If anyone is still in doubt about the main challenges facing the world economy, the International Monetary Fund has done its best to put them right. The fund has published its updated forecasts and the remaining chapters of its reports (we previewed some of the early releases last week). The depressing assessment that emerges from its analyses is that global economic growth continues to be held back by insufficient demand and an overhang of debt - the same barriers since the crisis started.
The fund’s projections, of global growth of 3.1 per cent this year and 3.4 per cent next year, are disappointing. They are also worse than they may sound. As developing economies make up a larger part of the world economy than before, this should mechanically push up global average growth because lower-income economies have faster growth potential than rich ones. That the global average has not picked up reflects that poor performance is seen everywhere.
Maurice Obstfeld, the fund’s research director, summarises the World Economic Outlook forecasts thus: “Compared to the 1998-2007 averages, long-term potential growth is now projected to be lower in all regions, and current growth rates are lower still in much of the world, notably in emerging market and developing economies.”
Obstfeld points to the self-perpetuating nature of the problem: debt overhangs depress demand and weaken banks, creating deflationary pressures and discouraging investment, both of which perpetuate or worsen the demand shortfall and the noxious legacy of debt. “Then there is the gathering political fallout from persistently low growth” that in turn increases support for policies that would cause further economic damage.
Another of the fund’s suite of reports, the Fiscal Monitor, looks more closely at the debt overhang. Global gross debt has never been so large: humanity owes itself $152tn, or 225 per cent of the world’s annual economic production. The IMF’s scary animated graph, reproduced below, illustrates the scale of the problem: global debt jumped in the crisis and has not come down. Much of the debt is private, not public. As the fund explains, in a crisis, private debt tends to become public, and high private debt in any case makes a crisis more likely and more painful when it comes.
All of this supports the policy recommendations that the fund has been making ever more loudly. At the nexus of these mutually reinforcing problems is aggregate demand. “These self-fulfilling mechanisms could be reversed were global demand higher,” Obstfeld writes.
It stands to reason, therefore, that the IMF argues in favour of using macroeconomic stimulus more forcefully. It is useful for the fund to come to the defence of central banks that have taken interest rates negative, and to show that such policies have worked. While the fund pays lip service to structural reforms as well, these have begun to sound decidedly second fiddle. The fund is quite right to say reforms should be prioritised according to how they support growth.
The overhangs of public and private debt, too, would be easier to address if nominal growth was higher, since this would lighten the burden of a given nominal amount of money owed. But this goes two ways: smaller debt burdens would take a brake off growth. On one hand, this is a reason to use other policies to jump-start growth immediately to set off a virtuous cycle from lightening debt burdens to stronger self-sustained growth which continues to bring debts down on its own. On the other, it is an argument to intervene directly to write down debt.
Laudably, the fund does just that. The Fiscal Monitor advocates government policies to encourage writedowns on debt in the nonfinancial sector, but also in the banking sector when necessary.
The fund is - better late than never - expresses the old truth that debt that cannot be repaid will not. Any delay in realising this holds back growth; and conversely, the sooner debt is definitively written down, the faster economic activity resumes. These truths have been known to humanity for millennia - some of the world’s oldest texts and religious traditions call for rules on lending and requirements for debt relief. But these lessons tend to be forgotten in every subsequent economic upturn. We are now relearning them the hard way.
