News Room - Business/Economics

Posted on 09 Jun 2008

Are we staring at a global recession?

The questions remain as to whether the global economy will go into a recession and whether emerging economies, especially in Asia, can pull through by their growth momentum. An IMF report says there is a one-in-four chance of a recession this year. There are those who argue otherwise, pointing out that the global economy's dynamics are different today.

WITH the higher food prices, fuel subsidy reduction and the upcoming hike in electricity tariff rates, Malaysians are now faced with tough times as their lifestyles and spending patterns take a hit.

Add in the higher prices of various commodities essential for any economy to function and the lingering fallout from the subprime crisis on the more advanced economies, and the picture gets even gloomier.

While the pundits never had any doubt that the world would face slower economic growth this year and going into next year, it was not until it struck closer to home in the form of higher fuel and energy bills that Malaysians actually sat up and took notice.

Since economies are now connected via numerous trade links and complicated supply chains, what would slower growth in major economies, especially the United States, do for other economies that are export-intensive?

Earlier in the year, the argument was that emerging economies would feel less of an impact from a slowdown in the developed economies because they were still booming and that it would mitigate any slowdown in the rest of the world.

(Graph 1)

With rising inflation affecting every country and the continuing subprime crisis still impacting a large part of the global financial markets, how much of that argument still holds?

The talk now is of a recoupling of emerging economies, especially in Asia. A recoupling, in the Asian context, means more trade among Asian economies and less dependency on the developed economies of the US and the euro area.

The International Monetary Fund (IMF), in its World Economic Outlook report in April, said there was a 25% chance that the global economy would face a recession if growth was 3% or lower this year and next. It had also lowered the growth outlook for the global economy to 3.7% from 4.2% in January.

The report cited the unfolding financial market turmoil as the biggest downside risk to the global economy and that growth would be little better next year.

The IMF said inflation continued to be a serious concern with headline inflation (which includes food and energy prices) increasing throughout the world while core inflation, which excludes food and energy, was edging up.

“Inflation is rising more markedly in many emerging and developing economies, driven by a combination of the continued buoyancy of food and energy prices, strong demand and credit growth,” it said.

It added that commodity prices remained strong in the early part of the year, notwithstanding the market turmoil and slowing growth in the major advanced economies.

The IMF said from last February to February this year, its commodity price index rose by 44%.

“Strong demand from emerging economies has accounted for much of the increase in commodity consumption in recent years and has been the driving force in the price run-up,” it said.

When the US sneezes

The US economy continued to be of concern to the IMF, which said that a “mild recession” was possible due to deteriorating financial market conditions and the continuing correction in its housing market. It said the US might only recover modestly next year owing to the time it would take for financial institutions and households to resolve their balance sheet problems.

“The ongoing financial crisis has led to persistent liquidity shortages, pressure on capital of banks and other financial institutions, increasing credit risks and sharply falling prices of mortgage-related and other structured securities as well as of equities,” the report said.

It noted that the worsening market conditions and the growth standstill in the US has affected economic activity in other advanced economies, especially in western Europe where growth is expected to remain sluggish in 2008 and 2009.

“The potential impact of softening house prices in many countries is a source of concern,” the report said.

Asia shielded from US recession

However, there are those who take a more positive view of the state of the global economy, especially as it relates to the emerging economies. London-based global asset management company Schroders plc, which has US$259.6bil in assets under management, is one of them.

While it is more cautious of the outlook for inflation due to the high commodity prices, Schroders' forecast suggested that as much as half of this year's increase in global gross domestic product (GDP) growth would come from the emerging regions.

Its chief economist Keith Wade said in this month's Global Economic Outlook report that the world was not as dependent on the US for its growth.

“The last time the US was in recession in 2001, global GDP growth was around 1.5%, this year it will be just below 3%, so while the pace of economic growth has moderately slowed this year, we're by no means looking at a US-led global recession,” he said.

However, Wade said growth in the emerging countries bring with it a host of new issues, notably inflation. “The challenge now faced by the world's central banks is to try to prevent rising commodity prices from spilling over into a general rise in inflation,” he said, adding that inflationary pressure would also leave central banks with less room for cutting rates.

Standard & Poors (S&P), a rating agency, said that while strong regional drivers would help to insulate Asia from the adverse impact of a moderate US recession, “the worsening outlook for the US in the wake of developments during 2007 has also contributed to lower growth expectations for the Asia-Pacific region.”

(Graph2)

It said there would be lower growth for 2008 and 2009 compared to the preceding two years for all countries in the region.

S&P Asia - Pacific chief economist Subir Gokarn said in a recent report that although the region's growth rates would slow somewhat, the slack would be picked up by the fast-paced growth of China and India, which would continue to grow at an annual rate of 8% over the next two years.

“An important factor in the region's resilience is Japan's return to positive growth,” Gokarn said.

He said that although Japan's growth would slow down from the 2% or so it achieved in the last couple of years, “the expectation that growth will continue, even in a changed global scenario, is a reflection of the buoyancy that the faster-growing economies in the region brings to the neighbourhood.”

“Japan's growth, in turn, reinforces the growth impulses in other countries in the region,” Gokarn said.

He said that while Asian economies were still heavily export-oriented with a still largish exposure to the US, there was increasing integration in the neighbourhood as well as the signing of trade and commercial agreements with countries outside the region.

Gokarn said managing the higher inflation risk would be the most important challenge facing policymakers across the region, as it might adversely affect performance over the next two years.