After the outbreak of war in Ukraine, inflation spiraling dangerously out of control and punishing waves of coronavirus infections and lockdowns, the IMF had more bad news this week: the pain is far from over and the worst is yet to come.
At the beginning of its annual meetings, held jointly with the World Bank, the multilateral lender warned that the “darkest hour” was ahead. Next year could feel like a recession in much of the world and further sell-off in the markets could not be ruled out.
The twin threats – to growth and financial stability – underlined the formidable challenge facing policymakers from central banks and finance ministries who will gather in Washington in the coming days.
“Downward risks remain high and policy trade-offs are becoming a huge challenge,” Pierre-Olivier Gourinchas, the IMF chief economist, told reporters on Tuesday. “The risk of miscalibration of monetary, fiscal or financial policies has risen sharply at a time of great uncertainty and increasing vulnerability.”
The IMF again lowered its outlook for global growth next year to just 2.7 percent. Even more worryingly, the fund’s economists see a high probability that the economy would do even worse, with a 25 percent chance that growth would fall below 2 percent and a whopping 15 percent chance that it would fall below 1 percent. percent could fall.
Nor is inflation expected to decline any time soon, as advanced economies are expected to face annual consumer price growth of 7.2 percent this year and 4.4 percent next year — a level more than double the long-term growth rate. existing 2 percent target. As borrowing costs rose, so would the fragility of the financial system, acknowledged Tobias Adrian, head of monetary and capital markets at the IMF.
Other analysts shared the fund’s bleak outlook. “The worst slowdown is ahead of us, not behind us,” said Seth Carpenter, chief economist at Morgan Stanley. “We are seeing a really big slowdown and an outright recession in key economic blocs, [such as] the UK and the Eurozone. As far as recovery is concerned, it is only in emerging markets. And even then, [it is] bit lukewarm.”
There is also growing concern that officials’ policy responses will have increasingly pernicious side effects.
Nearly every central bank has moved to sharply higher interest rates to curb inflation. The US Federal Reserve has taken the lead and has embarked on its most aggressive campaign to tighten monetary policy since the early 1980s after initially misdiagnosing the magnitude of the inflation problem.
The fund didn’t even remotely think the job was done, urging monetary policymakers to “hold on” and “stay on track”. Gourinchas stressed that at this stage the risk of “overtightening” and triggering a recession was less than the risk of high inflation becoming ingrained.
The rapid rise in interest rates has threatened to exacerbate a wave of sovereign defaults that has already forced the IMF to engage in talks with members such as Sri Lanka and Zambia. With markets already on edge, the UK government’s decision to reveal £45bn in unfunded tax cuts led to a rise in the country’s borrowing costs and threatened to spark a financial crisis until the Bank of England intervened and said it would buy government bonds.
Adrian acknowledged that the risk would increase that other economies would fall victim to similar financial stability problems.
“There could certainly be financial stability issues and market dysfunction in other countries as well,” he told reporters on Tuesday. The challenge for highly indebted emerging and developing economies will be even greater, likely resulting in a wave of additional defaults.
He said monetary authorities should be prepared to follow the BoE’s lead — to intervene to ensure financial stability and fulfill their traditional role as “lender of last resort” to the financial system.
Increasingly, central banks are being called upon to moderate the pace of tightening — primarily aimed at the Fed, which is considering a fourth consecutive 0.75 percentage point hike at its meeting in early November.
EU chief diplomat Josep Borrell complained this week that “everyone must follow” [the Fed’s higher interest rates]because otherwise their currency will be [devalued]”. World Bank economists have also warned of the negative global impact of the Fed’s actions.
Others argue that by the time aggressive central bank hikes have fully penetrated every corner of the economy, much of the world could be in recession.
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Robin Brooks, chief economist at the Institute of International Finance, a trade organization for global finance, said there was now at least a need to discuss a global “pivot” away from super-large interest rate hikes as he foresaw a much sharper downturn in Europe. and a weaker global economy than the IMF.
Policy makers seem increasingly attuned to these concerns. Fed vice chairman Lael Brainard said Monday that the central bank must continue with its plans to raise interest rates, but do so “deliberately and in a data-dependent manner.” This was, she said, due to “heightened global economic and financial uncertainty”.