February 2, 2011 9:52 AM EST
It is my great pleasure to be back at the Monetary Authority of Singapore. When I was last here, in November 2009, the global economy was tentatively emerging from the Great Recession. Today, growth is recovering across the world. The IMF’s latest forecast, released just last week, is for global growth of 4½ percent this year. This is higher than the average over the last decade, and an upgrade from our October WEO forecast.
But while the recovery is underway, it is not the recovery we wanted. It is a recovery beset by tensions and strains—which could even sow the seeds of the next crisis. I see two dangerous imbalances:
First, the recovery is unbalanced across countries. While growth remains below potential in the advanced economies, emerging and developing economies are growing much faster—and some may soon be overheating.
Second, the recovery is unbalanced within countries. Global unemployment remains at record highs, with widening income inequality adding to social strains.
In my view, we will only get the recovery right if we take a holistic approach to managing the economy—one that focuses not only on standard macroeconomic and financial policies, but also on job creation and social protection. Because without jobs and income security, there can be no rebound in domestic demand—and ultimately, no sustainable recovery.
The two-speed recovery
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Let me begin with how the recovery is proceeding at the global level.
In the advanced economies, we are expecting subdued growth of 2½ percent in 2011, with high unemployment and household debt weighing on demand. In the emerging and developing economies, we are forecasting much faster growth of 6½ percent—with Asia (excluding Japan) expected to grow by 8½ percent.
Looking more closely, we see a worrying development: the pre-crisis pattern of global imbalances is re-emerging. Growth in economies with large external deficits, like the U.S., is still being driven by domestic demand. And growth in economies with large external surpluses, like China and Germany, is still being powered by exports. As the IMF warned in the years leading up to the crisis—and as the G-20 has emphasized—these global imbalances put the sustainability of the recovery at risk.
The “global growth gap” is also straining the recovery in other ways. Energy prices are rising swiftly, reflecting rapid growth in the emerging economies. Food prices are rising too—though here supply shocks are the main reason—with potentially devastating consequences for low-income countries. Together, these prices increase are beginning to feed into headline inflation. Large and volatile capital flows to emerging economies is another challenging development. They are complicating macroeconomic management and in some cases raising concerns about financial stability.
How best to re-balance the recovery? The priorities are by now well-known.
In the advanced economies, the key is to promote growth and job creation. While structural reforms are essential to make these economies more competitive, these reforms are only likely to pay off over time. So what can be done to improve the short term? The most urgent task is to repair and reform financial sector, to reduce risk and pave the way for healthy credit growth.
Restoring fiscal sustainability is another top priority for the advanced economies. The average public debt to GDP ratio is set to exceed 100 percent of GDP this year—and will rise even higher in the absence of medium term adjustment. This could have worrying implications for global growth and even for financial market stability. Where the recovery is strengthening, countries should move quickly to formulate and implement credible medium-term fiscal consolidation plans. In some other countries, consolidation has to go even faster.
At the same time, monetary policy in the advanced economies should remain supportive. As long as inflation expectations are well anchored and unemployment stays high, this is the right policy from a domestic perspective. The accommodative stance in the U.S. has contributed to a welcome decline in long-term rates, while so far having only a limited effect on capital flows to emerging markets.
Turning to the emerging economies more specifically, it is impressive just how well they have weathered the crisis—especially here in Asia. This reflects the wide-ranging financial and structural reforms that many of these countries adopted in the years before the crisis. Indeed, one of the main objectives of the conference that the IMF and the Government of Korea hosted last summer was to see what lessons other countries could learn from Asia’s resilience to the crisis.
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