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The Global Economic Outlook Carmen M. Reinhart Deputy Director, Research Department International Monetary Fund October 24, 2002 After good performance over much of the 1990s, World Real GDP Growth percent, at market exchange rates 4 3.5 3 2.5 2 1.5 1 0.5 0 Global economic growth slowed to stall speed in 2001 And the return to sustained growth remains a forecast Much of this depends on 1994 1996 1998 2000 2002 Source: IMF, WEO (9/02) A revival in the performance of the U.S. economy Halting of the slide of key industrial and emerging market economies Prospects for the U.S. economy In response to dwindling economic slack, The Federal Reserve began to tighten policy in May 1999 Ultimately raising the federal funds rate from 4-3/4 percent to 6-1/2 percent by May 2000 In the event, this policy restraint was augmented by: Elevated energy prices Firms’ efforts to cope with excessive stocks of inventories and capital Drag on the manufacturing sector by the strong dollar Negative wealth effect from the overall fall in equity prices The result was the short recession of 2001 . . . U.S. Real GDP Q4:Q4 growth Percent 8 6 4 2 0 1979 1982 1985 1988 1991 1994 1997 2000 Part of the reason was the speed and size of the policy response Nominal Effective Federal Funds Rate Weekly Percent 8 (1) The intended funds rate was cut 4-3/4 percent in one year 7 (2) A tax cut came on line in the summer of 2001 6 5 4 3 2 Jan Apr Jul 2000 Oct Jan Apr Jul 2001 Oct Jan Apr Jul 2002 Oct Monetary policy ease has put the real funds rate at zero. Real Federal Funds Rate Quarterly Average, nominal less four-quarter PCE inflation Percent 10 8 6 4 2 0 1978 1981 1984 1987 1990 1993 1996 1999 2002 . . . and fostered low mortgage rates. Thirty-Year Fixed Rate Mortgage Rate Quarterly Percent 20 18 16 14 12 10 8 1979 1982 1985 1988 1991 1994 1997 2000 But there are risks to this outlook. Most U.S. forecasts for 2002 have been marked down – both consensus and WEO 5 (percent) Dec/01 Apr/02 4 3 2 1 0 -1 +/ 2*SDADJ +/ 1*SDADJ Mean -2 Jan 2001 WEO Apr Jul Oct Jan 2002 Apr Jul Oct And 2003 looks more uncertain as well. 60 (percent of forecasters) WEO 2.6% 50 Jun/02 40 30 Consensus Forecasts Oct/02 20 10 0 1.25 1.75 2.25 2.75 3.25 3.75 4.25 4.75 5.25 GDP Growth (%) Among the reasons there are risks to the U.S. outlook are . . . A rising unemployment rate may make households less confident. Unemployment Rate Quarterly Percent 12 10 8 6 4 1978 1981 1984 1987 1990 1993 1996 1999 2002 Equity prices have declined further . . . Change in 2002 (percent): S&P 500 Equity Price Index S&P 500 Nasdaq Quarterly -25 -42 Level Change from record high (percent): S&P 500 Nasdaq 1600 1400 -36 -77 1200 1000 800 600 400 200 1978 1981 1984 1987 1990 1993 1996 1999 2002 Investors are skittish . . . Implied Volatility on the S&P 100 Percent, a.r. Weekly 50 45 40 35 30 25 20 Jan Apr Jul 2000 Oct Jan Apr Jul 2001 Oct Jan Apr Jul 2002 Oct . . . and risk spreads remain high. Junk Bond Spread Weekly Percent Risk spreads are particularly high for weaker credits—both in markets and at banks. 11 10 9 8 7 6 5 Jan Apr Jul 2000 Oct Jan Apr Jul 2001 Oct Jan Apr Jul 2002 Oct Oil Prices are also high . . . 36 (US$ / barrel) 34 32 . . . but at least they are forecasted to fall. 30 Oct.22/02 28 26 24 Apr.16/02 22 Aug. 8/02 20 18 2000 01 02 2003 In the WEO forecast, we’re less confident about other major central banks The Bank of Japan is constrained at the zero bound to nominal interest rates and apparently has little confidence in quantitative measures The European Central Bank has been reluctant to offset aggregate demand shocks in the past This is a problem because there are significant risks abroad that may require policy action. Share prices have fallen in major equity markets 220 200 (log scale; Jan.2/98=100) Euro STOXX 180 160 140 120 S&P 500 100 80 1998 TOPIX 99 2000 01 02 Euro Area Confidence Indicators have weakened 108 (index; 1991=100) (index; 1995=100) EC Business Sentiment Index 104 (right scale) 100 106 105 104 103 102 96 101 IFO Business Confidence 92 100 (left scale) 99 88 98 84 97 98 99 00 01 02 In Japan, Industrial Production and Orders have cooled 3 2 (percent change from previous month; Machine Tools Orders Three-month moving average) (right scale) Industrial Production (left scale) 1 9 6 3 0 0 -1 -3 -2 -6 -3 -9 98 99 00 01 02 Sluggish growth in industrial economies poses problems for emerging market economies. Exports of emerging economies are only now recovering 30 (percent change from a year earlier; 25 Three-month moving average) 20 15 Others 10 5 0 -5 -10 Latin America -15 Asia (ex. China and India) -20 -25 98 99 00 01 02 … as is industrial production in emerging economies 15 (percent change from a year earlier; Three-month moving average) 10 Others 5 0 Latin America -5 Asia (ex. China and India) -10 -15 98 99 00 01 02 This tentative recovery is subject to significant threats . . . Argentina’s economy has imploded, affecting both Uruguay and Brazil The potential political transition in Brazil has highlighted the precariousness of its debt situation Less robust growth than expected in the United States poses problems for Mexico 2002 GDP Growth Projections 8 6 (percent per annum) Sep-02 Apr-02 The largest swing in 2002 has been for Latin America 4 2 0 Advanced Economies -2 Africa Asia Mid.East & Turkey Latin Cent.& East. America Europe 2003 GDP Growth Projections 8 (percent per annum) Apr-02 And 2003 has been marked down too 6 Sep-02 4 2 0 Advanced Economies Africa Asia Mid.East & Turkey Latin Cent.& East. America Europe Vulnerability of emerging market economies to the U.S. cycle. 2. Capital flows to emerging markets depend on the U.S. business cycle Net Private Capital Flows Western Hemisphere. Middle East and Europe Other Asian emerging Asia-crisis Africa Total -5 expansion 0 5 10 15 billions 1970 US$ recession 20 3. That sensitivity is greatest for FDI Net Private Direct Investment Western Hemisphere Middle East and Europe Other Asian emerging Asia-crisis Africa Total -2 expansion 0 2 4 6 8 10 12 billions 1970 US$ recession