The global economy has deteriorated significantly since our previous Economic Outlook. Advanced economies are slowing down and the euro area appears to be in a mild recession. Concerns about sovereign debt sustainability in the European monetary union are becoming increasingly widespread. Recent contagion to countries thought to have relatively solid public finances could massively escalate economic disruption if not addressed. Unemployment remains very high in many OECD economies and, ominously, long-term unemployment is becoming increasingly common. Emerging economies are still growing at a healthy pace, but their growth rates are also moderating. In these countries falls in commodity prices and the slower global growth have started to mitigate inflationary pressures. More recently, international trade growth has weakened significantly. Contrary to what was expected earlier this year, the global economy is not out of the woods.
More than usual, world economic prospects depend on events, the nature and timing of which are highly uncertain. The projections presented in this Economic Outlook portray a scenario that rests on the assumptions that monetary policy remains very supportive (and, in some places, becomes more so), that sovereign debt and banking sector problems in the euro area are contained and that excessive fiscal tightening will be avoided. From the second half of 2012, confidence is assumed to recover gradually as it becomes clearer that worst-case outcomes have been avoided. Near-term output growth is subdued in the OECD economies and at below-trend rates in the major emerging-market economies, developments which are likely to be associated with further short-term weakening of sentiment and confidence. In some
economies, especially the euro area, a mild recession is projected in the near term.
Alternative scenarios are possible, and may be even more likely than the baseline. A downside scenario would be characterised by materialisation of negative risks and the absence of adequate policy action to deal with them. An upside scenario could arise if policy action were successful in boosting confidence and no significant negative events occurred.
OECD projects China’s economic growth will drop to 8.5 percent in 2012, from this year’s estimated 9.3 percent. In 2013, it will pick up to 9.5 percent. Last year, it was 10.4 percent.
In the downside scenario, the implications of a major negative event in the euro area will depend on the channels at work and their virulence. The results could range from relatively benign to highly devastating outcomes. A large negative event would, however, most likely send the OECD area as a whole into recession, with marked declines in activity in the United States and Japan, and prolong and deepen the recession in the euro area. Unemployment would rise still further. The emerging market economies would not be immune, with global trade volumes falling strongly, and the value of their international asset holdings being hit by weaker financial asset prices.
What would be required for an upside scenario to materialise? A credible commitment by euro area governments that contagion would be blocked, backed by clearly adequate resources. To eliminate contagion risks, banks will have to be well capitalised. Decisive policies and the appropriate institutional responses will have to be put in place to ensure smooth financing at reasonable interest rates for sovereigns. This calls for rapid, credible and substantial increases in the capacity of the EFSF together with, or including, greater use of the ECB balance sheet. Such forceful policy action, complemented by appropriate governance reform to offset moral hazard, could result in a significant boost to growth in the euro area and the global economy.
China Internal Risks
China Daily – Duncan Freeman, a senior researcher with the Brussels Institute of Contemporary China Studies, said the effect on China of an imminent recession in the European Union and the worsening world economy is that its exports, especially to the EU, would suffer.
“The last few months, exports have already fallen, and if the EU goes back into recession, then that is bad for Chinese exports. Also, the US export market is not looking good at the moment, either, so Chinese exporters are facing a problem,” Freeman said.
He also said the scale of the effect of the problems in the world economy also depends on the Chinese domestic economy; if there is strong growth domestically, the effect of the crisis will be much lower. “There is not much China can do for the EU with regard to the recession. It has to continue rebalancing its own domestic economy, continuing its shift toward an economy of domestic consumption,” Freeman said.
According to Wang Haifeng, director of the International Cooperation Center affiliated with the National Development and Reform Commission, this global economic adjustment may last eight years, starting from 2008, due to the liquidity trap – deflation and a low interest rate environment – in major economies such as US, Europe and Japan and the high commodity prices.
“Moreover, as this round of financial crisis has hurt the global financial system, it needs more time to heal,” Wang said.
The major risks facing China, Wang said, are internal rather than external.
“We should focus on adjusting the economic structure and ensure GDP growth at a pace ranging from 7.5 percent to 8.5 percent, a speed that will allow the country avoid to high inflationary pressure,” Wang added.
Xu Wei, a researcher with the China Center for International Economic Exchange, said stimulating domestic consumption is on the top of the agenda, but keeping strong investment is also important when China’s exports are about to slow due to the weakening external demand.
“Though all the major economies are working together for global recovery, the process is not so easy. In fact, the coordination among the different economies has been more difficult,” Xu said.
Jonathan Holslag, also a researcher at the Brussels Institute of Contemporary China Studies, said: “Beijing is starting to get worried about long-term prospects and is starting to get worried about keeping the Chinese economy on track. A difficult period is approaching.”
But, he said, China has a good national plan to make its economy sustainable and to make it less dependant. China is already doing a lot to make sure it will get through the crisis – the Five-Year Plan (2011-2015) clearly demonstrates that the Chinese government is aware of the challenges that lie ahead.