The global economy is slowing, and political problems are as much to blame as economic ones. No region is immune from these concerns and the impact of uncertainty is growing. Not only are particular problems large enough to create global ripples, but their political origins mean that governments will be hobbled when they try to counter their effects. As the need for political decision making rises, the capacity of policymakers to deliver will diminish.
Every spring, world business and economic leaders converge on Washington to discuss the state of the economy in meetings at the International Monetary Fund and the World Bank. In the runup to those conclaves, the IMF publishes its World Economic Outlook. The latest analysis forecasts global economic growth of 3.2 percent in 2016, a drop from the 3.4 percent predicted in January and the fourth consecutive cut over the last year. Looking to 2017, the IMF anticipates global growth of 3.5 percent, down 0.1 percentage point from the January estimate.
China’s economic slowdown is the largest shadow over the global economy. Chinese policymakers and economic managers have rightfully concluded that their breakneck, double-digit growth is unsustainable, both in human, environmental and economic terms. The economy must slow as the country makes a “momentous” transition to a more domestically oriented model of consumption. Unfortunately, diminishing demand for the raw materials that have fueled Chinese export production has hit other countries especially hard. Fortunately, Beijing has anticipated some of the domestic impact of the slowdown and provided additional domestic stimulus; as a result the IMF forecast for Chinese growth actually increased from 6.3 to 6.5 percent this year and to 6.2 percent next year. Longer term, however, Chinese growth will weaken.
While all industrialized economies had their forecasts reduced, Japan received the largest cut in anticipated growth, with the IMF predicting 0.5 percent growth in 2016 — a cut in half — and contraction of 0.1 percent in 2017, a contrast to the earlier projection for 0.3 percent growth. The cuts reflect growing concern about the strengthening yen and the consumption tax increase scheduled for next year.
The real risk to the global economy is politics, however. Topping the list of concerns is the fate of the European Union. While the situation in Greece has not been resolved, it is now overshadowed by the refugee crisis that threatens the open borders that have become an integral part of the European project. That tidal wave, in conjunction with growing fears of terrorism, has spurred the rise of nationalist parties across the continent; to counter them, European governments are adopting policies that are increasingly isolationist and erode the single market that has served as the foundation of European integration. Britain’s June 23 referendum on EU membership, commonly referred to as “Brexit,” is the most immediate and visible concern. The IMF assessed that a British vote to leave the EU could do “severe regional and global damage by disrupting established trading relationships.”
In Latin America, Brazil’s woes — a massive corruption scandal, an economic slowdown and the prospect of impeaching President Dilma Rousseff — have crippled the region’s largest economy. The forecast for Brazil is a contraction of 3.8 percent this year, a drop from the previous forecast of a 3.5 percent contraction.
While the United States is anticipated to register a 2.4 percent growth, that is down from the earlier forecast of 2.6 percent, a product of a strong dollar (which slows exports) and low oil prices that have crippled investment in the once-booming energy sector. In the U.S., too, politics throws a long shadow as presidential candidates challenge their country’s commitment to open trade and the two parties’ front-runners have called for renegotiation of the Trans-Pacific Partnership trade deal. The IMF has recognized that rising income inequality lies behind much of the restiveness of voters across the industrialized world. This is another political challenge that must be addressed; thus far, action has been nonexistent.
This catalog of woes underscores the importance of political action to strengthen economies. But since the global financial crisis in the late 2000s, governments have done little to spur demand or promote restructuring. Instead, central bankers have done most of the heavy lifting, ensuring that ample liquidity is available, even when that task has necessitated novel strategies such as the zero — and negative — interest rate policies that are in vogue in Japan and Europe.
Governments must do more to stimulate demand. With interest rates at virtually zero, the cost of borrowing is negligible. They should be investing in infrastructure, promoting deregulation and doing more to raise labor market participation rates. Crucially, they should be avoiding the reflexive tendency to devalue currencies, an alluring but ultimately destructive way of restoring the prospects of flagging industries. This will only encourage competitive devaluations and a race to the bottom. Failure to act will only accelerate the negative trends. As the IMF noted at the release of its report, “Lower growth reinforces this turn toward inward looking, nationalistic attitudes.” The downward spiral must be stopped.
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