IMF predicts soft landing

The International Monetary Fund worries about debt and deficits but leaves interest rates to the central banks. Nevertheless, it expects a soft landing for the global economy, despite higher interest rates.

| 6 min read

The International Monetary Fund (IMF) and World Bank have been in meetings this week, providing a platform for finance ministers and central bank chiefs to update us on their views of the world. The IMF forecasts a soft landing after the marked monetary tightening in many countries to control the inflation.

They think advanced countries will grow a little faster at 1.7% compared to 1.6% last year, whilst emerging economies will grow a little slower, at 4.2% compared to 4.3% last year. They forecast inflation globally to fall from 6.8% in 2023 to 5.9% this year and 4.5% in 2025. They draw attention to their five-year forecast of 3.1% growth, which it notes is “the lowest in a decade”. They see India growing the fastest of the larger economies, with China at a modest 4.6% in 2024 – still damaged by problems in its property sector. The US, at 2.1%, continues to outperform the Europeans.

The IMF urges fiscal toughness

The IMF recommends “implementing medium-term fiscal consolidation to ensure debt sustainability”. It thinks too many countries have allowed debt to build up over lockdowns and are concerned that democratic states facing elections will see governments spend too much and tax too little.

The IMF is keen on higher taxes to reduce some of the deficits. It recommends more progress on ensuring companies pay a minimum level of corporation tax wherever they report, urging lower tax countries to set a higher minimum tax rate without exemptions or loopholes. It wishes to see carbon taxes and carbon-pricing systems develop, extending their scope and making fossil fuel use more expensive. It sees potential for large revenue gains from this source. It would act as an accelerant to their green transition plans, speeding the rundown of high-energy-using industries burning fossil fuels, and encouraging the reduction of oil and gas production.

A big part of IMF country programmes and lending patterns is designed to raise living standards in emerging-market countries and to see sufficient resource is directed to the faster development of low-income states. It is aware of the large extra costs of trying to decarbonise at the same time as growing an economy faster in a world where countries that have strong positions in industry and still use substantial quantities of coal, gas and oil.

The IMF has set up a Resilience and Sustainability Trust to promote more green investment, and a Poverty Reduction and Growth Trust. It also expanded its issue of Special Drawing Rights in 2021 creating an additional $650bn. The advanced countries offered some of their allocation to lower-income countries on top of the allocation to these emerging countries. The IMF works with the World Bank and Development banks to channel more loans to emerging market countries.

The IMF favours structural reforms

The IMF proposes various market reforms when it is lending money to countries. It currently argues that there is capital misallocation and urges countries to find ways to channel more capital to the most productive uses. It sees the possible upside from digitalisation and artificial intelligence. It recommends targeted public spending increases to tackle poverty and inequalities. It offers country-by-country advice and reviews, along with country economic forecasts that add up to its world estimates. It sees the emerging countries with an increasing role in the world economy, as weight of population numbers allied to faster growth in income per head shift the balance of economic power. On their current numbers, the advanced countries account for 58% of world output. The US is 26% of world GDP but only 4.3% of world population.

We have assumed growth of around 3% for the world economy, with China around 5%.

The IMF often gets forecasts wrong, but its outline of the likely growth rate this year and its direction of travel for the world economy makes sense. We have assumed growth of around 3% for the world economy, with China around 5%. It does not comment on whether their creation of $650bn in 2021 had any impact on inflation or output. It was clearly not as large an intervention as those by the leading central banks led by the Federal Reserve and European Central Bank.

It also does not go into how productive their recommended large investments in green transition will prove nor consider fully the high costs of the planned wide-ranging changes to get to ‘net zero’. Much will depend on how efficient the new forms of transport, heating and industrial process are and how quickly consumers take them up to lower the unit costs of production.

The balance of fiscal and monetary policy

The meeting has not given us new insight into when advanced country central banks will cut rates, delayed as they have been by a slower rate of inflation decline than markets hoped. The IMF warns central banks not to give up on the fight against inflation prematurely – nor to over prolong the anti-inflation response without saying what that means.

Rates are staying higher for a bit longer, but inflation is falling on both sides of the Atlantic with rate cuts to come. In the US a large fiscal expansion has offset some of the monetary tightening, allied to the dominance of US digital activity and its growth.

In Europe, there has been less offset to the higher interest rates from fiscal activity, and there has not been the same surge in home-grown technology output. The US has benefitted from plenty of relatively cheap oil and gas at home whilst Europe has had to adapt to more expensive energy imported from abroad. It means we should expect different policy responses from central banks from here, as the Federal Reserve expresses more caution about early rate cuts.

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IMF predicts soft landing

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