The Telegraph
Since 1st March, 1999
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- The World Economic Outlook’s forecast deserves careful study

The World Economic Outlook is the authoritative statement issued by the International Monetary Fund. It puts together the IMF’s views on the global economy for the years ahead. The WEO 2003 was issued with great fanfare at Washington to coincide with the April meetings of the interim committee and the development committee of the Bretton Woods twins. Not much notice has been taken in India of either these meetings or the WEO. This shows, to some extent, the distance travelled by India since the reforms, as a result of which the happenings in Washington have ceased to have much impact on our situation.

The relaxation of the foreign exchange constraint, our abundant foreign exchange and food reserves — all these continue to create in our policy-makers a welcome cessation of concern about what the masters in the World Bank and IMF would be thinking. We are no longer dependent on the flow of aid from these organizations. Gone are the days when we used to tremble when the president of the World Bank or the managing director of IMF would frown on us.

It is thanks to the bold initiatives taken by Manmohan Singh and P.V. Narasimha Rao that we are able to hold our heads high and not to go on aid-seeking minions at every meeting of the Fund-Bank duo. The media are not treated to elaborate expositions of what stand our delegates took at the meetings nor of their apparent triumphs. A virtual declaration of independence from the Bretton Woods twins — at least for the present! The World Bank seems content with preaching to us about better governance. The IMF also has other pressing issues to consider.

But the watchdog role of the Bretton Woods institutions in the global economy continues to be important. They are institutions of last resort when a country faces financial distress. It is, therefore, right and proper that we should heed what they say, in particular, their forecasts about the global economy. The WEO 2003 is focussed on various issues of global import and deserves careful study.

What one looks to the WEO for is a forecast of global growth prospects. Its forecasts assemble the best guesses and estimates of experts, both within the IMF and outside. Many observers of the global economic scene give great weight to what the WEO says. The WEO 2003 factors in the various developments in the leading economies of the world. It takes into account the high corporate debt levels, excess industrial capacity, faltering pension system and above all, the impact of the geopolitical developments — in particular the Iraq War.

The WEO notes that global forecast for 2003 will be a bit more conservative than the one it put forth in September 2002. It estimates a rate of growth of the global economy at 3.2 per cent for 2003 and 4.2 per cent for 2004. As for the United States of America, the WEO estimates a low rate of growth of 1.9 per cent in 2003 and 2.9 per cent in 2004. Japan hits the low forecast of 0.8 per cent for 2003 and 1 per cent for 2004.

The bright spots in the global economy are not surprising — India and China — with expected rate of growth of 5.1 to 5.9 per cent for India and 7.5 per cent for China. Does this argue that India and China are doing something right which other countries are not' Or does the growth of the rest of the world prop up these two countries'

The WEO 2003 notes that in the West, in the US, Canada and the United Kingdom, monetary policies have been eased considerably in response to the global slowdown. So have fiscal policies. Japan presents a peculiar case, in that monetary policy has no scope for further easing with interest rates already at the zero levels and fiscal policy has little room for manoeuvres with the heavy debt burden of the government. The Euro area also has limitations — the growth and stability pact restricts the flexibility of fiscal action and monetary easing is slow in coming. Considering all these factors, the WEO 2003 notes that global recovery is expected to continue at a relatively subdued pace, with the gross domestic product growth in major currency areas remaining below potential.

The WEO 2003 signals that monetary policy can be expected to remain “accommodative” in the Euro area. In plain English, it is arguing for low interest rates and more flow of credit. In spite of all this, the prospects of growth in Germany, in particular, are not too bright. Germany might see yet another year of growth under 1 per cent; this will be the third year of slow growth for an economy already facing heavy unemployment. Japan is also in a difficult situation with growth almost stagnant and threat of deflation.

The WEO 2003 highlights yet another striking feature of today’s global economy: the manner in which the imperial power, the US, is nurtured and supported by the savings of the rest of the world. A revealing appendix to the WEO shows that the current account deficit of the US in 2002 was $ 503 billion and would rise to $ 576 billion in 2003. In terms of GDP, the current account deficit of the US runs as high as 5 per cent. If such a deficit is run by any emerging economy, the wise men of the IMF will be all over it with the harsh counsel of devaluation and fiscal tightening. All hell will break loose.

But then, the US has different rules to play by because the rest of the world gives its savings to the US for safekeeping. The Euro area, emerging Asia, Japan — all have substantial current account surpluses. They export more than they import. They invest their surpluses in the securities of the world’s superpower. It is this large draft on the rest of the world, which sustains the US’s spending spree as well as its adventurism. In fact, its fiscal deficit translates into demand for funds, which are supplied by the rest of the world investing their reserves in the US’s gilt-edged securities.

The WEO does not read the riot act to the US because the US is part of the support system for IMF. But the fact remains that the US adventure in Iraq was willy-nilly funded by cash flow from the rest of the world, particularly emerging Asia and Japan.

The WEO often takes up a theme for discussion. In September 2002, it used the platform for discussing and advocating trade reforms — both for developing and for developed countries. This time, the focus is on institutional reforms. WEO 2003 rightly asks the question, “What is it that explains the differences in industrial countries’ rates of growth'” Even if we take into account divergences in factor endowment, resources and climate, there is always a residual factor, which cannot be explained.

The WEO 2003 states that the differences between countries in physical capital and education level can only go so far in explaining cross-country differences in rates of growth. It hypothesizes that the character of institutions and their level of development may be an important factor in the variation. Based on sophisticated measurement of institutional development — reflecting the degree of corruption, public sector efficiency, rule of law, regulatory burden — the WEO establishes a close correlation between institutions and economic growth. The correlation is also intuitively obvious. The better the governance of a country, the easier it is for entrepreneurship to flourish.

Another theme the WEO 2003 focusses on is the need for structural reform of labour markets. It points out that in Europe, where labour markets are backward, unemployment rates are high. The areas of reform in labour markets are the generous unemployment compensation, centralized wage bargaining processes, strict employment protection and high taxation of labour income. It states that the UK and Netherlands, which have reformed labour markets, have achieved a sharp reduction in unemployment. The nearer the model gets to the US type of labour relations, suggests the WEO 2003, the better it would be. There is much food for thought here, although I would not fully endorse the WEO’s view. China offers a study in contrast, but seems to be doing well.

This takes some to yet another dilemma, which the WEO tries not to discuss. True, the US model of governance has done well for that country. But how come that China and India are still clocking up high rates of growth, in spite of their departure from the US model' There may be something in the state-led patterns of economic development of China, which the rest of the world may have to study.

The WEO 2003 has, as usual, provided a fund of data and analysis on global economics. It raises many questions and attempts a few answers. One may differ from it, but one cannot ignore it.

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