Editorial: Not too grim

The International Monetary Fund's (IMF) World Economic Outlook, put out on Wednesday, conforms to the now virtually unanimous perception that the US economy will slip into a recession during 2008. The IMF's latest forecasts for US growth over the current and next year are 0.5 per cent and 0.6 per cent, respectively, which suggest that the recession will be relatively mild and also relatively short-lived. It is expected to peak during the fourth quarter of 2008, during which GDP will be 0.7 per cent lower than in the corresponding quarter of 2007. Against the backdrop of a US recession of this magnitude, the world economy is expected to grow by 3.7 per cent in 2008 and at about the same rate in 2009, 0.5 per cent below the previous forecast made three months ago. This is significantly below the average of the past four years of about 4.8 per cent, but not dramatically so and compares favourably to the performance of the global economy in the preceding four-year period, which encompassed the previous US recession. The reason for the waning influence of US growth on global performance is obvious; other economies, notably China and India, have become far more significant. The IMF's growth forecast for these two countries is 9.3 per cent and 7.9 per cent, respectively, for 2008 and a slightly improved 9.5 per cent and 8.0 per cent for 2009. Consequent on these, the overall outlook for the rest of Asia is also relatively benign.

Of course, all these forecasts are contingent on the US recession playing out as the report predicts. On this score, the report itself is relatively pessimistic. It emphasises that the risks are predominantly on the downside, and indicates that the probability of world GDP growth slipping below the 3 per cent mark in 2008 and 2009 is about 25 per cent. There are two major reasons for these high downside risks, both of which are visible on the policy radar screen of virtually every country in the world. First, the meltdown in financial markets has made the recovery of credit flows to support real economic activity more difficult. Even an extremely accommodative monetary policy stance may not be able to stimulate a strong rebound in asset prices, which is key to the financial sector's recovery. This is directly related to the second threat, global inflation, which renders an accommodative monetary policy stance more difficult and risky. Even with the growth slowdown, though, inflation rates are unlikely to soften by very much, if at all, driven as they are by the supply-side influences of surging commodity and food prices.

The report is cautious on policy approaches, acknowledging that the scenario poses serious challenges to countries at all levels of affluence. However, there is a case made for a co-ordinated approach, particularly by way of an expansionary fiscal stance by countries that are relatively comfortable in that department. Of course, collectivism in economic policy hasn't been much in evidence of late, due in part to the scepticism that multilateral institutions like the IMF have evoked in recent years. Thankfully, in the IMF's own baseline scenario, its irrelevance continues!