a lack of decisive policy response that has, and continues to, characterise the crisis. The policy makers have throughout been reactive and the measures agreed have only been effective in addressing what has happened and not what needs to be done to find a sustainable solution for the future.

The crisis has now become so deeply embedded that a destructive negative feedback loop has been created that makes an effective solution much more difficult to achieve. Once the crisis spread from the smaller periphery countries to Spain and Italy, contagion immediately spread to the banking sector. Fears in the banks led them to try and preserve capital which in turn has created the conditions for a credit crunch and weak economic growth.

I continue to believe that the only way the crisis can be solved in the long term is through the binary outcomes of a full fiscal union or a break up of the Eurozone. Everything else that has been suggested, including QE by the ECB, is a form of sticking plaster, some larger and more effective than others. I expect that some form of monetisation by the ECB will be implemented, although this is likely to fall short of full QE as well as moves to greater, although not full, fiscal unity. As with all major policy announcements this will buy the Eurozone more time and lead to a temporary rally in risk assets (as we have seen with the coordinated central bank action recently). However, it is not a solution and only represents a more radical attempt to preserve the status quo which will ultimately fail.

Germany is in favour of a fuller fiscal union but while this could be sold to the German public as a quid pro quo it bankrolling the rest of the Eurozone and the loss of economic sovereignty would be unacceptable to other members of the EMU. Democracy has already been ridden roughshod by the EU authorities in order to implement the austerity programmes and the populations of the periphery countries, especially Greece, would not accept hegemony from Brussels. Therefore, the logical outcome could be some form of break up and this is what bond markets have increasingly been signalling. What shape this takes it is difficult to say but I do not expect Germany to abandon the Euro as some has suggested. I think, if it happens, it is more likely that a break up is effected which results in a core Eurozone of like minded economies centred on Germany. The challenge to the Eurozone and the rest of the world is to achieve this without triggering another major financial crisis.