International Economic Update
Growth Ebbs as Risks Materialize
June 23, 2011
The global economic expansion continues, but headwinds have intensified since the beginning of 2011. Major advanced economies face sluggish growth and uncertainty surrounding central government fiscal balances. Gross domestic product (GDP) growth rates continue to be elevated in large, emerging economies, but the pace of expansion has moderated as price pressures have prompted monetary authorities to increase benchmark rates. Supply disruptions arising from the Japanese earthquake and political unrest in the Middle East, along with the uncertainty of sovereign debt finances in the euro area, still pose downside risks to the global outlook.
Data Show Diminished Growth Momentum
An aggregate measure shows that GDP growth rates dipped in the first quarter for both advanced and emerging economies (Chart 1).
Softer growth is likely the result of higher energy prices from crude oil supply disruptions in Libya and broader regional political unrest, poor weather and the continuing effects of the Tohoku earthquake. Japanese production shutdowns and delays flowing through to industries dependent on its supply chain likely contributed to first-quarter underperformance in the U.S. and U.K. Meanwhile, the euro area surpassed consensus forecasts on the back of strong manufacturing and export activity in Germany, and Canada matched consensus forecasts with year-over-year growth of 2.9 percent in the first quarter (Chart 2).
Industrial production grew moderately from the previous year in the U.S., Canada and euro area, but it remained flat in the U.K. and dropped by more than 12 percent in Japan, reflecting the March 11 earthquake’s prolonged economic effects (Chart 3).
Inflation Rates Rise; Policy Responses Differ
Headline inflation rates in both advanced and emerging economies climbed in the first half of 2011, a trend bolstered by rapid growth in emerging economy industrial activity and capital flows as well as elevated commodity and fuel prices. While some advanced economies—Canada, Australia and the euro area—have raised benchmark policy rates, Japan, the U.K. and the U.S. have not tightened lending since the onset of the financial crisis.
Major emerging economies continue to boost rates to ward off the threat of escalating inflation. As of June 20, China, seeking to stem loan growth, raised its reserve requirement ratio 10 times in 2011, most recently to 21.5 percent for large banks. The Reserve Bank of India lifted its repo, or repurchase, rate by 0.25 percentage points to 7.5 percent on June 16, bringing cumulative tightening to 2.75 percentage points since early 2010.
Greek Default Threat Feeds Sovereign Debt Tension
Sovereign debt finances in the euro area remain a primary risk for the global growth outlook, with uncertainty increasing in the second quarter. Euro-area finance ministers approved a bailout totaling €18 billion for Portugal on May 16. Moody’s placed Italy’s sovereign debt rating on review for possible downgrade on June 17.
The most immediate source of uncertainty is the sustainability of Greece’s financial bailout and future funding needs. On June 13, Standard & Poor's cut Greece’s sovereign rating by three levels to CCC, the “extremely speculative” category. Greece faces punitive rates on its short-term debt amid fears that creditors from the European Commission could allow for longer or reduced repayments on their portion of Greece’s €110 billion bailout fund and demand that private investors follow suit. So far, Greece has not met growth benchmarks stipulated in its rescue packages, casting doubt on the ability of troubled euro-area economies to emerge from crisis without debt default. Bond-yield spreads for Greece, Ireland and Portugal have not narrowed despite support from the International Monetary Fund and fellow euro-area governments (Chart 4).
Looking Toward the Second Half of 2011
At the start of 2011, the global economy appeared poised for a year of strong GDP growth as recovery from the global financial crisis gained footing, equity markets approached prerecession levels and leading indicators such as Purchasing Managers Index (PMI) measures signaled expansion. As midyear arrives, momentum has flagged due to both anticipated and unforeseen risks; signals are unclear whether recent softening is transient or indicative of a more pronounced development.
While progress in the recovery is expected in the latter half of the year, questions of sovereign debt default in the euro area, energy and commodity price instability, and policy responses to inflationary and fiscal pressures will likely dictate the strength of economic expansion in advanced and emerging economies alike.
- Consensus forecasts, published by Consensus Economics, are average figures from a panel of corporate, financial, research and nonprofit organizations.
- PMI measures are indicators based on surveys of firms’ assessment of whether economic conditions are expanding or contracting. They are published monthly by Markit Economics.
About the Author
Odom is a research assistant in the Research Department of the Federal Reserve Bank of Dallas.