Angel Gurría, Secretary-General of the OECD, prepared for the IMF/WB Spring Meetings
12 April 2014, Washington, D.C.
Global Economic Outlook
A moderate recovery is under way in major advanced economies after two years of subdued growth. Overall, most indications point to a continued underlying strengthening of the pace of growth, helped by accommodative monetary policy and reduced fiscal drag.
In recent months there has been an encouraging improvement in the performance of some of the engines of growth in advanced economies. Notably, trade growth picked up towards the end of 2013, and a continued increase in the trade intensity of growth is expected this year. After an extended period of subdued growth, business investment also firmed in late 2013 in most major economies. The improvement among advanced economies is also reflected in labour markets. The OECD-wide unemployment rate fell by ½ percentage point in the past year, with steady declines in the United States, Japan and the United Kingdom and a stabilisation in the euro area as a whole, although unemployment is still rising in some euro area countries.
Among major emerging-market economies, the outlook is more mixed, with some countries continuing to grow strongly while others, where underlying vulnerabilities have been highlighted by reversals of capital inflows, are experiencing a marked loss of momentum. Even so, emerging-market economies now account for over half the world economy and continue to grow more quickly on average than the advanced ecoonomies, so that the bulk of global growth will continue to be generated in lower-income countries.
The slowdown in emerging-market economies underlines the fact that while some risks to the outlook have waned in recent months, others remain and new ones are appearing – notably, the geopolitical tensions arising from the situation in Ukraine constitute a new source of risk, even if the economic implications remain highly uncertain. The loss of growth momentum among emerging-market economies is one area where existing concerns have intensified. In a number of these economies, the tightening of financial conditions over the past year has weighed on economic activity. Indicators of current and near-term prospects for the major emerging economies are generally weaker than previously expected, and as monetary stimulus in the United States is wound down, there are fears of an even sharper slowdown.
A full-blown financial crisis appears less likely than in the past, as most emerging-market economies now have flexible exchange rates and large stocks of foreign exchange reserves, and their financial institutions have larger capital buffers than prevailed at the time of earlier shocks. Nevertheless, some countries are still dependent on portfolio inflows and short-term loans from foreign banks, and have a high share of debt in total foreign liabilities and domestic companies with large foreign currency debts. The illiquidity problems that could arise from capital outflows from these countries have yet to be tested. In China, the authorities face the challenge of slowing rapid credit expansion and rebalancing growth from investment to consumption without significant disruption. Moreoever, the off-balance sheet activity of banks will need to be carefully managed.
Another risk for some OECD economies is related to deflation in a background of weak activity, further hindering the recovery of demand. Inflation is well below target in the euro area and the United States, and while Japan has moved out of deflation, a good part of the jump in the price level has been driven by yen depreciation and energy price increases over the past year. Growth in the United States should be sufficient to gradually erode economic slack and drive inflation back up towards its target. In Japan, the headline rate will be boosted by the rise in the consumption tax rate that took effect on 1 April and monetary policy is expected to remain expansionary, while output is already close to potential. Thus, while Japanese inflation may not reach the central bank’s target by 2015, it should remain positive, confirming the break with years of deflation. By contrast, in the euro area inflation is projected to remain well below target for an extended period, as the economy continues to grow below potential and credit growth remains negative. While deflation is not a central scenario in any of the main OECD economies, the euro area appears to be at a higher risk of slipping into negative inflation or a prolonged period of very low inflation.
Macroeconomic and financial policy directions
The modest recovery in the OECD, with still-substantial slack in many economies and limited inflationary pressures, means that monetary policies should remain very accommodative. Nonetheless, a scaling-down of stimulus should begin in countries, like the United States, where a cyclical recovery is relatively well established. Even in the United States, the weakness of some recent indicators has fanned doubts about the strength of the recovery, although it is clear that unusual weather was a contributing factor. The continued uncertainty about the strength of the US recovery, however, together with the volatility that the winding down of stimulus by the Federal Reserve has created in some emerging markets, mean that it would be best to proceed cautiously, with a careful communications policy to smooth expectations. Meanwhile, in the euro area and Japan, where the recovery is less established and inflation remains below target, the degree of monetary policy stimulus should be maintained or even increased.
Some progress has been made towards repairing the credit transmission mechanism in the euro area, but more is needed. The decisions taken to establish a single supervisory mechanism and a single resolution mechanism are welcome, but the resources envisaged for bank resolution risk being inadequate and the decision-making process too complex, suggesting a possible need to strengthen these aspects of the new architecture. In the near term, the authorities must ensure that the asset quality review and stress tests planned over the coming year are credible. To minimise the risk of renewed tensions, it is crucial to clarify how any identified capital shortfalls will be rectified, making sure that the deadlines for recapitalisation are not so distant as to undermine investors’ confidence.
Budget deficits are narrowing in most major advanced economies, and given high and still-rising government debt burdens, consolidation efforts need to be maintained. In the United States and the euro area, however, the considerable progress already made means that consolidation can slow this year relative to 2013, reducing the drag on growth. By contrast, Japan is faced with the need to implement steady consolidation for a number of years in order to restore fiscal sustainability. In China, growth is around trend and inflation well contained, but monetary and macroprudential policy need to restrain credit growth, which would help address the growing vulnerability of the financial system. Further interest rate liberalisation, in particular for household deposits, is also called for. Fiscal policy in China is broadly neutral, but the central government recognises that it needs to impose harder budget constraints on local governments, improve transparency and better monitor local government spending.
Other emerging-market economies are typically more exposed to swings in capital flows and exchange rate pressures, and in some cases these pressures may force a tightening of monetary policy to keep inflation expectations anchored, even where growth is weak. In a few cases it may be possible to ease fiscal policy to offset the contractionary effect of tighter monetary policy, but some emerging economies are constrained by the need to reduce budget deficits.
Creating jobs and protecting the vulnerable
In many countries, the labour market still bears the scars of the financial and economic crisis. Despite some recent improvement, in most major OECD economies unemployment, and especially long-term unemployment, remains high, and many workers are underemployed. In many emerging-market economies, a large proportion of employment is informal, providing lower wages, higher income inequality, fewer benefits and lower labour standards than formal sector jobs. The weakness of demand has hindered job creation, with youth, the low-skilled and immigrants generally being hit the hardest. Unemployment among young adults reaches levels of 50% or more in some countries, and their transition into the world of work is not always successful. Even the countries that have weathered the crisis without a major increase in unemployment face dissatisfaction with the quality of jobs. The objective of policy makers thus needs to be broadened from ensuring that people have a job to ensuring that peole have a good job.
While spurring demand remains the key policy priority to create jobs, this should be complemented by a range of other measures. The experience of OECD countries since the crisis underlines the importance of active labour market policies, especially training programmes and higher spending on public employment services to ensure that resources devoted to job-research assistance are commensurate with the increased task. Structural labour market reforms can also encourage the creation of more and better-quality jobs and improve the chances of many, including the youth and other new entrants to the labour market. Given the difficult labour market context, special attention should be given to supporting the most vulnerable groups in the transition. Tax simplification and extensions of social insurance coverage are among the measures that can help to tackle high rates of informality in many emerging-market economies.
Structural policies for resilience and inclusive growth
The growth slowdown in both advanced and emerging-market economies since the crisis appears to reflect a combination of cyclical weakness and structural deficiencies. Competition-enhancing product market reforms, particularly in service sectors, such as retail trade and professional services, are needed to stimulate growth. In addition, countries should also adopt more effective policies to boost their innovation capacity and investment in knowledge-based assets. Innovation can help accelerate the recovery and support sustainable growth. It is a powerful engine for development and for addressing social and global challenges. Policies that provide a conducive business environment and invest in the knowledge infrastructure underlying innovation could play a key role in generating employment and enhancing productivity growth through cutting edge knowledge creation, application and diffusion.
Growth-enhancing structural reforms can also help improve macroeconomic fundamentals in emerging-market economies under financial market pressure by boosting investors’ confidence. In particular, emerging-market economies could raise comparatively low levels of labour productivity by reducing still-high regulatory barriers to competition and restrictions to foreign direct investment and trade, developing infrastructure, and improving access to education and teaching quality.
But while growth-friendly structural policies can help invigorate investment, revive trade growth and drive innovation via stronger competition, sustainable growth is about more than that. We also must make growth more equal. The rise in inequality that occurred in recent decades has, if anything, picked up pace since the crisis. It has become increasingly clear that the benefits of growth do not automatically ‘trickle down’ to all sectors of society, and high levels of income inequality are associated with lower social mobility, making it harder for talented and hard-working people to get the rewards they deserve. This has serious social and economic consequences.
More attention will have to be paid to measuring and improving wellbeing, which will not always be the same as achieving output growth. The OECD has been examining new approaches to economic challenges where growth, equity, environmental concerns and wellbeing are taken into joint consideration, with a view to developing a multi-disciplinary approach allowing a better understanding of the interconnectedness of different policy areas. Pro-growth policies have to be combined with policies to foster new sources of employment, including policies that allow young firms to experiment and ensure a level playing field for new and innovative firms, paying more attention to job quality, to invest in education, skills and life-long learning for all and to ensure fairness in the tax system. It is also critical to pay more attention to trade-offs and complementarities when designing and implementing structural reforms, particularly between growth and broader welfare. Countries also need to begin the long-term transformation required to deal with the effects of ageing, not only on pensions, health and long-term care systems but also on economic development more broadly.
Mr. Angel Gurría, Secretary-General of the OECD in Washington, 10-13 April 2014