It sounds like some medieval curse that the Wizard Wobegone called down upon the elves of Myrtle, in response to their kidnapping of the Princess Petrushka, but this is in fact how the IMF described the current global economic and financial market situation.
IMF Managing Director Kristalina Georgieva said the global economy faces its biggest test since WW2.
The war in Ukraine has compounded the Covid 19 pandemic – “a crisis upon a crisis” – devasting lives, dragging down growth and pushing up prices. The IMF is also concerned that all of this is happening at a time of tightening financial conditions and increased financial market volatility.
And the IMF feel our ability to respond to these calamities is hampered by what it labels “geoeconomic fragmentation”. By this, they effectively mean the rollback of the freeing up of flows of capital, goods, services and people which in the past three decades have transformed the world. This globalisation boosted productivity and living standards, tripled the size of the global economy, and lifted 1.3 billion people out of extreme poverty.
But now we run the risk of slipping into a world of higher tariffs, outright trade bans and less effective supply chains. The Fund believe that trade uncertainty alone reduced global GDP by 1% in 2019. Since the start of the war, around 30 countries have restricted trade in food energy and other key commodities.
The message from the IMF is to strengthen trade and to strengthen trust.
This is hard to see in the current environment and it points to a worse outcome that what consensus thinking is today. Currently the IMF are forecasting sub 4% growth for 2022 and 2023, which if we got them, I think would be more than acceptable. Given their newly expressed concerns, I could see those forecasts being revised and the prospect of recession looming larger.
The mood music in economic and market commentary has clearly shifted since the war began and many at Davos for example spoke about the risk of a global recession. In financial markets, while the talk in the first third of the year was more about inflation, there has been a clear shift to worrying about growth.
Several factors have driven this. Surging prices for energy and soft commodities could knock several percentage points off growth forecasts. Central Banks, notably the US Federal Reserve now seem to be in a catch up mode with much more aggressive hiking of rates, at times invoking the memory and spirit of Paul Volcker in the 1980’s, where US economic growth was choked off to solve the then inflation problem.
While there are some tentative signs that inflation may have peaked – core inflation in the US has been more or less unchanged in the past three months. The question will be how sticky it is to come down to allow Central Banks relax.
Those in the recession camp have also been boosted by signs from the US bond market, namely a fleeting inversion, that recession is on the way. Global economic activity is slowing and all forecasts are being revised lower.
What could push us into a recession?
Certainly in Europe double digit inflation, were it continue at length, would erode consumer confidence and divert resources from economic activity – and we have yet to see the full impact of food shortages were the war in Ukraine to continue.
Central bank policy would be another concern. There have been 60 individual rate hikes in the past three months by the world’s major central banks and some fear that in the race to ensure they are not “behind the curve”, overly aggressive action could impair growth.
Finally there is always the risk that we simply talk ourselves into a recession if we put spending plans on hold, hold off on big ticket items or businesses cut back on investment.
The IMF is right to stress the importance of improving trade and trust.
Tradewinds 