World Economic Outlook Another Strong YearAnd · PDF fileWorld Economic Outlook Another Strong...

World Economic OutlookAnother Strong Year…And Then What?

Nariman BehraveshChief Economist

Copyright © 2006 Global Insight, Inc. 2

Outline of the Presentation

• The “Great Moderation”: A Permanent Feature of the World Economy or a Temporary Phenomenon?

• The World Outlook: Is the Risk of a Boom-Bust Rising?

• … And, As the U.S. Economy Slows, Will Other Regions Pick Up the Slack?

• Despite the Recent Cyclical Pickup in Europe, the Medium- to Long-Term Challenges Remain Enormous

The “Great Moderation”A Permanent Feature of the World Economy

orA Temporary Phenomenon?


The “Great Moderation” – Salient Features

• Lower growth volatility


The “Great Moderation” – World Real GDP Growth

012345678

1951 1956 1961 1966 1971 1976 1981 1986 1991 1996 2001 2006 2011

(Percent change)



• Lower growth volatility• Lower levels and volatility of inflation


The “Great Moderation” – G-7 Inflation

0

2

4

6

8

10

12

14

1962 1967 1972 1977 1982 1987 1992 1997 2002 2007

(G-7 GDP price deflator, percent change)




• Lower levels and volatility of inflation

• Lower levels and volatility of interest rates (both short and long term, both real and nominal)…


The “Great Moderation” – Short-Term Interest Rates

0

3

6

9

12

15

1956 1961 1966 1971 1976 1981 1986 1991 1996 2001 2006 2011

Germany Japan United States

(Percent)


The “Great Moderation” – Long-Term Interest Rates

0

3

6

9

12

15

1956 1961 1966 1971 1976 1981 1986 1991 1996 2001 2006 2011


(Percent)


The “Great Moderation” – Real Long-Term Rates

-15-12-9-6-30369

1956 1961 1966 1971 1976 1981 1986 1991 1996 2001 2006 2011


(Real long-term interest rates, percent)






• …But greater financial volatility (stock market crashes, foreign exchange crises, etc.)


Dollar/Euro Exchange rate

0.0

0.3

0.6

0.9

1.2

1.5

1.8

1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010

(U.S. dollars per euro)


Yen/Dollar Exchange Rate

050

100150200250300350400

1953 1958 1963 1968 1973 1978 1983 1988 1993 1998 2003 2008

(Japanese yen per U.S. dollar)






• …But greater financial volatility (stock market crashes, foreign exchange crises, etc.)

• Which period was the anomaly: The 1970s and 1980s or the 1990s and the 2000s?


The “Great Moderation” – Plausible Explanations

• Better macro policies (especially monetary policies)

• Greater reliance on capital markets

• Increased global competition (including the deflationary impact of China’s rise on manufactured goods markets)

• Deregulation and increased domestic competition

• The rise of the service sectors

• Rapid technological changes, and improved productivity growth in some countries


The “Great Moderation” – What Could End It?

• Much higher oil prices and an increase in inflation rates – what matters is not so much how high oil prices get, but how they gethigh


15

30

45

60

75

2002 2003 2004 2005 2006 2007

(U.S. dollars per barrel, WTI)

Oil Prices Will Stay High for a While


0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 20050

10

20

30

40

50

60

70

Nonferrous Metals (Left scale) Crude Oil (Right scale)

(1994-95=1.0)

With OPEC Surplus Gone, Oil Is Now Just Another Cyclical Commodity

(WTI, $/barrel)


-2

0

2

4

6

8

NAFTA OtherAmericas

WesternEurope

EmergingEurope

Japan Other Asia

2004 2005 2006 2007

(Percent change)

Will Inflation Stay Low?




• A sharp rise in long-term interest rates, which could lead to a housing crash


0

1

2

3

4

5

6

7

1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

U.S. Eurozone Canada Japan U.K.

(Percent)

Most Policy Interest Rates Are Rising, But Remain Low





• The ever-rising U.S. current account deficit and a “hard” landing of the dollar – how serious of a threat is this really?


-1,000

-800

-600

-400

-200

0

200

400

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

United States Western Europe Japan Asia exc. Japan

(Billions of dollars)

Current Account Imbalances


U.S. Current Account Balance as a Percent of GDP

-7.5

-6.0

-4.5

-3.0

-1.5

0.0

1.5

1980 1983 1986 1989 1992 1995 1998 2001 2004 2007 2010


Net Foreign Debt “Projection”

Norway (1977)U.S.(1894) U.S. (2003)

Mexico (1980)

Argentina (1980)

Brazil (1980)

U.S. (2007)

New Zealand (1999)

Ireland (1983)Australia (1996)

Finland (1994)Sweden (1994)

Canada (1980)

0

20

40

60

80

100

1999 2004 2009 2014 2019 2024 2029 2034

(Percent of GDP)

Source: IMF; Obstfeld & Rogoff


U.S. Net Foreign Debt – Problem or Not?

-30

-20

-10

0

10

201980 1983 1986 1989 1992 1995 1998 2001 2004

(Percent of GDP)





• The ever-rising U.S. current account deficit and a “hard” landing of the dollar – how serious of a threat is this really?

• Protectionism

• Macro policy mistakes

• Bottom line: Chances are good that the “Great Moderation” will last a while longer, because the underlying causes are more structural than cyclical

The World Outlook:Is the Risk of a Boom-Bust Rising?

andAs the U.S. Economy Slows,

Will Other Regions Pick Up the Slack?


Is the Risk of a Boom-Bust Rising?

• 2006 will be the third year of above-trend global growth

• U.S. growth will be strong in the first half – how much of a housing-induced slowdown in the second half?

• Eurozone growth has rebounded – but for how long?

• Japan’s recent growth rate has been remarkably strong –but can it last?

• There appears to be no slowing in China’s boom

• Record or near-record commodity prices are helping many emerging markets


-9

-6

-3

0

3

6

9

12

1999 2000 2001 2002 2003 2004 2005 2006

United States European Union Japan

(Annualized 6-month percent change)

OECD Leading Indicators Signal Acceleration


-2-10123456

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

Real GDP Industrial Production

(Percent change)

Growth in the World Economy


Signs of Stress?

• Core inflation is edging up

• Bond markets are getting a little more jittery

• Iceland, New Zealand, and Hungary have come under some financial stress – is this a sign of things to come?

• Stock markets in the Middle East have plummeted, despite continued high oil prices

• While a repeat of the Emerging Markets crisis of the 1990s seems unlikely, many economies are vulnerable to high interest rates in the G-7 and a drop in commodities prices


As the U.S. Slows, Will Others Pick Up the Slack?

• U.S. consumer spending is likely to slow as the housing market cools – the only question is how much

• Consumer spending in Japan is showing signs of life…

• …However, Eurozone consumers remain very cautious

• While consumer spending in China and India will eventually rival that of the U.S., it will take some time before the “baton is passed” to these emerging giants


0

2

4

6

8

NAFTA OtherAmericas

WesternEurope

EmergingEurope

Japan OtherAsia

Mideast &Africa

2004 2005 2006 2007

(Percent change)

Real GDP Growth Is Still Uneven Across the World


World Real GDP Growth Contributions

301415Western Europe

282829United States

1058Japan

244India

51815China

243737Asia-Pacific

Percent of World GDP in

US$, 2005

Percent of World Growth,

2005–25

Percent of World Growth,

2000–05


United States – At a Crossroads?

• Big uncertainties for the United States– How much will core inflation rise?– How bad will the housing slump be?– The rise in interest rates will be determined by the answer to

these questions• Strong productivity gains and Fed vigilance will keep inflation

under control• Good news: Robust capital spending (thanks to very strong

corporate profits) and exports (thanks to a weaker dollar and a booming world economy) will offset weaker growth in consumer spending and housing

• Risk: Will protectionist pressures get much worse as the economy slows?


United States

-1,000-800-600-400-200

0

2000 2002 2004 2006 200880

90

100

110

120

2000 2002 2004 2006 2008

0

1

2

3

4

2000 2002 2004 2006 2008012345

2000 2002 2004 2006 2008

Real GDP Growth Inflation

Real Exchange Rate* Current Account Balance**

*FRB broad index, March 1973=100**Billions of U.S. dollars

(Percent)


Eurozone – How Long Will the Rebound Last?

• Good news: Capital spending and exports have strengthened• Good news: Inflation remains tame• Key uncertainty: When will consumer spending pick up?• Business confidence remains much stronger than consumer

confidence• Business surveys are stronger than the hard data• Headwinds

– Rising interest rates– A stronger euro– Tighter fiscal policy– Political turmoil and paralysis


Eurozone

-60-30

0306090

2000 2002 2004 2006 20080.5

0.7

0.9

1.1

1.3

2000 2002 2004 2006 2008

1.5

1.8

2.1

2.4

2.7

2000 2002 2004 2006 20080

1

2

3

4

2000 2002 2004 2006 2008


Exchange Rate per US$* Current Account Balance**

*Year-end**Billions of U.S. dollars

(Percent)


0

1

2

3

4

France Germany Italy Spain U.K.

2004 2005 2006 2007

(Percent change)

Real GDP Growth Rates Vary Across Europe


0

1

2

3

4

Belgium Netherlands Norway Sweden Switzerland

2004 2005 2006 2007

(Percent change)

Real GDP Growth Rates Vary Across Europe


Japan – Good Progress, But Many Challenges Lie Ahead

• Corporate and financial restructuring has come a long way – but the adjustment is still incomplete

• A more pro-active monetary policy is bringing an end to the era of deflation

• The growth rebound has been broad-based

• Short-term challenges

– A stronger yen

– Higher interest rates

– Tighter fiscal policy


-2

0

2

4

6

8

1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010

(Real GDP, percent change)

After the “Lost Decade,” Japan Moves Forward


Japan

050

100150200250

2000 2002 2004 2006 200875

90

105

120

135

2000 2002 2004 2006 2008

-2-10123

2000 2002 2004 2006 20080

1

2

3

4

2000 2002 2004 2006 2008




(Percent)


Japan – Good Progress, But Many Challenges Lie Ahead

• Corporate and financial restructuring has come a long way – but the adjustment is still incomplete

• A more pro-active monetary policy is bringing an end to the era of deflation

• The growth rebound has been broad-based• Short-term challenges

– A stronger yen– Higher interest rates– Tighter fiscal policy

• Long-term challenges– Rapidly aging population– High debt levels– Inefficient service sector


0 30 60 90 120 150

Italy

France

Germany

United States

Canada

United Kingdom

Japan

1991 2003

Japan’s Heavy Household Debt Burden

(Household debt as a percent of disposable income)

Source: OECD


0 20 40 60 80 100 120 140 160 180 200

United Kingdom

Canada

France

United States

Germany

Italy

Japan

(Government debt as a percent of GDP, 2005)

Japan’s Heavy Public Debt Burden


Asia Is Supporting World Growth

• Asia will remain a powerhouse of global growth in 2006, with only a modest deceleration

• Momentum is shifting from exports to domestic demand, resulting in more-balanced growth – although growth is still too export-dependent

• Central banks are gradually raising interest rates to counter inflationary pressures, but policies remain accommodative

• Inflation remains under 4% in most Asian economies –exceptions include Indonesia, India, and the Philippines

• High saving rates relative to investment rates mean that these economies will continue to be capital exporters

• Exchange rates across Asia will rise as part of a global trade adjustment


Asia-Pacific’s Key Economies

• China’s rapid growth will eventually decelerate as the government curbs excessive state investment

• India will maintain high growth, led by its software, biotech, and business and financial services industries

• South Korea’s economy is accelerating as consumer spending rebounds and capital investment strengthens

• A gradual slowdown exports to the U.S. and China will temper growth in Taiwan and Hong Kong

• Despite surging investment in the mining sector, Australia’s economic growth is restrained by a strong currency, cooling housing market, and rising debt burdens


Real GDP Growth in Asian Economies

0

2

4

6

8

10

12

China South Korea India Taiwan Hong Kong

2004 2005 2006 2007

(Percent change)


0

2

4

6

8

10

Australia Indonesia Singapore Malaysia Philippines

2004 2005 2006 2007

(Percent change)

Real GDP Growth in Asian Economies


China Is Emerging as a Global Economic Power

• China’s rapid expansion has been driven by exports and investment

• Growth will moderate as investment and exports decelerate, while imports accelerate and consumer spending picks up moderately

• Price controls in the energy sector have created inefficiencies and excess investment in energy-intensive industries

• Under the new managed float, the renminbi will appreciate modestly and gradually, by about 3–5% annually

• China’s closed and rigid political system will become increasingly incompatible with its market-oriented economy over the long-term


China

0

30

60

90

120

2000 2002 2004 2006 20086.5

7.0

7.5

8.0

8.5

2000 2002 2004 2006 2008

-2

0

2

4

6

2000 2002 2004 2006 20080

3

6

9

12

2000 2002 2004 2006 2008




(Percent)


India Will Sustain 6–7% Real GDP Growth

• Economic reforms are slowly gaining momentum, opening the economy to more trade and foreign investment

• Information technology services, pharmaceuticals, business outsourcing, and financial services are driving export growth

• India’s labor force has strong engineering and analytical skills, an advantage in high-value manufacturing

• The population of 1.1 billion is growing 1.5% annually

• But India is still a relatively closed economy with high tariffs, an overbearing bureaucracy, inadequate infrastructure, and a huge fiscal deficit


India

-45

-30

-15

0

15

2000 2002 2004 2006 200842

44

46

48

50

2000 2002 2004 2006 2008

3.63.94.24.54.85.1

2000 2002 2004 2006 200802468

10

2000 2002 2004 2006 2008





Other Emerging Markets Are Enjoying the Boom

0

2

4

6

8

10

Central Europe &Balkans

Commonwealthof Indep. States

Middle East &Africa

Latin America &Caribbean

2004 2005 2006 2007

(Real GDP, percent change)


Latin America Is Growing, But Risks Are High

• A growing world economy, competitive currencies, and high commodity prices are supporting Latin American growth, but a retreat from market reforms of the 1990s dims long-term prospects

• Mexico’s economy has rebounded, but progress on structural reforms has been slow and the political transition is uncertain

• In Brazil, corruption scandals have weakened the ruling party, while high interest rates are restraining growth

• Argentina’s economy has rebounded strongly, but production bottlenecks are fueling double-digit inflation

• In Venezuela, the oil windfall has enabled President Chavez to increase public spending, but macroeconomic imbalances are accumulating under price and exchange rate controls

• Chile’s growth will be supported by high copper prices, a favorable investment climate, and fiscal surpluses


Emerging Europe Is Still Attracting Investment

• A pick-up in Eurozone economies in 2006 will boost exports

• Countries that joined the European Union in May 2004 are benefiting from foreign investment and transfer payments

• Political stability has led to an investment boom in Turkey

• Falling trade barriers, low costs, and privatization will spark industrial development in Romania, Bulgaria, and Croatia

• Turkmenistan, Azerbaijan, and Kazakhstan will achieve the highest growth rates as a result of oil and gas development

• Russia’s strong economic growth is overly dependent on energy; an appreciating ruble, the slow pace of reforms, and increasing centralization have elevated investment risks


Middle East Prospers Despite Instability

• Near-term strength in oil export revenues will support public spending, energy-related investment, and economic growth

• The region will enjoy record trade and fiscal surpluses in 2006

• Entry into the World Trade Organization will enable Saudi Arabiato boost non-oil exports and diversify its economy

• In Iran, an unstable policy environment is discouraging needed investments – mounting tensions with the West over Iran’s nuclear program could lead to economic sanctions

• Despite continuing insurgency, Iraq has made considerable progress toward a new political order – its economy is booming


Africa Benefits from Commodity Boom

• Rising commodity prices have helped the region

• Poor governance is a major obstacle to development

• Capital flight, the AIDS epidemic, and political instability hinder growth in Sub-Saharan Africa

• South Africa is benefiting from rapid growth in capital investment and booming precious metals markets; a strong rand has restrained exports


A Comparison of Key Emerging Markets in 2005

6.35,350143763Russia

42,050

12,890

7,260

4,320

725

1,700

GDP per Capita ($)

297

24

106

184

1,097

1,309

Population(Millions)

6.4306Saudi Arabia

3.512,487United States

3.0769Mexico

2.3796Brazil

7.8795India

9.92,225China

Real GDP Growth, %

GDP ($Billions)

Despite the Recent Cyclical Pickup in Europe, the Medium- to Long-Term Challenges Remain

Enormous


Long-Term Challenges Facing the Eurozone

• Three of the most serious challenges facing the Eurozone

– Decelerating productivity

– Poor university education

– Underutilization of labor force

• Poor productivity growth has less to do with R&D spending and more to do with rigid labor markets and a poor entrepreneurial culture


Total Factor Productivity Growth

-1.5 -1.0 -0.5 0.0 0.5 1.0 1.5 2.0

Italy

Spain

EU-15

France

Germany

United Kingdom

United States

Sweden

1995-2000 2000-2004

(Percent change)

Source: Groningen Growth and Development Center (GGDC), Total Economy Growth Accounting Database


Expenditures on Research and Development

0.0 0.5 1.0 1.5 2.0 2.5 3.0

Spain

Italy

United Kingdom

EU-15

United States

France

Sweden

Germany

1995-2000 2000-2004

(Percent of GDP)

Source: Eurostat


Strictness of Labor Protection

0 2 4 6

(Index*)

* Higher number reflects stronger regulationSource: OECD Employment Outlook 2004

0 2 4 6

France

Germany

Italy

Spain

Sweden

United Kingdom

United States

Regular Employment Temporary Employment

Late 1980s Late 1990s 2003


Product Market Regulation

0.0 0.5 1.0 1.5 2.0 2.5 3.0

United Kingdom

United States

Sweden

Germany

Spain

France

Italy

1998 2003

(Index*)

* Higher number reflects stronger regulationSource: Conway, Janod and Nicoletti (2005)


Venture Capital Investment, 2000-04

0.00 0.02 0.04 0.06

(Percent of GDP)

Source: Eurostat0.00 0.02 0.04 0.06 0.08 0.10 0.12 0.14

France

Germany

Italy

Spain

Sweden

United Kingdom

EU-15

United States

Early-Stage Expansion and Replacement








• While Europe was the birthplace of the modern university, no Eurozone universities are now ranked among the top 40 of the world


Educational Attainment, 2002

0 2 4 6 8 10 12 14 16

PortugalItaly

SpainGreeceFrance

BelgiumAustria

HungaryPolandCzech

FinlandSwedenSlovakia

JapanIreland

U.K.U.S.A.

SwitzerlandLuxembourg

DenmarkGermany

IcelandNetherlands

Norway(Average years of schooling, adult population)

Source: OECD


Top World Universities* in 2005

U.S.Univ. of California, San Diego13

U.S.Cornell Univ.12

U.S.Yale Univ.11

U.K.Univ. of Oxford10

U.S.Univ. of Chicago9

U.S.Princeton Univ.8

U.S.Columbia Univ.7

U.S.California Inst. of Tech.6

U.S.Massachusetts Inst. of Tech. (MIT)5

U.S.Univ. of California, Berkeley4

U.S.Stanford Univ.3

U.K.Univ. of Cambridge2

U.S.Harvard Univ.1

CtryInstitutionWorld Rank

GermanyUniv. of Munich51

FranceUniv. of Paris46

SwedenKarolinska Inst. of Stockholm45

U.S.Univ. of California, Los Angeles14

U.S.Univ. of Pennsylvania15

U.S.Univ. of Wisconsin, Madison16

U.S.Univ. of Washington, Seattle17

U.S.Univ. of California, San Francisco18

U.S.Johns Hopkins Univ.19

JapanTokyo Univ.20

Neth.Univ. of Utrecht41

Switz.Swiss Fed. Inst. of Tech, Zurich27

CanadaUniv. of Toronto24

CtryInstitutionWorld Rank

* Ranked by a mix of indicators of academic and research performance, including Nobel prizes and articles in respected publicationsSource: Jiao Tong University, Shanghai


Private Expenditures on University Education

0 10 20 30 40 50 60 70

United StatesUnited Kingdom

SpainSlovakiaPortugal

NetherlandsItaly

HungaryGermany

FranceAustria

2001 1995

(Share of total expenditures on university education)

Source: OECD









• Many of the large Eurozone economies have some of the highest rates of long-term and youth unemployment…


Long-Term Unemployment Rates, 2004

0 10 20 30 40 50 60

United States

Sweden

United Kingdom

Spain

France

Italy

Germany

(Percent of total unemployment, 12 months or longer)

Source: OECD


Youth Unemployment Rates, 2004

0 5 10 15 20 25

United Kingdom

Germany

United States

Sweden

Spain

France

Italy

(Percent of youth labor force, under 25 years old)

Source: OECD









• Many of the large Eurozone economies have some of the highest rates of long-term and youth unemployment…

• ...And some of the lowest labor-force participation rates for women, young workers, and old workers


Labor-Force Participation Rates

0 10 20 30 40 50 60 70 80

Italy

France

Germany

Spain

United Kingdom

United States

Sweden

Ages 15-24 Ages 55+

(Percent)

Source: OECD


0

10

20

30

40

50

United States France Germany Italy

1975 2000 2025 2050

Aging in the U.S., France, Germany, and Italy

(Persons aged 60 years and older as a percent of total population)

Source: United Nations (2002)


0

15

30

45

60

75

Italy France Germany United States

1982 1992 2002*

Female Labor-Force Participation

(Percent of the total female population aged 15-64)

Source: OECD (2003)* The numbers for France and the United States are for 2001 and 2000, respectively


Long-Term Challenges Facing the Eurozone (cont.)

• Poor productivity growth, along with underutilization of labor, will exacerbate the pension funding challenge

• Reforms have been too timid and too focused on cutting benefits rather than freeing up the economies

• The European Social Model has not performed well in the “Age of Schumpeter”

• What the Eurozone needs– More competition in product and labor markets– More private provision of university education– Fewer disincentives to joining or staying in the labor force

• Without reforms, the insider/outsider chasm will inevitably widen and political turmoil will become even worse


Bottom Line

• The structural changes that have brought about the “Great Moderation” are likely to continue

• Still, there is a growing risk of a boom-bust at the global level

• While in the near term Japanese and Eurozone growth has picked up, in the medium term the U.S. and China will continue to be the primary growth engines

• Emerging markets are benefiting from the global boom, but are increasingly vulnerable to higher interest rates and lower commodity prices

• Europe is faced with some daunting (but ultimately manageable) challenges that will require strong leadership – which so far has been lacking

Thank YouNariman Behravesh

Chief EconomistE-mail: [email protected]

The Premier Forum on the Direction of the Global Economy

World Economic Outlook Another Strong YearAnd · PDF fileWorld Economic Outlook Another Strong...

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