IMF sees recovery but there are caveats

February 07, 2010 09:03 pm | Updated March 22, 2022 08:15 pm IST

IMF Managing Director Dominique Strauss-Kahn addresses the Asian Financial Forum in Hong Kong last month. Photo: AP

IMF Managing Director Dominique Strauss-Kahn addresses the Asian Financial Forum in Hong Kong last month. Photo: AP

The International Monetary Fund in the latest update to its World Economic Outlook sees economic prospects across the globe improving substantially. While some of its previous reports had said that the worst of the crisis was over and that recovery was on, the latest update (January 26) points out that the recovery is much faster than anticipated.

In fact, compared to its last update (October 2009), the IMF has significantly marked up its forecasts for several countries and regions.

Global output is forecast to go up by 3.9 per cent and 4.3 per cent in 2010 and 2011, respectively, above the October forecasts of 3.1 per cent and 4.2 per cent. Advanced economies too are expected to fare better than originally anticipated, with growth rates of 2.1 per cent and 2.4 per cent for 2010 and 2011, respectively. Last year, these economies (as a group) contracted by 3.2 per cent. The U.S., which had a negative growth of 2.5 per cent, will post positive growth rates of 2.7 this year and 2.4 per cent in the next year.

India, China lead

However, in what has by now become common knowledge, it is the developing countries led by China and India that have picked up the slack and remain in the forefront of the global recovery. According to the IMF, the category “Emerging markets and developing economies” will grow by 6 per cent and 6.3 per cent in 2010 and 2011. China and India lead the table with projected growth rates of 10 per cent and 7.7 per cent, respectively, in 2010 and 9.7 per cent and 7.8 per cent in 2011.

The sharp recovery in these two countries has been well recognised. Already many countries in the region are benefiting from China’s growth. Japan’s exports have turned positive after a long slump mainly because of the demand from China. The fact that the Indian economy has been on an even keel even during the worst phase of the recession and has now entered a higher growth trajectory has rekindled capital flows, both foreign direct investment (FDI) and foreign institutional investment (FII).

The IMF report, while being more optimistic about global economic prospects than at any time during the past two crisis ridden years, nevertheless sounds a caution or two. Advanced economies are still dependent on government stimulus measures, which obviously cannot be continued indefinitely. Sooner than later, private demand must take over. The timing of the exit — when individual countries could withdraw the stimulus and other ‘anti-crisis’ measures — is best left to individual countries.

In many countries, the stimulus measures cannot be withdrawn immediately. Some of them risk a return to recession if such measures are withdrawn soon. There are some positive signs, to be sure.

Financial markets have rebounded since the lows of last March. Economic conditions have improved and the wide ranging policy actions of governments have helped. Risk appetite has returned and capital markets have reopened. In the U.S., consumption demand has been surprisingly strong and has contributed to the rebound in confidence. In all advanced economies, inflation is expected to be contained.

Challenges remain

However, policymakers still face extraordinary challenges as they seek to unwind the unprecedented fiscal, monetary and financial support they provided to keep their economies and financial markets from collapsing. High unemployment rates, rising public debt and high levels of individual indebtedness in some countries present further challenges to the recovery.

Due to the still fragile nature of recovery, fiscal policies should remain supportive of economic demand in the near term. Fiscal stimulus planned for 2010 should be implemented in full. However, in many countries, there are growing concerns about fiscal sustainability. Countries should, therefore, work towards devising strategies for exiting from the stimulus packages.

Financial sector reform

A crucial task ahead for policymakers in the developed countries is to repair the badly damaged financial sector. Policymakers will also need to move boldly to reform the financial sector with the objectives of reducing the risks of future instability. Attention should also be bestowed on how the potential fallout of financial crises would be borne in future, while at the same time making the sector more effective and resilient.

In a special message to India and other emerging economies, the IMF says that these countries will have to design policies to manage a surge of capital inflows.

Macro-prudential policies can be used to address the potential of bubbles at an early stage by limiting a build-up in risks.

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