The OECD has urged Japan and Europe to step up money printing, even while the United States attempts to unwind quantitative easing. With the world economy still underperforming, can Asia’s monetary chiefs manage the fallout?
Releasing Monday its latest Interim Economic Assessment, the Paris-based group cut its growth forecasts for countries including Japan and the United States, urging more stimulus measures to support an uneven global recovery.
“A moderate expansion is underway in most major advanced and emerging economies, but growth remains weak in the euro area, which runs the risk of prolonged stagnation if further steps are not taken to boost demand,” the OECD said in a statement.
Compared to its May forecasts, the 34-nation economic group cut its growth forecasts for the United States by 0.5 percentage point to 2.1 percent in 2014, with the eurozone’s projected expansion trimmed by 0.4 percentage point to just 0.8 percent this year.
For Asia though, it was a mixed picture, with Japan’s forecast growth cut by 0.3 percentage point to just 0.9 percent this year, improving slightly to 1.1 percent in 2015. China’s expected growth rates were left unchanged at 7.4 percent in 2014 and 7.3 percent next year.
“The euro area needs more vigorous monetary stimulus, while the U.S. and the U.K. are rightly winding down their unconventional monetary easing,” the OECD’s deputy secretary-general and acting chief economist Rintaro Tamaki said. “Japan still needs more quantitative easing to secure a lasting break with deflation, but must make more progress on fiscal consolidation than most other countries.”
According to the OECD, Japan’s April sales tax hike to 8 percent caused “volatile demand” in the first half of the year, but the “underlying recovery” should reassert itself in the second half, “reflecting improved confidence, growing employment and a reversal of the decline in real wages.”
The report noted an improvement in Japan’s labor market, with unemployment back to pre-global financial crisis levels and vacancies per job-seeker now ahead of the peaks reached in 2007. It urged the government to press ahead with the planned rise in the consumption tax in 2015 to reduce public debt, “supported if necessary by other measures, particularly further monetary expansion, to manage demand.”
For China, the OECD said the world’s second-biggest economy had succeeded in its economic transition, an outlook key to the rest of the region’s export growth.
“China has so far managed to achieve an orderly growth slowdown to more sustainable rates. Growth rebounded in the second quarter after weakness early in the year, helped by a range of mini-stimulus measures, supported by significant structural reform measures,” it said.
“Policy settings in China are consistent with achieving an orderly growth slowdown, with ebbing inflation pressures providing ample room for stimulus if needed,” the OECD added, noting that Beijing’s main challenge related to local government debt.
The statement came despite growing speculation over China’s growth prospects, with economists urging further monetary relaxation in the wake of slack industrial production and other economic data for August.
There was better news for India however, with the OECD raising its forecast for 2014 growth by 0.8 percentage point from its May prediction to 5.7 percent, rising to 5.9 percent next year.
“In India, confidence and spending have improved markedly during 2014 as a result of progress to control inflation and the perception that the new government will reinvigorate growth-oriented reform. Growth is expected to pick up in both 2014 and 2015,” the OECD said.
Nevertheless, the report said inflation remained above target in India, requiring restrictive monetary policy. It also urged further fiscal consolidation, including a “reduction in subsidies and a shift in expenditure to social and physical infrastructure” as well as tax changes to remove barriers to investment.
Financial Markets ‘Ignoring Risks’
The OECD tempered its somewhat benign outlook though with a warning that financial markets had virtually ignored growing geopolitical risks, including the escalation of conflicts in Ukraine and the Middle East and uncertainty over the United Kingdom’s referendum on Scottish independence.
“The bullishness of financial markets appears at odds with the intensification of several significant risks. A number of equity markets are reaching record highs, sovereign bond yields in several countries are near all-time lows and implied share price volatility in the United States and Europe is around pre-crisis levels. This highlights the possibility that risk is being mispriced and the attendant dangers of a sudden correction,” it said.
Asia’s emerging economies could be hit hard, with the OECD saying many such economies “remain vulnerable to financial market shocks given the build-up of debt, particularly corporate debt, in recent years. The anticipated tightening of U.S. monetary policy could lead to shifts in international financial flows and sharp exchange rate movements that would be disruptive, especially for some emerging economies.”
Urging policymakers to pay attention, the OECD said “the continued failure of the global economy to generate strong, balanced and inclusive growth underlines the urgency of ambitious reform efforts.”
The OECD’s warning over lax financial markets has been echoed by the Bank for International Settlements (BIS), which said in its latest quarterly review that the large amount of international debt held by emerging market companies “could make them vulnerable to any combination of a domestic slowdown, local currency depreciation and higher global interest rates.”
According to the BIS, accommodative monetary policies have contributed to “an environment of elevated asset price valuations and exceptionally subdued volatility.” As BIS official Claudio Borio told the Australian Financial Review: “The illusion of permanent liquidity is just as prevalent now as in the past.”
He warned, “The last time investors were so uncertain about the macroeconomic outlook was in 2007 – just before one of the largest forecast errors the economics profession has ever made.”
Amid speculation over the U.S. Federal Reserve’s next move on interest rates, Asia’s central bank chiefs are under more pressure than ever before to prevent history from repeating itself.