The OECD on Monday delivered a rather large cut their outlook for global growth.
This is hardly surprising under the circumstances, but the headline was just another slap in the face for market participants who, by now, are weary of hearing about just how deleterious the effects of various shut-ins, travel restrictions and quarantines are likely to be.
Back in September, the OECD called for urgent action to address the myriad headwinds to economic activity across the globe. Two months later, in November, the organization reiterated its forecast of 2.9% growth for the global economy. Although that would be the weakest annual growth rate since the crisis, the report adopted a somewhat optimistic tone.
On Monday, that optimism largely disappeared when the Paris-based group slashed its forecast to just 2.4%. The cuts to the outlook spare virtually no major nation.
“The virus risks giving a further blow to a global economy that was already weakened by trade and political tensions”, Chief Economist Laurence Boone said, adding that “governments need to act immediately to contain the epidemic, support the health care system, protect people, shore up demand and provide a financial lifeline to households and businesses that are most affected”.
01.03 IEO presentation March 2020 (WEB) (2)This comes just a week after news that global trade contracted in 2019 for the first time since the crisis, according to CPB’s world trade monitor.
The IMF has, of course, repeatedly slashed its outlook for global growth in the face of trade headwinds. Late last month, in a begrudging acknowledgement of the threat posed by virus, the fund cut its outlook again during the G20 finance ministers meeting in Riyadh.
As for the OECD’s latest report, here is the full passage from the baseline forecast:
On this basis, global GDP growth is projected to slow from 2.9% in 2019 to 2.4% this year, before picking up to around 3¼ per cent in 2021 as the effects of the coronavirus fade and output gradually recovers (Figure 6). Announced and implemented policy actions incorporated in the projections will help to support incomes in the near term, particularly those well-targeted on affected firms and households. Macroeconomic policy stimulus in the most exposed economies will help to restore confidence as the effects of the virus outbreak and supply-side disruptions fade. Low interest rates should help cushion demand, although the impact of recent and projected changes in policy interest rates on activity is likely to be modest in the advanced economies. Fiscal policy easing will also help in Asian economies, but it appears likely to be more restrictive than desirable in many others, particularly in Europe, given soft growth prospects and low borrowing rates. Household spending continues to be underpinned by improving labour market conditions, but slowing job creation is likely to weigh on income growth, and persistent weak productivity growth and investment will check the strength of real wage gains. Uncertainty is likely to remain elevated, with trade and investment remaining very weak. The downturn in financial market risk sentiment, and reductions in business travel and tourism are also likely to constrain demand growth for some time.
The group also offers up a “domino scenario”, which would theoretically unfold as follows:
A “domino” scenario: broader contagion This illustrative downside risk scenario considers the potential effects if the outbreak of the virus in China were to spread much more intensively than at present through the wider Asia-Pacific region and the major advanced economies in the northern hemisphere in 2020. In this event, demand is likely to be significantly hit across much of the world for an extended period. Together, the countries affected in this scenario represent over 70% of global GDP (in PPP terms). While the extent of the restrictions on movement currently seen in China may not be fully replicated everywhere, many of the economic impacts are likely to be similar, with a significant hit to confidence, heighted uncertainty and (voluntary) restraints on travel and commercial and sporting events all likely to depress spending.
The additional shocks considered in this scenario are:
-
- Domestic demand in most other Asia-Pacific economies, including Japan and Korea, and private consumption in the advanced northern hemisphere economies is reduced by 2% (relative to baseline) in the second and third quarters of 2020.
- Global equity prices and non-food commodity prices are lowered by 20% in the first nine months of 2020.
- Heightened uncertainty is modelled via an increase of 50 basis points in investment risk premia in all countries in 2020.
- These shocks are assumed to decline gradually through 2021.
Key results of this scenario are:
-
- Overall, the level of world GDP is reduced by up to 1¾ per cent (relative to baseline) at the peak of the shock in the latter half of 2020, with the full year impact on global GDP growth in 2020 being close to 1½ per cent (Figure 8). Initially, the adverse impact is concentrated in China, but the effects in the rest of Asia, Europe and North America gradually build up through 2020. The major part of the decline in GDP again stems from the direct effects of the reduction in demand, but the impact of heightened uncertainty accumulates gradually (Figure 8, Panel A). World trade is substantially weaker, declining by around 3¾ per cent in 2020, hitting exports in all economies.
- The deflationary effects of the combined shocks are considerably larger than in the base-case scenario, with consumer price inflation pushed down by around 0.6 percentage point in 2020 in the OECD economies.
- Steps to enhance monetary policy accommodation in the major economies and the automatic fiscal stabilisers help to cushion the overall impact of the shock, though their full effects take time to emerge. In the advanced economies with sufficient policy space, policy interest rates are lowered, on average, by around 1 percentage point in 2020. Use of the automatic stabilisers and the substantial hit to GDP result in sizeable increases in budget deficits, despite lower borrowing costs. In the median advanced economy, the budget deficit rises by a little over 0.5% of GDP in 2020.
- Faced with a large negative shock of the magnitude considered, and an extended period of high uncertainty, there would be a rising chance that several central banks could become constrained by the zero lower bound on policy interest rates, including those in Australia, Korea and the United Kingdom. Unconventional policy measures would then be needed to make policy more accommodative.
The increasing constraints on monetary policy suggest that a swift and sizeable discretionary fiscal response would be needed in event of a scenario of this type occurring. This reinforces the need for stronger global policy co-operation. When significant downside risks materialise with global growth set to be significantly weaker than projected, co-ordinated policy action within and across all the major economies is necessary for effective and timely economic stabilisation
While monetary policy continues to work towards bolstering growth using the increasingly limited ammo at its disposal, this situation remains troublesome.
Markets on Monday were awash with chatter about imminent central bank easing and, while the OECD emphasizes the importance of monetary accommodation, they caution on the limits of rate cuts and liquidity injections in the absence of fiscal stimulus. To wit, from the report:
The additional headwinds and uncertainty related to the coronavirus outbreak make it essential for monetary policies to remain supportive in all economies to ensure that long-term interest rates remain low. Policy has already become more accommodative over the past year in many countries, with widespread cuts in interest rates and enhanced forward guidance that policy easing will be forthcoming in both advanced and emerging-market economies, and the restarted net asset purchase programme by the ECB. Moves to enhance monetary policy accommodation are likely to be reflected quickly in asset prices and private sector sentiment. However, after a prolonged period of low or negative policy interest rates the impact of additional monetary policy measures on demand and inflation may be only modest, particularly in the absence of other fiscal and structural policy support.
For those inclined, the full report is below.
