## World Economic Outlook Update, July 2022 ## Source details **Canonical URL:** [World Economic Outlook Update, July 2022](https://www.imf.org/-/media/files/publications/weo/2022/update/july/english/text-en.pdf) ## Other formats - [Markdown version](/-/media/files/publications/weo/2022/update/july/english/text-en.pdf.md) - [Structured JSON version](/-/media/files/publications/weo/2022/update/july/english/text-en.pdf.json) --- ### Inflation dynamics - Headline inflation reached 9.1 percent in the United States in June and 9.1 percent in the United Kingdom in May—the highest inflation rates in these two countries in 40 years. - In the euro area, inflation in June reached 8.6 percent, its highest level since the inception of the monetary union. - In emerging market and developing economies, second-quarter inflation is estimated to have been 9.8 percent. - Drivers: higher food and energy prices, supply constraints across many sectors, and a rebalancing of demand back toward services. - Underlying inflation has also increased, as reflected in different gauges of core inflation, due to pass-through of cost pressures via supply chains and tight labor markets, especially in advanced economies. - Wage growth has on average not kept up with inflation across both advanced and emerging market and developing economies, eroding household purchasing power. - Long-term inflation expectations have been stable in most major economies, but some measures (including in the United States) show they have started to rise. ### Monetary policy and financial conditions - Central banks of major advanced economies are withdrawing monetary support more assertively and raising policy interest rates faster than expected in the April 2022 World Economic Outlook. - Central banks in several emerging market and developing economies have raised interest rates more aggressively than during past advanced-economy tightening cycles. - The rise in longer-term borrowing costs, including mortgage rates, and tighter global financial conditions have led to precipitous declines in equity prices, weighing on growth. - Public COVID-19 support packages have been wound down. ### China’s slowdown and supply-chain effects - COVID-19 outbreaks and mobility restrictions under the zero-COVID strategy have disrupted economic activity widely and severely. - Shanghai entered a strict lockdown in April 2022, forcing citywide economic activity to halt for about eight weeks. - In the second quarter, real GDP contracted sequentially by 2.6 percent, driven by lower consumption—the sharpest decline since Q1 2020 when it declined by 10.3 percent. - The worsening crisis in China’s property sector is dragging down sales and real estate investment. - Lockdowns added to global supply chain disruptions and the decline in domestic spending reduced demand for goods and services from China’s trade partners. ### War in Ukraine, energy, and food crises - Humanitarian cost: 9 million people have fled Ukraine since the Russian invasion started. - Since April 2022, major advanced economies placed additional financial sanctions on Russia; the European Union agreed on embargoes on imports of coal starting in August 2022 and on Russian seaborne oil starting in 2023. - The European Union announced it will block insuring and financing maritime transport of Russian oil to third countries by the end of 2022. - OPEC agreed to bring forward increases in oil supply planned for September, and the Group of Seven plans to study the possibility of introducing a price ceiling on Russian exports of crude oil—offsetting developments that leave the increase in international crude oil prices compared with last year only slightly lower than predicted in April 2022 WEO. - The flow of Russian pipeline gas to Europe has declined sharply to about 40 percent of the level a year ago, contributing to a steep increase in natural gas prices in June. - Russia’s economy is estimated to have contracted during the second quarter by less than previously projected, with crude oil and non-energy exports holding up better than expected; domestic demand shows some resilience. - European economies have been more negatively affected than expected due to higher energy prices, weaker consumer confidence, and slower manufacturing momentum from persistent supply chain disruptions and rising input costs. - Global food prices have stabilized in recent months but remain much higher than in 2021. - The principal driver of global food price inflation—particularly prices of cereal, such as wheat—has been the war in Ukraine; export restrictions in several countries have compounded price increases. - Low-income countries, especially those in sub-Saharan Africa already experiencing acute malnutrition and excess mortality before the war, have suffered particularly severe impacts. ### Downside risks and uncertainty - Baseline projections assume, among other things: no further unexpected reductions in flows of natural gas from Russia to the rest of Europe; long-term inflation expectations remain stable; and no disorderly adjustments in global financial markets as a result of disinflationary monetary policy tightening. - Measures of economic uncertainty and concerns about an oncoming recession have increased. - Probability of a recession starting in Group of Seven economies is estimated to be nearly 15 percent—four times its usual level—and nearer one in four in Germany. - For the United States, some indicators (e.g., the Federal Reserve Bank of Atlanta’s GDPNow) suggest a technical recession (two consecutive quarters of negative growth) may already have started. - The Update places unusually strong emphasis on an alternative scenario illustrating the impact of several downside risks that could plausibly materialize in the near term. ### Baseline scenario: growth, inflation, and trade projections - Global growth: 3.2 percent in 2022 and moderates to 2.9 percent in 2023; these are down by 0.4 and 0.7 percentage point, respectively, from the April 2022 WEO. - Revisions driven by downgrades for China, the United States, and India, reflecting: sharper slowdown in China from extended lockdowns; tightening global financial conditions; and spillovers from the war in Ukraine. - With growth near 3 percent in 2022–23, a decline in global GDP or global GDP per capita is not currently part of the baseline; fourth-quarter-over-fourth-quarter projections point to a significant weakening of activity in H2 2022. - Advanced economies: baseline growth in the United States is revised down by 1.4 percentage points in 2022 and 1.3 percentage points in 2023; euro area growth revised down by 0.2 percentage point in 2022 and by 1.1 percentage point in 2023. - Emerging market and developing economies: negative revisions mainly reflect China (downgrade of 1.1 percentage point to 3.3 percent in 2022) and India (revision down by 0.8 percentage point to 7.4 percent). - Regional notes: emerging and developing Asia baseline growth revision for 2022 is 0.8 percentage point downward; Latin America and the Caribbean revised up by 0.5 percentage point in 2022; emerging and developing Europe faces mixed revisions linked to Russian export developments. - Inflation (fourth-quarter-over-fourth-quarter): global inflation revised up to 8.3 percent in 2022 (from 6.9 percent in April 2022 WEO). - Advanced-economy inflation: expected to reach 6.3 percent in 2022 (up from 4.8 percent projected in April 2022 WEO); major contributors include the United Kingdom (upward revision to 10.5 percent, a 2.7 percentage point upward revision) and the euro area (upward revision to 7.3 percent, a 2.9 percentage point upward revision). - Forecasts for 2023: relatively unchanged—up by only 0.2 percentage point on a fourth-quarter-over-fourth-quarter basis—reflecting expected central bank tightening and negative energy price base effects. - Emerging market and developing economies inflation: expected to reach 10.0 percent in 2022 (fourth-quarter-over-fourth-quarter). - Inflation revisions vary: modest in emerging and developing Asia; larger in Latin America and the Caribbean (up by 3.0 percentage points) and emerging and developing Europe (up by 2.9 percentage points). - Global trade: expected to slow in 2022 and 2023 due to decline in global demand and supply chain problems. - The dollar appreciated in 2022—by about 5 percent in nominal effective terms as of June compared with December 2021—which is likely to have slowed world trade growth and had negative financial balance sheet effects on demand and imports in countries with dollar-denominated liabilities. ### 2.2 Downside Risks — key elements - War in Ukraine and energy supply shocks: - The amount of Russian pipeline gas supplied to Europe has fallen sharply, to about 40 percent of last year’s level. - Baseline expects further decline to low levels by mid-2024, in line with major European economies’ energy independence goals. - A complete cessation of exports of Russian gas to European economies in 2022 would significantly increase inflation worldwide, potentially force energy rationing in Europe, and sharply reduce growth in the euro area in 2022 and 2023 with negative spillovers. - Inflation risks and potential for stagflation: - Inflation generally expected to return to near pre-pandemic levels by the end of 2024. - Downside factors that could sustain or raise inflation and longer-term expectations include further supply-related shocks to food and energy prices, labor market tightness, and potential wage-price spirals. - Disinflation risks and recession prospects: - The exact amount of tightening required to lower inflation without inducing a recession is difficult to ascertain. - United States example: latest forecasts show real GDP growth of only 0.6 percent in the fourth quarter of 2023 on a year-over-year basis. - Tighter financial conditions can contribute to divergence in borrowing rates and risk of “financial fragmentation” in the euro area. - Tighter global financial conditions and debt distress: - 60 percent of low-income countries are in or at high risk of government debt distress. - Emerging market bond spreads have been rising; widespread capital flight could amplify debt distress risk. - China’s slowdown and spillovers: - Baseline: recovery from lockdowns in H2 2022, GDP growth at 3.3 percent in 2022 and 4.6 percent in 2023. - Upside risks include material fiscal support and recalibration of zero-COVID strategy; downside risks include larger outbreaks and a deeper property-sector crisis. - Rising food and energy prices, social hardship, and unrest: - Higher food and energy prices are robust predictors of unrest; risks could be allayed by easing logistic hurdles such as the Black Sea blockade. - Risk of global economic fragmentation: - A medium-term risk is fragmentation into geopolitical blocs with distinct technology standards, cross-border payment systems, and reserve currencies; to date evidence of reshoring is limited. ### 2.3 Quantitative Impact: Global Alternative Scenario - Scenario shocks analyzed: - Russian oil exports drop by a further 30 percent relative to the baseline, starting in the second half of 2022. - Russian gas exports to Europe decline to zero by the end of 2022. - Inflation expectations remain more persistently elevated. - Financial conditions tighten, pushing up sovereign and corporate risk and term premiums. - Macroeconomic impacts (global): - Global growth would fall by about 0.6 percentage point and 0.9 percentage point in 2022 and 2023, respectively, compared with the baseline, to about 2.6 percent and 2.0 percent in 2022 and 2023, respectively. - Direct impact of fossil fuel restrictions would account for about two-fifths of the total decline in GDP compared with the baseline (1.5 percent by 2023). - Increased inflation expectations and tighter financial conditions would be responsible for roughly another third and quarter each, respectively, of the GDP decline. - The reduction in the global oil supply would push prices up by about 30 percent. - For gas, prices would spike by almost 200 percent. - Short-term: direct effect of higher prices and inflation expectations would raise inflation by about 1 percentage point; subsequently, lower demand and tighter financial conditions would mitigate the inflationary impact in 2023 and beyond. - Regional impact: Europe: - 2023 growth in the European Union would be 1.3 percentage points lower than in the baseline, implying near-zero regional growth. - There is considerable uncertainty; impacts could be especially large in central and eastern European countries dependent on Russian gas. ### Policy priorities — restoring price stability while protecting the vulnerable - Main priority: bring inflation under control; price stability is a precondition for durable growth and financial stability. - Monetary policy: - Economies with persistently elevated underlying inflation and inflation expectations need decisive action to tighten monetary policy, with central banks shrinking their balance sheets and raising real interest rates. - Near-term costs: lower real activity, higher unemployment, and lower wages—hitting low-wage, precariously employed, and low-savings households hardest. - Gradualist tightening to protect vulnerable groups is likely counterproductive; restoring low and stable inflation before expectations unanchor is prioritized. - Fiscal policy during disinflation: - Cushion the most vulnerable via targeted and temporary fiscal transfers; use automatic stabilizers where possible. - Fiscal changes should be budget neutral (at a minimum) in cyclically adjusted terms and set within a credible medium-term fiscal framework consistent with debt sustainability. - Public sector pay restraint can ease inflation pressure; policies to directly limit private-sector prices and wages should generally be avoided. - Structural reforms: - Expand aggregate supply: increase labor supply through higher earned income tax credits, more funding for childcare, enhanced access to COVID-19 vaccinations and treatment, and reform of immigration pathways. - In emerging market and developing economies: improve business environment, invest in green projects, and accelerate digitalization. ### Policy priorities — preparing for tighter credit and financial instability - Financial institutions: macroprudential tools may be warranted where bank exposures rise; efficient bankruptcy proceedings and resolution frameworks are valuable. - Sovereign risk: higher interest rates and lower tax revenues will push some sovereign borrowers into debt distress; improvements to the implementation of the G20 Common Framework are urgently needed for speedy restructurings. - Multilateral support: prompt and reliable access to reserve currency liquidity—including through IMF precautionary and disbursing arrangements—gives countries breathing room. - Exchange rate and capital flow tools: be ready to act through foreign exchange interventions or capital flow management measures in a crisis. - Debt composition: preemptively reduce reliance on foreign currency borrowing where debt levels are high. - Euro area: address risk of financial fragmentation through a well-designed European Central Bank antifragmentation instrument, complementing Outright Monetary Transactions and the European Stability Mechanism’s lending program—while avoiding market distortions. ### Policy priorities — tackling the food and energy crises - Ending the invasion of Ukraine and the Black Sea blockade would increase commodity supply to global markets. - Governments should not hoard food and energy; unwind barriers to trade such as food export bans. - Allow prices to move freely; use high prices as signals to encourage conservation and production. - Avoid blanket price controls and universal subsidies; instead: - Use targeted cash transfers to low-income and at-risk groups (such as children and older people). - Expand existing efficient safety-net programs by increasing benefit levels and coverage where needed. - Gradually pass international prices through to consumers while committing to eliminating subsidies in coming years. - When food security is at stake and all other options exhausted, consider temporary measures such as price subsidies or direct distribution of staple foods. - Support to energy-dependent firms: temporary subsidized or partially guaranteed loans with risk sharing with private banks can prevent firm failures and preserve supply chains. ### Policy priorities — warding off pandemic risks while limiting economic disruptions - COVID-19 remains a concern: about 130 countries did not reach the IMF pandemic proposal’s mid-2022 vaccination target of 70 percent. - Universal vaccination is the best shield against persistent health-related absenteeism and further variants; back vaccination with public campaigns. - Intensify efforts to resolve vaccine supply and distribution bottlenecks and ensure equitable access to treatment. - Public support for better systematic epidemic responses and research into new vaccine technologies, including a more widely effective pan-coronavirus vaccine, remains essential. ### Policy priorities — facilitating transition to a low-carbon economy - Urgent multilateral action is needed to mitigate climate change. - Gas and coal use as stopgaps in response to energy shortages should be temporary and limited to energy shortfalls, not increase emissions overall. - Accelerate credible and comprehensive climate policies to increase green energy supply and facilitate investment in renewables. - Fiscal policy should smooth transition costs for households and firms affected by decarbonization. - The IMF Resilience and Sustainability Trust can help countries build resilience to longer-term structural challenges, including climate change and pandemic preparedness. ### Global financial conditions update (selected findings) - Global financial conditions have tightened sharply since the April 2022 Global Financial Stability Report. - Conditions are now near the March 2020 peak of tightness in emerging markets, but have retraced only to long-term average levels in advanced economies. - Drivers in advanced economies: higher interest rates and lower corporate valuations; market volatility high and liquidity exceptionally poor in fixed-income and equity markets. - Crypto assets: dramatic sell-off with large losses in crypto investment vehicles and failures of algorithmic stablecoins and crypto hedge funds; limited spillovers so far to the broader financial system. - Sovereign bond yields in advanced economies have risen sharply following aggressive central bank action to tame persistent inflation; market-implied expected path of policy rates has shifted higher since April 2022. - Real rates rising have been the key driver of higher bond yields; longer-term inflation expectations (five-year, five-year-forward horizon) have remained relatively steady at elevated levels. - Investor risk appetite has deteriorated significantly; equity prices have fallen sharply, with high-valuation sectors incurring steep drops. - Advanced economy corporate bond spreads have widened to two-year highs; corporate bond yields have surged to the highest levels since the global financial crisis. - Emerging market pressures and issuance: - Spreads of below-investment-grade issuers have risen by 104 basis points since April. - About one-third of emerging market borrowers now have bonds trading with yields in excess of 10 percent, a post-global-financial-crisis high. - Hard-currency issuance is running at its slowest pace since 2015 and down more than 40 percent from 2021. - Portfolio flows to local currency bonds and equities have remained under notable pressure with considerable country heterogeneity. *International Monetary Fund, World Economic Outlook Update, July 2022* ### 9.1 percent in June, compared with a year earlier, and ### 9.1 percent in June, compared with a year earlier, and ### Inflation dynamics - Headline inflation reached 9.1 percent in the United States in June and 9.1 percent in the United Kingdom in May—the highest inflation rates in these two countries in 40 years. - In the euro area, inflation in June reached 8.6 percent, its highest level since the inception of the monetary union. - In emerging market and developing economies, second-quarter inflation is estimated to have been 9.8 percent. - Drivers: higher food and energy prices, supply constraints across many sectors, and a rebalancing of demand back toward services. - Underlying inflation has also increased, as reflected in different gauges of core inflation, due to pass-through of cost pressures via supply chains and tight labor markets, especially in advanced economies. - Wage growth has on average not kept up with inflation across both advanced and emerging market and developing economies, eroding household purchasing power. - Long-term inflation expectations have been stable in most major economies, but some measures (including in the United States) show they have started to rise. ### Monetary policy and financial conditions - Central banks of major advanced economies are withdrawing monetary support more assertively and raising policy interest rates faster than expected in the April 2022 World Economic Outlook. - Central banks in several emerging market and developing economies have raised interest rates more aggressively than during past advanced-economy tightening cycles. - The rise in longer-term borrowing costs, including mortgage rates, and tighter global financial conditions have led to precipitous declines in equity prices, weighing on growth. - Public COVID-19 support packages have been wound down. ### China’s slowdown and supply-chain effects - COVID-19 outbreaks and mobility restrictions under the zero-COVID strategy have disrupted economic activity widely and severely. - Shanghai entered a strict lockdown in April 2022, forcing citywide economic activity to halt for about eight weeks. - In the second quarter, real GDP contracted sequentially by 2.6 percent, driven by lower consumption—the sharpest decline since Q1 2020 when it declined by 10.3 percent. - The worsening crisis in China’s property sector is dragging down sales and real estate investment. - Lockdowns added to global supply chain disruptions and the decline in domestic spending reduced demand for goods and services from China’s trade partners. ### War in Ukraine, energy, and food crises - Humanitarian cost: 9 million people have fled Ukraine since the Russian invasion started. - Since April 2022, major advanced economies placed additional financial sanctions on Russia; the European Union agreed on embargoes on imports of coal starting in August 2022 and on Russian seaborne oil starting in 2023. - The European Union announced it will block insuring and financing maritime transport of Russian oil to third countries by the end of 2022. - OPEC agreed to bring forward increases in oil supply planned for September, and the Group of Seven plans to study the possibility of introducing a price ceiling on Russian exports of crude oil—offsetting developments that leave the increase in international crude oil prices compared with last year only slightly lower than predicted in April 2022 WEO. - The flow of Russian pipeline gas to Europe has declined sharply to about 40 percent of the level a year ago, contributing to a steep increase in natural gas prices in June. - Russia’s economy is estimated to have contracted during the second quarter by less than previously projected, with crude oil and non-energy exports holding up better than expected; domestic demand shows some resilience. - European economies have been more negatively affected than expected due to higher energy prices, weaker consumer confidence, and slower manufacturing momentum from persistent supply chain disruptions and rising input costs. - Global food prices have stabilized in recent months but remain much higher than in 2021. - The principal driver of global food price inflation—particularly prices of cereal, such as wheat—has been the war in Ukraine; export restrictions in several countries have compounded price increases. - Low-income countries, especially those in sub-Saharan Africa already experiencing acute malnutrition and excess mortality before the war, have suffered particularly severe impacts. ### Downside risks and uncertainty - Baseline projections assume, among other things: no further unexpected reductions in flows of natural gas from Russia to the rest of Europe; long-term inflation expectations remain stable; and no disorderly adjustments in global financial markets as a result of disinflationary monetary policy tightening. - Measures of economic uncertainty and concerns about an oncoming recession have increased. - Probability of a recession starting in Group of Seven economies is estimated to be nearly 15 percent—four times its usual level—and nearer one in four in Germany. - For the United States, some indicators (e.g., the Federal Reserve Bank of Atlanta’s GDPNow) suggest a technical recession (two consecutive quarters of negative growth) may already have started. - The Update places unusually strong emphasis on an alternative scenario illustrating the impact of several downside risks that could plausibly materialize in the near term. ### Baseline scenario: growth, inflation, and trade projections - Global growth: 3.2 percent in 2022 and moderates to 2.9 percent in 2023; these are down by 0.4 and 0.7 percentage point, respectively, from the April 2022 WEO. - Revisions driven by downgrades for China, the United States, and India, reflecting: sharper slowdown in China from extended lockdowns; tightening global financial conditions; and spillovers from the war in Ukraine. - With growth near 3 percent in 2022–23, a decline in global GDP or global GDP per capita is not currently part of the baseline; fourth-quarter-over-fourth-quarter projections point to a significant weakening of activity in H2 2022. - Advanced economies: baseline growth in the United States is revised down by 1.4 percentage points in 2022 and 1.3 percentage points in 2023; euro area growth revised down by 0.2 percentage point in 2022 and by 1.1 percentage point in 2023. - Emerging market and developing economies: negative revisions mainly reflect China (downgrade of 1.1 percentage point to 3.3 percent in 2022) and India (revision down by 0.8 percentage point to 7.4 percent). - Regional notes: emerging and developing Asia baseline growth revision for 2022 is 0.8 percentage point downward; Latin America and the Caribbean revised up by 0.5 percentage point in 2022; emerging and developing Europe faces mixed revisions linked to Russian export developments. - Inflation (fourth-quarter-over-fourth-quarter): global inflation revised up to 8.3 percent in 2022 (from 6.9 percent in April 2022 WEO). - Advanced-economy inflation: expected to reach 6.3 percent in 2022 (up from 4.8 percent projected in April 2022 WEO); major contributors include the United Kingdom (upward revision to 10.5 percent, a 2.7 percentage point upward revision) and the euro area (upward revision to 7.3 percent, a 2.9 percentage point upward revision). - Forecasts for 2023: relatively unchanged—up by only 0.2 percentage point on a fourth-quarter-over-fourth-quarter basis—reflecting expected central bank tightening and negative energy price base effects. - Emerging market and developing economies inflation: expected to reach 10.0 percent in 2022 (fourth-quarter-over-fourth-quarter). - Inflation revisions vary: modest in emerging and developing Asia; larger in Latin America and the Caribbean (up by 3.0 percentage points) and emerging and developing Europe (up by 2.9 percentage points). - Global trade: expected to slow in 2022 and 2023 due to decline in global demand and supply chain problems. - The dollar appreciated in 2022—by about 5 percent in nominal effective terms as of June compared with December 2021—which is likely to have slowed world trade growth and had negative financial balance sheet effects on demand and imports in countries with dollar-denominated liabilities. *International Monetary Fund, World Economic Outlook Update, July 2022* ### 2.2 Downside Risks ### 2.2 Downside Risks ### War in Ukraine and energy supply shocks - The war in Ukraine further raises energy prices. - Since April 2022, the amount of Russian pipeline gas supplied to Europe has fallen sharply, to about 40 percent of last year’s level. - The latest baseline forecasts incorporate the expectation that the volume will decline further to low levels by mid-2024, in line with major European economies’ energy independence goals. - There is much uncertainty around the levels of gas supplies during 2022 and 2023. - A complete cessation of exports of Russian gas to European economies in 2022 would: - significantly increase inflation worldwide through higher energy prices; - in Europe, potentially force energy rationing, affecting major industrial sectors; - sharply reduce growth in the euro area in 2022 and 2023, with negative cross-border spillovers. ### Inflation risks and the potential for stagflation - Inflation remains stubbornly high; inflation is generally expected to return to near pre-pandemic levels by the end of 2024. - Downside factors that could sustain or raise inflation and longer-term expectations: - Further supply-related shocks to food and energy prices from the war in Ukraine could sharply increase headline inflation and pass through to core inflation, triggering further tightening in monetary policy. - If sufficiently severe, such shocks could cause a combination of recession accompanied by high and rising inflation (“stagflation”), although this is not part of the baseline scenario. - Labor market tightness is historically high in several economies, increasing the risk that workers demand compensation for past increases in the cost of living. - Firms may absorb higher labor costs by reducing profit margins where price increases preceded wage inflation or where firms have monopsony power; if they cannot, this could cause even higher inflation and risk triggering a wage-price spiral. - Policymakers could underestimate the degree of labor market tightness and its impact on inflation or tighten policies insufficiently, failing to prevent unanchoring of long-term inflation expectations. - Prices may have become more sensitive to changes in demand if the relevant part of the supply curve is inelastic, raising the risk that a rapid increase in inflation may be followed by an equally sudden decline if policy tightens too much. ### Disinflation risks and recession prospects - Major central banks have responded to high inflation by raising interest rates, but the exact amount of tightening required to lower inflation without inducing a recession is difficult to ascertain. - Factors affecting the economic cost of disinflation include: - the initial level of inflation and inflation expectations; - wage and price rigidities; - how much prices and wages respond to a fall in demand; - the stance of fiscal policy. - If the evolution of these factors surprises policymakers, or if they misjudge the appropriate policy stance—including the level of neutral interest rates—the coming disinflation adjustment could be more disruptive than currently expected. - Historical context and current differences: - Past disinflation episodes associated with monetary policy tightening (for example, advanced economies in the early 1980s) were often costly, with high unemployment the price of taming inflation. - This time, lower starting inflation, lower and better-anchored inflation expectations, and greater flexibility of labor and product markets in advanced economies suggest costs may be lower. - However, higher sovereign and corporate leverage may amplify the effects of policy tightening and influence the willingness of central banks to act decisively, with potentially higher medium-term output costs if inflation expectations rise significantly, prompting sharper interest rate hikes. - The risk of recession is particularly prominent in 2023 because: - in several economies growth is expected to bottom out; - household savings accumulated during the pandemic will have declined; - even small shocks could cause economies to stall. - Example: According to the latest forecasts, the United States will have real GDP growth of only 0.6 percent in the fourth quarter of 2023 on a year-over-year basis, which will make it increasingly challenging to avoid a recession. - In a number of advanced economies, rising interest rates combined with low growth will worsen debt dynamics and increase sovereign and corporate spreads, especially in high-debt countries. - Tighter financial conditions are already contributing to a divergence in borrowing rates and concerns regarding the risk of “financial fragmentation” in the euro area, potentially impairing the transmission of monetary policy. ### Tighter global financial conditions and debt distress - As advanced economy central banks raise interest rates to fight inflation, financial conditions worldwide will continue to tighten. - Consequences of tighter global financial conditions: - increase in borrowing costs globally; - without correspondingly tighter domestic monetary policies, pressure on international reserves and depreciation versus the dollar; - balance sheet valuation losses among economies with dollar-denominated net liabilities. - These challenges occur when government financial positions in many countries are already stretched, implying less room for fiscal policy support. - 60 percent of low-income countries are in or at high risk of government debt distress (debt restructuring or accumulation of arrears)––up from about one-fifth a decade ago. - Widespread capital flight from emerging market and developing economies could amplify debt distress risk. - Emerging market bond spreads have already been rising. - Historical parallels and differences with the 1970s/early 1980s: - Rising borrowing costs combined with high inflation and slowing growth have prompted comparisons to the 1970s and early 1980s. - Differences that mitigate some risks today: - the real oil price rise is smaller in the current case, and global production is now less dependent on oil; - policy tightening began earlier in this episode, including in some emerging market and developing economies, where policy frameworks are generally more robust; - there has been less time for recycled petrodollars to drive imbalances in emerging market and developing economies this time. - New vulnerabilities remain: increased exposure to other large bilateral creditors and the recent pandemic have driven up public debt and eroded future potential growth in many countries. ### China’s slowdown and spillovers - Baseline forecast: recovery from lockdowns in the second half of 2022, with overall GDP growth at 3.3 percent in 2022 and 4.6 percent in 2023. - Upside risks to growth: - announcements of material fiscal support; - a recalibration of the authorities’ zero-COVID strategy to reduce growth trade-offs, building on the campaign to ramp up the rollout of booster shots. - Downside risks to growth: - larger-scale outbreaks of more contagious virus variants that trigger further widespread lockdowns under the zero-COVID strategy; - delayed price and balance sheet adjustments in the property sector causing a sudden, wider crisis or a protracted adjustment with broader macro-financial spillovers. - A sustained slowdown in China would have strong global spillovers whose nature depends on the balance of supply and demand factors: - further tightening of supply bottlenecks could cause higher consumer goods prices worldwide; - lower demand might ease commodity pressures and intermediate goods inflation. ### Rising food and energy prices, social hardship, and unrest - Rising food and energy prices cause widespread hardship, famine, and unrest because these goods are essential with few substitutes. - Households find it particularly painful to cut spending on food, heating, and transportation, which are often essential to earn a living. - The current situation poses a threat to economic and social stability. - Unrest has been rising since the end of the acute phase of the pandemic, consistent with IMF research indicating: - unrest is lower during pandemics; - higher food and energy prices are robust predictors of unrest. - Although unrest will not necessarily ensue, the link between prices and social stability means that further barriers to trade, or a poor harvest due to extreme heat and fertilizer shortages, risk causing further hardship, famine, or unrest. - These risks could be allayed by easing logistic hurdles brought about by the invasion of Ukraine, including the Black Sea blockade. ### Risk of global economic fragmentation - A serious medium-term risk is that the war in Ukraine will contribute to fragmentation of the world economy into geopolitical blocs with distinct technology standards, cross-border payment systems, and reserve currencies. - To date, evidence of reshoring is limited, and global trade has been more resilient than expected since the start of the pandemic. - Fragmentation may also diminish the effectiveness of multilateral cooperation to address climate change, with the further risk that the current food crisis could become the norm. *Source: 2.2 Downside Risks (WORLD ECONOMIC OUTLOOK UPDATE, JULY 2022)* ### 2.3 Quantitative Impact: Global Alternative Scenario ### 2.3 Quantitative Impact: Global Alternative Scenario ### Scenario shocks analyzed - Increasingly tight sanctions in response to the Russian invasion of Ukraine cause Russian oil exports to drop by a further 30 percent relative to the baseline, starting in the second half of 2022. - Russian gas exports to Europe decline to zero by the end of 2022, either because European countries prohibit imports or because Russia curtails supply. - Inflation expectations remain more persistently elevated. - Financial conditions tighten, as a result both of policymakers’ responses to higher inflation and of investors’ concerns, pushing up sovereign and corporate risk and term premiums. ### Macroeconomic impacts (global) - Global growth would fall by about 0.6 percentage point and 0.9 percentage point in 2022 and 2023, respectively, compared with the baseline projection, to about 2.6 percent and 2.0 percent in 2022 and 2023, respectively. - Such low annual growth has occurred only rarely in the past (on only five occasions since 1970 has global growth been lower than 2 percent). - The direct impact of fossil fuel restrictions would account for about two-fifths of the total decline in GDP compared with the baseline (1.5 percent by 2023). - Increased inflation expectations and tighter financial conditions would be responsible for roughly another third and quarter each, respectively, of the GDP decline. - The reduction in the global oil supply would push prices up by about 30 percent. - For gas, prices would spike by almost 200 percent. - The impact on consumer price inflation: - In the short term, the direct effect of higher prices and inflation expectations would raise inflation by about 1 percentage point. - Subsequently, lower demand and tighter financial conditions would dominate, mitigating the inflationary impact in 2023 and beyond. ### Regional impact: Europe - Europe would be particularly affected: 2023 growth in the European Union would be 1.3 percentage points lower than in the baseline, implying near-zero regional growth. - Note on uncertainty: There is considerable uncertainty around the GDP impact of a Russian natural gas shutoff for Europe. It could be especially large in a number of European countries in central and eastern Europe, where imports of Russian gas account for a significant share of energy consumption and where infrastructure constraints would prevent sufficient non-Russian (mainly liquefied natural gas) imports in the near term. ### Policy priorities — restoring price stability while protecting the vulnerable - Main priority: bring inflation under control; price stability is a precondition for durable growth in economic well-being and financial stability. - Monetary policy: - Economies with persistently elevated underlying inflation and inflation expectations need decisive action to tighten monetary policy, with central banks shrinking their balance sheets and raising real interest rates. - Near-term costs: lower real activity, higher unemployment, and lower wages—hitting low-wage, precariously employed, and low-savings households hardest. - Gradualist tightening to protect vulnerable groups is likely counterproductive; restoring low and stable inflation before expectations unanchor is prioritized. - Fiscal policy during disinflation: - Cushion the most vulnerable via targeted and temporary fiscal transfers; use automatic stabilizers where possible. - Fiscal changes should be budget neutral (at a minimum) in cyclically adjusted terms and set within a credible medium-term fiscal framework consistent with debt sustainability. - Public sector pay restraint can ease inflation pressure; policies to directly limit private-sector prices and wages should generally be avoided. - Structural reforms: - Expand aggregate supply to help tackle inflation, though effects are unlikely to be quick. - Examples: increase labor supply through higher earned income tax credits, more funding for childcare, enhanced access to COVID-19 vaccinations and treatment, and reform of immigration pathways. - In emerging market and developing economies: improve business environment, invest in green projects, and accelerate digitalization. ### Policy priorities — preparing for tighter credit and financial instability - Tighter monetary conditions affect capital markets and require multi-front policy responses. - Financial institutions: benefit from higher net income but face losses as loan origination declines and default rates rise; macroprudential tools may be warranted where bank exposures rise. - Corporate failures become more likely; efficient bankruptcy proceedings and resolution frameworks are particularly valuable. - Sovereign risk: higher interest rates and lower tax revenues will push some sovereign borrowers into debt distress; improvements to the implementation of the G20 Common Framework are urgently needed for speedy restructurings. - Multilateral support: the role of multilateral institutions is likely to increase; prompt and reliable access to reserve currency liquidity—including through IMF precautionary and disbursing arrangements—gives countries breathing room. - Exchange rate and capital flow tools: where external shocks cannot be absorbed by flexible exchange rates alone, policymakers should be ready to act through foreign exchange interventions or capital flow management measures in a crisis. - Debt composition: where debt levels are high, governments should preemptively reduce reliance on foreign currency borrowing. - Euro area: addressing the risk of financial fragmentation through a well-designed European Central Bank antifragmentation instrument is warranted, complementing Outright Monetary Transactions and the European Stability Mechanism’s lending program—while avoiding market distortions that obscure fundamental risks. ### Policy priorities — tackling the food and energy crises - Ending the invasion of Ukraine and the Black Sea blockade would increase commodity supply to global markets. - Governments should not hoard food and energy; they should unwind barriers to trade such as food export bans that drive world prices higher. - WTO action: WTO members acted to exempt World Food Program purchases from export restrictions at the 12th WTO Ministerial Conference in June 2022. - Allow prices to move freely; use high prices as signals to encourage conservation and production. - Avoid blanket price controls and universal subsidies; instead: - Use targeted cash transfers to low-income and at-risk groups (such as children and older people). - Expand existing efficient safety-net programs by increasing benefit levels and coverage where needed. - Gradually pass international prices through to consumers while committing to eliminating subsidies in coming years. - When food security is at stake and all other options exhausted, consider temporary measures such as price subsidies or direct distribution of staple foods. - Support to energy-dependent firms: temporary subsidized or partially guaranteed loans with risk sharing with private banks can prevent firm failures and preserve supply chains. ### Policy priorities — warding off pandemic risks while limiting economic disruptions - COVID-19 remains a concern: about 130 countries did not reach the IMF pandemic proposal’s mid-2022 vaccination target of 70 percent. - Universal vaccination is the best shield against persistent health-related absenteeism and further variants; back vaccination with public campaigns. - Intensify efforts to resolve vaccine supply and distribution bottlenecks and ensure equitable access to treatment. - Public support for better systematic epidemic responses and research into new vaccine technologies, including a more widely effective pan-coronavirus vaccine, remains essential. ### Policy priorities — facilitating transition to a low-carbon economy - Urgent multilateral action is needed to mitigate climate change. - Gas and coal use as stopgaps in response to energy shortages should be temporary and limited to energy shortfalls, not increase emissions overall. - Accelerate credible and comprehensive climate policies to increase green energy supply and facilitate investment in renewables. - Fiscal policy should smooth transition costs for households and firms affected by decarbonization. - The IMF Resilience and Sustainability Trust can help countries build resilience to longer-term structural challenges, including climate change and pandemic preparedness. ### Global financial conditions update (selected findings) - Global financial conditions have tightened sharply since the April 2022 Global Financial Stability Report. - Conditions are now near the March 2020 peak of tightness in emerging markets, but have retraced only to long-term average levels in advanced economies. - Drivers in advanced economies: higher interest rates and lower corporate valuations; market volatility high and liquidity exceptionally poor in fixed-income and equity markets. - In most emerging markets, financial conditions tightened sharply this spring and are quite restrictive relative to historical norms. - Crypto assets: dramatic sell-off with large losses in crypto investment vehicles and failures of algorithmic stablecoins and crypto hedge funds; limited spillovers so far to the broader financial system. - Sovereign bond yields in advanced economies have risen sharply following aggressive central bank action to tame persistent inflation; market-implied expected path of policy rates has shifted higher since April 2022. - Real rates rising have been the key driver of higher bond yields; longer-term inflation expectations (five-year, five-year-forward horizon) have remained relatively steady at elevated levels. - Investor risk appetite has deteriorated significantly; equity prices have fallen sharply, with sectors of high estimated valuations (consumer discretionary and information technology) incurring steep drops. - Advanced economy corporate bond spreads have widened to two-year highs; corporate bond yields have surged to the highest levels since the global financial crisis. - Emerging market pressures and issuance: - Spreads of below-investment-grade issuers have risen by 104 basis points since April. - About one-third of emerging market borrowers now have bonds trading with yields in excess of 10 percent, a post-global-financial-crisis high. - Hard-currency issuance is running at its slowest pace since 2015 and down more than 40 percent from 2021. - Higher-rated issuers have continued to access capital markets at significant premiums and at shorter maturities; many weaker issuers have been effectively shut out. - Portfolio flows to local currency bonds and equities have remained under notable pressure with considerable country heterogeneity; investors differentiate across emerging markets based on inflation/monetary policy outlook and commodity exposure. *International Monetary Fund | World Economic Outlook Update, July 2022* --- _Source: https://www.imf.org/-/media/files/publications/weo/2022/update/july/english/text-en.pdf_