Big downside risk to global growth thanks to US
Though the IMF’s World Economic Outlook (WEO) has the standard disclaimers about downside risks to its projections, the forecast is an excessively cheery one given that, while the bulk of the global growth push is to come from the US, the US is looking at dramatic slowing in its output thanks to its current shutdown crisis. In any case, WEO projections have had to be scaled back each time they have been made. In January this year, the WEO was looking at a 3.5% global growth for 2013, this was scaled back to 3.3% in April, to 3.1% in July and to 2.9% now. In the case of the US, there was a 2% growth projection for 2013 in January and 3% for 2014—this is down to 1.6% and 2.6% in the latest WEO. There is an even bigger slippage in the case of countries like India, but given their GDP, the impact on global growth is less significant.
Given the problems in the US debt ceiling and the gridlock between the Democrats and the Republicans was well-known—that’s the main reason why the Fed didn’t begin its taper last month—forecasting US GDP was always going to be a tough call. But it was always obvious that the role of government spending, and policy, in driving the economy was a large one. Earlier IMF reports, for instance, have said the US needs to cut its primary deficit by 0.9% of GDP each year till 2020—some part of this will come from higher GDP growth, but some part would also have to come from expenditure curbs. Apart from this, there was the sequester and its impact, the higher payroll tax … all of this is what has contributed to US recovery still being on the weak side.
The debt ceiling, should it not get resolved in another 10 days, will mean things are likely to take a dramatic turn for the worse. The US won’t renege on its debt, but the government will have to balance its budget immediately. Goldman Sachs estimates the drag to US growth could be as much as 4.2% on an annualised basis, perhaps even greater. Given the schedule of repayments of existing debt, the actual amount of deficit cutting could be even higher and lumpier. That’s the first round impact. The second round depends on how markets react, the rising US bond yields over the past few weeks indicates the impact could be quite sharp. Finally, the future of global growth depends on the Republicans and the Democrats coming to a solution. President Obama’s blame-it-all-on-Republicans approach is only worsening matters.