|Dangerous new phase|
|Wednesday, 25 January 2012 00:00|
Deeply into the danger zone, is how IMF puts it
On the face of things, IMF’s latest set of growth forecasts – 3.3% for global GDP in 2012—are more cheery than the World Bank’s 2.5% last week, but disaggregate this into the major regions, and there are a lot of reasons to be worried. To begin with, IMF has lowered its growth forecast by 0.7 percentage points in just four months, based on what it sees in Europe primarily and the eurozone crisis is far from getting resolved. For the US, both IMF and Bank are looking at positive growth, though IMF is more circumspect (it has a 1.8% forecast versus the Bank’s 2.2%, and we’ll come to the reasons for this in a bit). Both expect eurozone to contract (Bank by 0.3 ppt and IMF by 0.5 ppt) in 2012.
The reason for the lowered forecast is the same, the increasing possibility that the euro crisis will spread and hit both the US and emerging markets. While no eurozone nation had spreads above 400 bps in April 2010, 7% of the eurozone (Greece, Ireland and Portugal) had spreads above 400 bps in September 2011 and this rose to 42% by this month. The access to funds by eurozone banks has been severely curtailed in both long- and short-term markets—US money market funds, traditional lenders to European banks, have dramatically scaled back their lending. This, in turn, has tightened credit for businesses. The big fear, as three IMF reports released Tuesday point out, is the risk of eurozone banks shrinking balance sheets and of an adverse feedback loop which spreads the problem to the US and emerging markets. Eurozone banks account for just 5% of bank assets in emerging markets in Asia, but provide 30% of trade and project finance. This is why IMF managing director Christine
Lagarde has been talking of how the eurozone firewall has to be sufficiently large and convincingly built. This is also the reason why IMF formally cautions against aggressive budgetary cuts (see “Long haul ahead for Europe” alongside this piece). Both IMF and Bank are projecting sharply lowered trade volumes (compared to 12.7% growth in 2010, IMF projects just a 3.8% growth in 2012). With lower economic activity, IMF is looking at a 14% fall in non-oil commodity prices, though the oil situation remains fluid thanks to developments in central Asia. That, despite this, RBI remains focused on inflation-control instead of on stimulating growth is curious.