- The global economy remains in a low-growth trap, but more active use of fiscal policy will raise growth modestly. Investment and trade are weak, weighing on drivers of consumption such as productivity and wages.
- Policy uncertainties and financial risks are high. But low interest rates create a window of opportunity
- Fiscal, structural, trade policies need to be interwoven for gains. Reducing trade costs raises growth but trade restrictions put jobs at risk. Expansionary fiscal initiatives to boost growth and reduce inequality would not impair fiscal sustainability. The success of fiscal initiatives depends on structural policy ambition.
- Collective action enables greater gains at lower political cost.
Extracts from editorial by OECD Chief Economist Catherine Mann[…] The projections in this Economic Outlook offer the prospect that fiscal initiatives could catalyse private economic activity and push the global economy to the modestly higher growth rate of around 3½ per cent by 2018. Durable exit from the low-growth trap depends on policy choices beyond those of the monetary authorities – that is, of fiscal and structural, including trade policies – as well as on concerted and effective implementation. Collective fiscal action undertaken by all countries, including a more expansionary stance than planned in many countries in Europe, would support domestic and global growth even for those economies, who by virtue of specific circumstances, need to consolidate their fiscal positions or pursue a more neutral stance. […] This Economic Outlook argues that the current conjuncture of extraordinarily accommodative monetary policy with very low interest rates opens a window of opportunity to deploy fiscal initiatives. Fiscal space has been created by lower interest payments on rolled-over debt, which also increases gauges of market access and of debt sustainability. On average, OECD economies could deploy deficit- financed fiscal initiatives for three to four years, while still leaving debt-to-GDP ratios unchanged in the long term. A front-loaded effort could allow deficit finance to taper sooner and put the debt-to-GDP ratio sustainably on a downward path.
The key is to deploy the right kind of fiscal initiatives that support demand in the short run and supply in the long run and address not just growth challenges but also inequality concerns. These include soft investments in education and R&D along with hard investment in public infrastructures. Such fiscal initiatives would improve outcomes for demand and supply potential even more for economies suffering from long-term unemployment, when undertaken collectively, and when fiscal initiatives are complemented by country-specific structural policies put together in a coherent package.[…] Against this backdrop of fiscal initiatives, reviving trade growth through better policies would help to push the global economy out of the low-growth trap, as well as support revived productivity growth. In this Economic Outlook trade growth is projected to increase from a dismal ratio of global trade-to-GDP growth of around 0.8 to be about on par with global output growth – remaining much less than the multiple of 2 enjoyed over the last few decades. This sluggish trade growth compared to historical experience shaves some 0.2 percentage point from total factor productivity growth – which may seem minor – but is meaningful given the slow productivity growth of some 0.5% per year during the post- crisis period.
Some argue that slowing globalization would temper the brunt of adjustments to workers and firms. This Economic Outlook suggests that protectionism and inevitable trade retaliation would offset much of the effects of the fiscal initiatives on domestic and global growth, raise prices, harm living standards, and leave countries in a worsened fiscal position. Trade protectionism shelters some jobs, but worsens prospects and lowers well- being for many others. In many OECD countries, more than 25% of jobs depend on foreign demand. Instead, policymakers need to implement the structural policy packages that create more job opportunities, increase business dynamism, promote successful reallocation and enhance policies to ensure that gains from trade are better shared. Fortunately, the country-specific policy packages that make fiscal initiatives more effective in promoting demand growth and supply potential also help to make growth more inclusive.
The transition path to a more balanced policy set and higher sustainable growth involves financial risks. But so too does the status quo dependence on extraordinary monetary policy. Pricing distortions in financial markets abound. Yield curves are still fairly flat, with negative interest rates. Pricing of credit risk has narrowed even as issuance of riskier bonds has increased. Real estate prices continue to advance in many markets, even in the face of attempted tempering by macro-prudential measures. Expectations in currency markets are on edge as evidenced by high measures of currency volatility. These financial distortions and risks expose vulnerable balance sheets of firms in emerging markets, and challenge bank profitability and the long-term stability of pension schemes in advanced economies.
The fiscal initiatives in conjunction with trade and structural policies, as outlined in the scenarios in this Economic Outlook, should revive expectations for faster and more inclusive growth, thus allowing monetary policy to move toward a more neutral stance in the United States at least, and possibly other countries as well. The risk of a growing divergence in monetary policy stances in the major economies over the next two years could be a new source of financial market tensions even as growth picks up, thus putting a premium on collective action by countries to revive growth in tandem.
In sum, policymakers should closely examine fiscal space; low interest rates enable many countries to boost hard and soft infrastructure and other growth-enhancing initiatives. Avoiding trade pitfalls, coupled with social measures to better share the gains from globalization and technological change, are key policy priorities. Using the window of opportunity created by monetary policy and following through on fiscal and structural measures should raise growth expectations and create the necessary momentum for the global economy to escape the low-growth trap.
Projections by country (country notes)
Remarks by OECD Secretary-General Angel Gurría
Global GDP growth in 2016 is projected to be no higher than in 2015, itself the slowest pace in the past five years, according to the latest OECD Interim Economic Outlook. The OECD projects that the global economy will grow by 3 percent this year and 3.3 percent in 2017, which is well below long-run averages of around 3¾ percent. This is also lower than would be expected during a recovery phase for advanced economies, and given the pace of growth that could be achieved by emerging economies in convergence mode.
The US will grow by 2 percent this year and by 2.2 percent in 2017, while the UK is projected to grow at 2.1 percent in 2016 and 2 percent in 2017. Canadian growth is projected at 1.4 percent this year and 2.2 percent in 2017, while Japan is projected to grow by 0.8 percent in 2016 and 0.6 percent in 2017.
The euro area is projected to grow at a 1.4 percent rate in 2016 and a 1.7 percent pace in 2017. Germany is forecast to grow by 1.3 percent in 2016 and 1.7 percent in 2017, France by 1.2 percent in 2016 and 1.5 percent in 2017, while Italy will see a 1 percent rate in 2016 and 1.4 percent rate in 2017.
With China expected to continue rebalancing its economy from manufacturing to services, growth is forecast at 6.5 percent in 2016 and 6.2 percent in 2017. India will continue to grow robustly, by 7.4 percent in 2016 and 7.3 percent in 2017. By contrast, Brazil’s economy is experiencing a deep recession and is expected to shrink by 4 percent this year and only to begin to emerge from the downturn next year.
Trade and investment remain weak. Sluggish demand is leading to low inflation and inadequate wage and employment growth.
Financial instability risks are substantial. Financial markets globally have been reassessing growth prospects, leading to falls in equity prices and higher market volatility. Some emerging markets are particularly vulnerable to sharp exchange rate movements and the effects of high domestic debt.
A stronger collective policy response is needed to strengthen demand. Monetary policy cannot work alone. Fiscal policy is now contractionary in many major economies. Structural reform momentum has slowed. All three levers of policy must be deployed more actively to create stronger and sustained growth. The recipe varies by country, especially with regard to needed structural reforms.
Real GDP growth to 2017
Before you shift over to springtime mode, take a moment to recall the wild weather that swept across North America earlier this winter. Powered by a “polar vortex,” freezing air and storms repeatedly swept across the continent, dumping deep piles of snow and stranding motorists in blizzards.
Something else may have been obscured by all those swirling snowflakes – the state of the economy. To explain, not only did the harsh weather make everyone’s life miserable, it also dragged down the economy in North America – shops were forced to close, flights were cancelled, people couldn’t get out of their homes. That, in turn, is reflected in the economic data for last quarter of 2013 and (probably) the first quarter of this year, which showed an unexpected dip.
But this winter blip looks to be masking what is otherwise a fairly rosy picture for major G7 developed economies, according to the OECD’s latest economic assessment. The assessment, released today, argues that economic growth in the G7, including, of course, Canada and the United States, is probably strengthening, despite fluctuations caused by the one-off winter weather (and the U.S. government slowdown in October) and an imminent tax revision in Japan.
There’s less encouraging news for the emerging economies. According to the OECD economists, a number of these economies are now experiencing a “marked loss of momentum”. As these economies now account for more than half of the world economy, that’s likely to curb global growth.
Source: Interim Economic Assessment, 11 March 2014.
Overall, then, first-half growth for the G7 economies looks set to be well up on the equivalent periods in 2012 and ’13. But, largely as a result of those one-offs, it’s likely to fall below second-half 2013 growth (although the OECD economists don’t rule out the possibility that this apparent dip in momentum may be due to more than just snow).
The performance of the Eurozone countries, however, continues to be spotty. Germany is doing well and is forecast to see annualised growth of 3.7% in the first quarter, but France will hover around 1% while Italy will be slightly under 1%. And while unemployment is showing encouraging signs of easing elsewhere, it’s showing little signs of improvement in the Eurozone.
What about the risks to all these forecasts? As we noted recently, the Great Recession highlighted failings in forecasting at the OECD and other international institutions. In response, forecasts now place a much greater emphasis on why they could be wrong, either because they’re too optimistic or too pessimistic.
On the positive side, the OECD economists are encouraged by signs that political tensions in Washington over government financing and the debt ceiling have eased, and by indications that Europe’s troubled banks are stabilising.
On the downside, and despite the progress so far of “Abenomics,” they’re concerned by the continuing challenges that Japan is facing from its huge public debt. The Eurozone, too, is not out of the woods, while China may be facing a risk of a “sharp slowdown”.
And, of course, there’s the continuing question of how emerging economies will respond to the slow return to normal monetary policy, especially in the U.S. The impact of the “taper” was clear in these economies both last year and in January, with currency weakness and falling prices for bonds and equities in a number of emerging economies. If these problems continue or worsen, that could be bad news for the global economy.
The latest economic forecasts from the OECD could be summed up in four words: More growth, more risks. The “more growth” part is perhaps the easiest to explain. According to OECD economists, the world economy should continue to strengthen its recovery over the next couple of years, albeit at a slower pace than in previous recoveries. The OECD is forecasting global growth of 2.7% for this year, rising to 3.6% for 2014 and 3.9% in 2015.
These numbers might look encouraging, but they’re down – by about half a percentage point – since the OECD’s last forecasts in May. That downward revision is due in large part to the slowing performance of the emerging economies, other than China.
Digging a little deeper, the OECD is forecasting a strengthening performance in both the United States and the euro zone, with the U.S. economy forecast to grow by 2.9% in 2014 (click on the map below for detailed data). The euro zone won’t be able to match that pace, but next year’s forecast expansion of 1% would certainly be welcome after several years of sluggish performance. By contrast, after racking up forecast growth of 1.8% this year, Japan’s pace of expansion is tipped to slow to 1.5% in 2014.
Disappointingly, the upturn in OECD economies may not do much to bring down unemployment. The jobless rate in OECD countries is projected to fall by only half a percentage point, to 7.4%, by the end of 2015, a slower decline than had been expected.
Of course, all these forecasts will only pan out if the world economy manages to avoid those risks we mentioned. Some of these will be all too familiar to regular readers of the blog, such as continued concerns over Europe’s banks. Others have emerged more recently – indeed, they’re responsible in large part for the OECD’s lowering of its growth forecasts.
The most notable, perhaps, is the increasing uncertainty over the emerging economies, other than China. Even though the emerging economies have stronger growth prospects than developed countries, they face a growing list of challenges, including less favourable demographics and diminishing opportunities for “catch-up” growth. Their vulnerability was highlighted over the summer when investors pulled out of emerging economies in expectation that the Federal Reserve, or U.S. central bank, would begin returning to the sort of “normal” monetary policies that were suspended in response to the financial crisis. In the event, that didn’t happen, but, as the latest OECD Economic Outlook points out, the turmoil that followed even discussion of it “revealed how sensitive some EMEs [emerging market economies] are to U.S. monetary policy.” For now, the situation in the emerging economies appears to have stabilised, but there must be concerns over what will happen when the U.S. does eventually change course on its monetary policy.
On a long list, two other risks are also worth noting briefly. The first concerns the political situation in the U.S., which has led to a series of showdowns between legislators and the executive. “The episode of budget brinkmanship in October 2013 has once again shaken global markets and harmed consumer confidence,” notes the Economic Outlook. To avoid a repeat, it says, “The debt ceiling needs to be scrapped and replaced by a credible long-term budgetary consolidation plan with solid political support.”
And then there’s the concern over the potential for deflation in the euro zone. To explain, prices tend to rise most of the time in developed countries – a process called inflation. By contrast, falling prices – or deflation – are much less common. If deflation kicks in, it can be very hard to turn it around – consumers may put off purchases in expectation of lower prices next month or next year, so reducing demand and creating a self-sustaining spiral. To reduce the risk of deflation taking hold, the European Central Bank cut interest rates earlier this month, which should boost demand. But, says the Economic Outlook, it should be prepared to take further measures if deflation risks intensify.
OECD Economic Outlook (2013, Vol. 2)
It wasn’t long after the financial crisis struck before people began talking about the road to recovery. Many years on, it turns out that there is no such road. Instead, there are roads – several of them – all leading OECD countries back, some more quickly than others, to modest growth.
Among the major OECD economies, the fastest recovery seems to be happening in the United States, according to the latest edition of the OECD Economic Outlook, released today. Revived confidence and repairs to the financial system are driving growth, and the number of people out of work is falling. By the end of next year, the OECD projects, the U.S. will economy will be growing year-on-year by 3.4%.
Taking a rather slower road to recovery is the Euro area, which is projected to see growth of just 1.8% by the end of 2014. That might not seem like much, but it’s an improvement on estimates for growth in the current quarter, which hover around zero. Europe continues to be weighed down by financial concerns and, of course, unemployment, which is still rising.
Here, the contrast with the performance of the U.S. is striking: The Outlook estimates unemployment in this current quarter stands at around 7.5% in the U.S. and 12% in the Euro zone. By the fourth quarter of next year, it projects that the figure for the U.S. will have fallen to 6.7%, while in Europe it will have risen to 12.3%.
Joblessness is less of a concern in Japan – where it’s currently estimated to stand at around 4.2% – but even that low level looks set to improve over the next 18 months as the government enacts substantial economic reform. The Outlook describes this policy shift as “welcome”, but it warns that the task of boosting sustainable growth, beating deflation and tackling the public debt will require a “delicate balancing act”.
Japan isn’t the only OECD country that will have to do some careful manoeuvring. It’s just one of a number of OECD governments that have used very low interest rates and other, more unconventional, measures to stimulate their economies. On the one hand, continuing with those measures indefinitely risks creating bubbles; on the other, ending them suddenly could provide an unwanted economic shock. Again, some delicate footwork will be required.
Nevertheless, and despite several other caveats, this edition of the Outlook offers a modestly upbeat outlook on the global economy, with growth seen as firming both in OECD and other major economies. As OECD Chief Economist Pier Carlo Padoan says in this video, “we remain convinced that there’s light at the end of this tunnel”.
If you’ve been following economic events over the past five years, the headline on this posting – which is also the opening line from the OECD’s latest Economic Outlook – won’t surprise you. In the wake of the financial crisis, a pattern has emerged: global recovery is weak, doesn’t last long, and soon gives way to a slowdown if not outright recession.
A major factor behind this latest slowdown is a loss of confidence, and that in turn is being fuelled in part by events on either side of the Atlantic. In Europe, despite progress in creating systems to shore up the euro, governments still have some way to go before finally fixing the single currency. In the United States, legislators have until only the end of next month to steer away from the “fiscal cliff”. Tipping over the edge would automatically raise taxes and cut government spending.
“If policymakers in the United States fail to reach agreement on tax hikes and spending cuts, they face a ‘fiscal cliff’ that could tip an already weak economy into recession,” warns Pier Carlo Padoan, the OECD’s Chief Economist in this video.
Assuming the US doesn’t go over the cliff, the OECD is forecasting that the American economy will grow by 2.0% in 2013, slightly down on this year’s estimated 2.2%. For Europe, it sees a contraction of 0.1%, a slight improvement on 2012’s estimated decline of 0.4%.
There’s brighter news in some of the emerging economies, where policy action such as investment in infrastructure and cuts in interest rates are helping to make up some of the slack caused by weakening global demand. After slowing to an estimated 7.5% this year – the lowest rate for a decade – China is forecast to see growth of 8.5% in 2013. India, which has been in an economic funk lately and saw growth slip to an estimated 4.4% in 2012, is tipped to rebound to 6.5% in 2013.
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There’s clear concern in the Economic Outlook that governments won’t act quickly or decisively enough to tackle some major challenges. This is particularly true of the problems in the euro area, which, says the OECD, remain “the greatest threats to the world economy” despite the steps taken so far by euro zone leaders. The OECD’s economists looked at what could happen if there was a substantial increase in the zone’s financial stresses, even without the exit of a euro member. In such a situation, they warn, Europe’s economy could contract by at least 2.2% in 2013 and by 4.2% in 2014, unemployment could rise by at least 2 percentage points and equity prices could drop by 40%.
There’s concern, too, about the rising toll of unemployment in OECD countries. Around 50 million people are jobless at the moment and that’s having a major social impact, including fuelling economic inequality. The push by many governments to get their finances back in order – through cuts in spending and increases in taxes – risks exacerbating the problem. But, as the OECD research shows, that needn’t be the case. For example, the OECD economists suggest, a government that chooses to raise income taxes rather than cutting down on income support for poorer families could actually narrow inequality. Critics, of course, would argue that such a move risks crimping long-term growth, and they may well be right. Nevertheless, the growing concern over inequality in many OECD countries means there may be more of an appetite for such actions than there was in the past.
It’s a big day here today, with French President François Hollande and senior ministers coming to find out what the heads of the OECD, World Bank, IMF, WTO and ILO have to say about the global economic outlook as well as the European and French economies. They’re discussing policies needed to return to growth, redress global imbalances, improve competitiveness and alleviate the social impact of the crisis.
We talked about the OECD’s views here in an article called “Doom and gloom” on the May interim global economic outlook. The main worry was that the euro area crisis is dragging down the rest of the world economy through its impacts on trade and business and consumer confidence. The World Bank agrees. Their Global Economic Prospects says that “resurgence of tensions in the Euro Area is a reminder that the after effects of the 2008/09 crisis have not yet played out fully. Financial market uncertainty and fiscal consolidation associated with the high deficits and debt levels of high-income countries are likely to be recurring sources of volatility for the foreseeable future as it will take years of concerted political and economic effort before debt to GDP levels of the United States, Japan and many Euro Area countries are brought down to sustainable levels.”
The World Bank’s sister organisation, the IMF supports its sibling, and the OECD. The Global Financial Stability Report (GFSR) says that “risks to financial stability have increased since the April 2012 GFSR, as confidence in the global financial system has become very fragile. Although significant new efforts by European policymakers have allayed investors’ biggest fears, the euro area crisis remains the principal source of concern.”
Austerity is among these efforts, but the OECD warned that although this is a medium-term policy designed to help public finances, it acts as a drag on short-term economic activity, and can even start a negative feedback loop whereby activity is weaker than expected when planning the budget, so less tax comes in and there is overspending, and then the need for more consolidation, which acts as a drag…
The ILO calls this the “austerity trap” in the latest World of Work Report, and outlines a similar vicious circle to the one the OECD described: “Austerity has, in fact, resulted in weaker economic growth, increased volatility and a worsening of banks’ balance sheets leading to a further contraction of credit, lower investment and, consequently, more job losses. Ironically, this has adversely affected government budgets, thus increasing the demands for further austerity.”
The ILO estimates that there is still a deficit of around 50 million jobs compared to the pre-crisis situation, and “It is unlikely that the world economy will grow at a sufficient pace over the next couple of years to both close the existing jobs deficit and provide employment for the over 80 million people expected to enter the labour market during this period.”
As you’ve no doubt noticed, there’s a general air of pessimism about these reports, and even the efforts that have been made to address the issues that caused the crisis in the first place don’t generate much enthusiasm. Financial sector reform for instance, leaves a lot to be desired according to the IMF, because although there has been some progress over the past five years, financial systems have not come much closer to being more transparent, less complex, and less leveraged. “They are still overly complex, with strong domestic interbank linkages, and concentrated, with the too-important-to-fail issues unresolved.”
Developing and emerging economies did comparatively better than the more developed economies during the crisis, but even there are worrying signs, with the World bank warning that in a new crisis no developing country would be spared, particularly those with strong reliance on worker remittances, tourism, commodities or those with high levels of short-term debt or medium-term financing requirements. Even without a full-blown crisis, elevated fiscal deficits and debts in high-income countries and their very loose monetary policies mean that the external environment for developing economies is likely to remain characterized by volatile capital flows and heightened investor uncertainty.
But let’s end of a positive note. The WTO’s figures reveal that world merchandise exports increased by 5% in 2011 in volume terms. The United States remains the world’s biggest trader (in value terms), with imports and exports totalling $3,746 billion in 2011. China and Germany rank second and third respectively. Exports of commercial services grew by 11% in value terms. The United States is the world’s largest trader, with $976 billion of services trade in 2011.
See you next year, if President Hollande’s suggestion to make this an annual event is adopted.