A reality check from the IMF this morning:
The global economy is in a dangerous new phase. Global activity has weakened and become more uneven, confidence has fallen sharply recently, and downside risks are growing.... Unless policies are strengthened, especially in advanced economies, nothing beyond a weak and bumpy recovery is in the cards.But you knew that already, even if the Fund didn't -- the agency admits it didn't foresee this year's downturn coming. The IMF forecasts world economic growth of 4 percent in 2011 and 2012, down from more than 5 percent last year (see chart at bottom for a full regional breakdown of the agency's growth projections). And that's the best-case scenario, assuming that Republican lawmakers in Washington overcome their phobia of fiscal stimulus and that the eurozone doesn't splinter.
What's dragging things down? The usual suspects. In developed economies, tepid consumer demand, tight bank lending, fragile financial systems, high household debt, weak housing sectors, antsy financial markets, political gridlock. The main risks facing emerging economies, where growth is generally strong and where many countries have already surpasses pre-crisis levels, include inflation, volatile capital flows and social unrest. Here's a rundown of what the IMF says is happening in key regions:
The IMF expects U.S. economic growth to average 1.5-1.75 percent through 2012, which will keep unemployment well above 7 percent through next year. Prices are also expected to remain in check, with the agency predicting that "headline" inflation (including food and energy prices) will fall next year to 1.25 percent, down from 3 percent in 2011.
U.S. growth could slow even more unless Washington takes sensible measures to shore up demand, such as extending unemployment benefits and the temporary cut in employee payroll taxes. Failing to reach consensus on deficit-reduction this fall would trigger automatic government spending cuts, sucking yet more wind out of the economy. Other risks: a more protracted recovery in the housing market, sustained losses in the stock market and a renewed surge in commodity prices. The IMF states:
Bold political commitment to put in place a medium-term debt reduction plan is imperative to avoid a sudden collapse of market confidence that could seriously disrupt global stability. At the same time, renewal of some of the temporary stimulus measures -- within the medium-term fiscal envelope -- and accommodative monetary policy can partly cushion private activity.
The IMF expects real GDP growth in the eurozone to slow from an annual rate of about 2 percent in the first half of 2011 to a feeble 0.25 percent in the second half. It estimates growth of just above 1 percent for 2012. The main factor in that decline: Fear, as ongoing financial turbulence erodes confidence and constrains lending. Inflation in the euro area is also projected to fall, from 2.5 percent this year to 1.5 percent in 2012 (With the lid on prices and wages in Europe and the U.S., we can put deficit hysterians' fears of runaway inflation aside for the foreseeable future.)
The most pressing risk is no mystery -- sovereign debt fears spreading to Italy, Spain and other "core" eurozone economies. One red flag to look for in coming months -- whether the rising cost of sovereign and bank debt pushes up corporate financing costs, which would further dent the recovery.
It's worth noting that some European countries are faring better. Sweden's economy is forecast to grow 3.8 percent in 2012, for instance, while Estonia can expect 4 percent growth. And in terms of production, nations including Denmark, Germany, the Netherlands and Poland are back to pre-crisis levels. Overall, however, the outlook for Europe remains grim, according to the IMF:
High public deficits and debt, lower potential output, and mounting market tensions are weighing on growth in much of advanced Europe... the forecast is for a slowdown in activity for much of Europe, with risks to the downside part due to the pressure of high commodity prices on real disposable incomes and to ongoing fiscal tightening, but also because of the effect of the crisis on consumer and business confidence across the region, including in the core economies.
Growth across the region remains "solid" despite slowing in the first half of the year because of the March earthquake in Japan. In China, real GDP is expected to average 9-9.5 percent through 2012. That compares with the 10.5 percent growth the country averaged between 2000 and 2007 and reflects the fiscal tighetning and other steps Beijing has taken of late to control expansion. Despite these measures, investment continues to power growth.
Growth in India is forecast at upwards of 7.75 percent next year, with private consumption and a strong credit environment driving expansion. By contrast, a key challenge for policymakers there will be to contain inflation, which has been running close to double-digits. Even Japan, whose economy is expected to shrink 0.5 percent this year largely due to the earthquake, is expected to rebound next year, with estimated 2012 growth of 2.25 percent on strong reconstruction investment. Headline inflation across Asia this year is projected to average 5.25 percent and to recede to 4 percent in 2012.
The IMF concludes:
Asia's track record during the crisis and the recovery has been enviable. Growth remains strong, although it is moderating with emerging capacity constraints and weaker external demand. Downdrafts from weaker activity in major advanced economies suggest that a pause in the policy tightening cycle may be warranted for some economies, and underscore the importance of rebalancing growth toward domestic sources.
The upshot? It's a scary world out there. Assuming recent stock market volatility continues, the IMF puts the chance of another U.S. recession at nearly 40 percent. Most of the advanced economies are still struggling to rouse people's "animal spirits," while in Asia's powerhouse economies those spirits threaten to run wild. Put another way, one part of the globe is cooling, while the other shows signs of overheating.