Economics 17/08/2009: Global Recession is Over - IMF

Per IMF's Chief Economist, Oliver Blanchard, the global recession is now over and a recovery has begun. "The turnaround will not be simple," Blanchard wrote, as "The crisis has left deep scars, which will affect both supply and demand for many years to come." Blanchard expects growth start occurring in 'most countries', but at low rates - not enough to shift unemployment off its highs.More importantly, Blanchard argues that potential global output may have been permanently reduced and that any growth to take place in the short run will still remain highly dependent on government stimulus and accommodating monetary policies. Sustaining growth "will require delicate rebalancing acts, both within and across countries," he said

Now, of course for Ireland, this is not much of a welcome news. Our fiscal stimulus is perverse NAMA sucking cash out households' pockets, plus the widely anticipated and media-supported tax hikes in the next Budget. Our monetary easing is there solely to help the banks, who in turn are now raising mortgage rates.

Per Blanchard, US consumption (ca 70% of the US GDP) and most of global demand will be very slow to return to pre-crisis levels. These long-term declines are driven primarily by wealth effects due to the fall-offs in personal wealth on the back of housing and stock markets collapses. Blanchard, who devoted much of his academic career to the models of nominal and real rigidities remarked that he perceives the crisis legacy as having made Americans more aware of the unlikely events that can yield catastrophic consequences. This is known in the literature as "tail risks". The likely result of this will be a permanently higher rate of savings in the US and elsewhere around the world, leading to lower consumption, but cheaper financial capital.

Interestingly, Blanchard apparently ignored the issue of increased risk aversion that might also accompany the fear of 'tail risks'. If this does materialise, higher risk aversion can shift the burden of financing the latest crisis off the fiscal authorities (through lower yields on bonds) onto the shoulders of already strained corporates (with higher required returns to equity financing). The resultant knock-on effect will be to double the adverse risk of lower consumption by the households, reducing potential rate of growth globally.

Global rebalancing to address this new reality will require, in Blanchard's view :

• "Both higher Chinese import demand and a higher (yuan) will increase U.S. net exports";
• Higher domestic consumption growth in China (effectively replacing the US as the main consumption growth player in global economy);
• Lower current account surpluses in China; and so on

Thus Blanchard's view has not really change that much since the beginning of the crisis and even further back. Even in the late 1990s the IMF kept sounding alarms about the Sino-US imbalances.

Another long-term challenge is decoupling the real economy off its dependence on state spending. This will be painful, as current stimuli around the world spell higher taxation in the future and thus lower future growth. "In nearly all countries, the costs of the crisis have added to the fiscal burden, and higher taxation is inevitable," Blanchard said. "All this means that we may not go back to the old growth path, that potential output may be lower than it was before the crisis," he added.

What's there to say about our country, then - a cost in tens of billions and no stimulus in return... aka NAMA.