Recent developments in financial markets are helping to reduce imbalances
that have been of concern for some time, notably the earlier possible
overvaluations of both equity markets and the U.S. dollar. However, as
described in detail in the World Economic Outlook, these developments
are likely to have a negative effect on growth in most advanced economies
in the short run, in some cases (including the United States and United
Kingdom) partly offset by continued buoyant housing markets. The bursting
of the equity market bubble has caused stresses in specific financial
institutions, notably in Japan and Europe. However, as described in the
IMF's Global Financial Stability Report, the system as a whole
has remained resilient, in part because the flexibility and depth of markets
has allowed credit risk to be widely distributed. Nonetheless, uncertainties
have continued to rise, and financing conditions for higher risk borrowers
have become much more difficult.
Against this background, global growth is projected to rise to 2¾ percent
in 2002 and to 3¾ percent in 2003, underpinned by the turn in
the inventory cycle and continued accommodative macroeconomic policies
(Table). While the 2002 projection is the same as that in the April World
Economic Outlook, this entirely reflects stronger-than-expected first
quarter outturns in several regions; from the second quarter onward the
pace of the recovery is expected to be weaker than earlier anticipated,
reflecting the adverse developments described above.
- In the United States, the adverse impact of lower equity prices
will be offset in part by lower long term interest rates and the depreciation
of the dollar, as well as rising housing wealth. However, the upturn
will be considerably slower than earlier thought, and much depends on
the pace with which private investment picks up and on the resilience
of household consumption.
- Recent indicators in Japan suggest that the economy may be
bottoming out, aided by a pickup in net exports, and we expect a modest
rebound during the rest of 2002 and in 2003. However, domestic demand
remains very weak, and the outlook remains contingent on a further strengthening
in global activity.
- In the euro area, domestic demand has also proved weaker than
expected, especially in Germany and Italy, with the tepid recovery to
date driven largely by net exports. While rising household earnings,
lower inflation—partly as a result of the stronger euro—and improvements
in labor market performance over recent years should support demand
looking forward, much again depends on the external outlook.
In emerging market economies, the outlook has become increasingly
diverse. Key influences include the hesitant recovery in industrialized
economies; heightened risk aversion in international financial markets
and a retrenchment in capital flows, particularly to sub-investment grade
borrowers in Latin America; and significant economic and political uncertainties
in some major economies with large external financing requirements.
- The sharp deterioration of economic conditions in Latin America
over the past six months is of concern. The region's difficulties mainly
reflect circumstances and developments in individual countries, including
domestic political developments, spillover effects, and in some cases
concerns about policy sustainability. However, some regional economies
have been quite resilient to recent pressures, and investor sentiment
has improved somewhat in recent weeks, aided in part by support from
the Fund and steps to assure policy continuity.
- In contrast, growth in emerging Asia has picked up markedly,
with substantial improvements among countries most oriented to the information
technology sector, and relatively limited contagion from developments
in Latin America. While external developments remain key, there are
signs that domestic demand—initially strongest in China, India and
Korea—is now picking up more broadly. Rising intra-Asian
trade, including with China, is also contributing to regional stability
- Growth among countries in central and eastern Europe and in
the Commonwealth of Independent States has been relatively well
sustained during the global slowdown, with robust domestic demand—and
in some EU accession countries, strong inflows of foreign direct investment—offsetting
external weaknesses. GDP growth in Turkey has also exceeded expectations,
although political uncertainties and still high interest rates remain
sources of vulnerability.
- In the Middle East and Africa, commodity price developments
continue to have an important influence on conditions and prospects.
Energy exporting countries are clearly being helped by the recent strength
of oil prices, but this same strength—together with still low non-fuel
commodity prices—will adversely affect energy importers, including
many of the poorest countries. Growth in these regions is also being
held back by regional security concerns and conflicts; and the severe
drought in southern Africa is exacting a huge human and economic toll.
At the present juncture, the outlook remains subject to unusual uncertainty.
A faster-than-expected pickup is possible, for instance if productivity
growth in the United States were to surprise on the upside, but overall
the risks appear predominantly on the downside. In particular:
- The global outlook depends unduly heavily on the United States,
particularly since the pickup in Western Europe is not yet self
sustaining, and domestic demand in Japan is likely to be constrained
by structural problems for some time. Moreover, given the global impact
of economic and financial developments in the United States, downside
risks to the U.S. outlook imply downside risks to other regions.
- Oil prices could spike sharply if the security situation in the
Middle Eastern region deteriorates further. This would seriously
affect global activity, and increase the chance of other risks (including
those noted below) occurring.
- Financial markets remain volatile. While a considerable portion
of earlier irrational exuberance may now have been eliminated, markets
could decline further—particularly if more accounting scandals
were to emerge, or retail investors were to lose confidence.
- A number of emerging market economies remain particularly
vulnerable to a further retrenchment in risk taking. Risks facing
emerging market borrowers have increased in recent months, and would
be exacerbated by a further weakening of investor confidence and/or
additional slowing in the global recovery.
- The global imbalances remain a source of concern. While currency
movements so far have been orderly, the possibility of a sudden adjustment
cannot be ruled out.
Against this background, policymakers in both advanced economies and
developing countries will need to be vigilant. In my view, the main
policy priorities are the following:
- Macroeconomic policies in the large advanced economies will need
to remain accommodative for longer than had been anticipated earlier
in the year. If incoming data were to suggest that the recovery
were faltering, some further easing in monetary policy would likely
be needed in the United States and in the euro area, provided inflationary
pressures remain subdued in the United States and come down as expected
in Europe. In Japan, more aggressive monetary stimulus is needed, combined
with a public commitment to end deflation in the near future. On the
fiscal side, most countries have much less room for maneuver, and—while
the automatic stabilizers should be allowed to operate—medium-term
fiscal consolidation is the priority. However, if structural reforms
are accelerated in Japan—which should be a priority to build confidence—further
steps to contain the withdrawal of fiscal stimulus in prospect may be
- Among emerging market economies, policy priorities vary widely.
Where there is room for policy maneuver, the macroeconomic stance should,
in general, remain accommodative. But in countries facing external financing
difficulties, policies focused on the restoration of financial market
confidence should be the priority. Alongside the maintenance of appropriate
policies in industrial countries, this will also help reduce the risk
- Notwithstanding the increased short term risks, attention needs
increasingly to focus on medium-term policies to support growth and
reduce macroeconomic vulnerabilities:
► There is a pressing need in many advanced countries,
as well as in emerging market regions, to improve productivity and
potential growth. In addition to boosting overall living standards,
such improvements would strengthen countries' resilience to economic
shocks, better enable them to meet the impending economic and fiscal
challenges arising from aging populations, reduce global dependence
on U.S. growth, and foster an orderly reduction of global imbalances.
While reform priorities vary, further labor, product, and financial
market reforms are needed in the euro area to support economic adjustment
and to take full advantage of the scope for increased area-wide
efficiency and integration arising from the introduction of the
euro. In Japan and—for different reasons—emerging Asia,
prospects for sustained growth need to be supported by measures
to further strengthen banking and corporate sectors. In this regard,
forceful measures are needed in Japan to address the bad loan problem
and inadequate capital base of the banking sector.
► As recent experience has shown, transparency is not
just for developing countries. There is a clear need to strengthen
corporate governance and transparency in the United States and elsewhere,
including through effective implementation of recent reforms.
► A strengthening of medium-term fiscal positions is also
widely needed. In advanced economies, this would—along
with pension and health care reform—help prepare countries
to meet the aging challenge. And, especially in Latin America but
also increasingly in Asia, fiscal consolidation would help reduce
vulnerabilities arising from high levels of public debt. In many
cases, improving underlying fiscal positions would require structural
reforms to broaden tax bases, tighten spending control, and strengthen
public sector management more generally.
Finally, it is critical to remain focussed on the overarching goal
of poverty reduction. In this connection, it is encouraging that growth
in Africa, China and India—which account for the bulk of global
poverty—has remained relatively resilient during the global downturn.
That said, in Africa and India, growth rates remain well below those needed
to achieve the targeted degree of poverty reduction by 2015.
- In the poorest countries, the key requirement is to improve the
overall environment for investment and growth. It is particularly
important for these countries to strengthen their economic infrastructure
and main market institutions, and to improve the quality of governance.
I welcome the fact that the New Partnership for Africa's Development
(NEPAD) embraces these key priorities, and look forward to the sustained
implementation of this initiative.
- The international community must support such efforts through
additional financial and technical assistance, focussed on the poorest
countries. The G-8 Africa Action Plan announced in June, and the
increased aid commitments for countries that reform made at the Monterrey
summit, are welcome steps; and the HIPC Initiative is also making a
crucial contribution. But there is still a long way to go before aid
flows reach the U.N. target of 0.7 percent of advanced economies'
- Trade liberalization is even more important for promoting growth,
reducing poverty, and facilitating the diversification of the economies
of low income countries. Industrial country barriers impose significant
costs on the developing world (and on themselves), as the latest World
Economic Outlook underscores. This is not a one way street: developing
countries' own trade barriers impose even bigger costs on their economies.
But advanced economies, which are much better placed to manage the transitional
costs of restructuring, have a special responsibility to lead the way.
Following the regrettable intensification of protectionist pressures
earlier this year, I am encouraged that both the United States and the
European Commission have put forward proposals to reduce agricultural
protection. I look forward to early progress on this, and, more generally,
in multilateral trade negotiations in the context of the Doha round.