This week’s latest International Monetary Fund (IMF) World Economic Outlook update forecasts a stalling of the global economic recovery and a mild Eurozone recession, alongside a slowing of growth rates in the rest of the world.

It also warns against countries adopting excessively tight fiscal policies and urges them to implement comprehensive packages to restore financial stability. More reassuringly, the IMF also points to the continued strength of the major economies in Asia.

The IMF has simultaneously sharply reduced its forecast for world growth this year, reasoning that prospects have ‘dimmed’ while risks to financial stability have increased. In an update to its World Economic Outlook, the global monetary body said that it now expects the Eurozone to fall into a mild recession in 2012, after entering into what it describes as a ‘perilous new phase’ at the end of last year.

It maintains that this downturn is already impacting on other parts of the world, including the United States, emerging markets, and developing countries.

The IMF is now projecting that overall activity in the advanced economies will expand by 1.2% this year, which is a reduction of -0.75% compared to last September’s crystal ball conclusion. The body adds that it is now expecting this to pick by+1.9% next year, while it estimates that the global growth outlook for this year is +3.3%.

VERY HIGH UNEMPLOYMENT WILL CONTINUE…
As usual (and refreshingly), the IMF is very direct with its commentary around these numbers: “Given the depth of the 2009 recession, these growth rates are too sluggish to make a major dent in very high unemployment,” it said.

Alongside this revised forecast, the IMF also released updates yesterday to its Global Financial Stability Report (GFSR), which tracks issues in banking and capital markets, and its Fiscal Monitor, which tracks government debt and budgets.

Once again, it pointed to a ‘mediocre growth outlook’, according to IMF Economic Counsellor Olivier Blanchard, although reassuringly he added that ‘it could be worse’.

Speaking at a New York press conference, he pulled no punches, saying that ‘the world recovery, which was weak in the first place, is in danger of stalling. The epicenter of the danger is Europe, but the rest of the world is increasingly affected.’

He told reporters there was an even greater danger if the European crisis intensifies, adding that if this happens then ‘the world could be plunged into another recession’.

IMF: ‘THE WORST CAN DEFINITELY BE AVOIDED’
Having scared the gathering half to death (no doubt intentionally) Blanchard then offered encouragement, suggesting that with the right set of measures, ‘the worst can definitely be avoided, and the recovery can be put back on track. These measures can be taken, need to be taken, and need to be taken urgently.’

In a statement, the IMF then referred back to the speech made a day earlier by its relatively new Managing Director Christine Lagarde, who laid out the main elements of a policy path forward. Europe, which is at the centre of global concerns, needs stronger growth, larger firewalls, and deeper integration, she said, but added that other economies also have an important role to play to restore balanced global growth.

As for the multilateral component, Lagarde said that the IMF was ready to help and was seeking to increase its lending resources by up to $500bn.

EMERGING AND DEVELOPING ECONOMIES
Meanwhile, looking forward, the updated IMF report suggests that in 2012-13, growth in emerging and developing economies will average five and three quarter per cent – a significant slowdown from the six and three quarter per cent growth registered in 2010-11, and about 0.5% lower than projected in the September 2011 IMF report. The economic body says this reflects the deterioration in the external environment, as well as the slowdown in domestic demand in key emerging economies.

The IMF said: “Despite a substantial downward revision of three quarters of a percentage point, developing Asia is still projected to grow most rapidly at 7½ per cent on average in 2012-13.

“Economic activity in the Middle East and North Africa is expected to accelerate in 2012-13, driven mainly by the recovery in Libya and the continued strong performance of other oil exporters. Most oil-importing countries in the region face muted growth prospects due to longer than expected political transition and an adverse external environment.

“The impact of the global slowdown on sub-Saharan Africa has, to date, been limited to a few countries, most notably South Africa and the region’s output is expected to expand by about 5½ per cent in 2012.

“The adverse spill-over effects are expected to be the largest for central and eastern Europe, given the region’s strong trade and financial linkages with the euro area economies. The impact on other regions is expected to be relatively mild, as macro-economic policy easing is expected to largely offset the effects of slowing demand from advanced economies and rising global risk aversion.

“For many emerging and developing economies, the strength of the forecasts also reflects relatively high commodity prices.”

EUROPE KEY TO CONFIDENCE BUILDING
Blanchard added that ‘growth’ in the Eurozone in 2012 is now forecast at -0.5%, a decrease of -1.6% relative to the IMF’s September 2011 projection. “In particular, we predict negative growth of -2.2% in Italy, -1.7% in Spain,” he said.

The IMF also emphasised that the most immediate policy challenge is to restore confidence and put an end to the crisis in the Eurozone by supporting growth, while sustaining fiscal adjustment, containing deleveraging and providing more liquidity and monetary accommodation.

In other major advanced economies, it urges governments to address medium-term fiscal imbalances and to repair and reform financial systems, while sustaining recovery. In emerging and developing economies, it suggests that near-term policy should focus on responding to moderating domestic growth and to slowing external demand from advanced economies.

DEEP IN THE DANGER ZONE
The IMF also warns that global financial stability has moved ‘deeply into the danger zone’ as sovereign bond spreads in the euro area have widened. It adds that the European Central Bank (ECB) has been forced to play an increasingly vital role in sustaining the Eurozone’s financial system. Despite the efforts of European policymakers to contain the Eurozone debt crisis and related banking problems, a comprehensive and decisive policy response is still needed, the IMF said.

“European policymakers need to promptly put in place a comprehensive package that restores confidence, and need to implement the policy measures agreed at the October and December Eurozone summits,” said José Viñals, the IMF’s Financial Counsellor and Head of the Monetary and Capital Markets Department.

The IMF said officials should create large firewalls designed to protect countries that are solvent, but face increasing financial strains. The institutions that already exist for this purpose have neither the size or flexibility to be fully credible or effective, it says.

BANKS NEED TO BE SEEN TO BE STRONG
The IMF added: “Banks need to increase their capital to restore financial markets’ confidence in their ability to weather the downturn. Wherever possible, this should be done by raising capital from private sources, but public funding should be available for this purpose when needed. There should also be a pan-euro-area facility, with the capacity to take direct stakes in banks.

“Officials need to monitor the adjustment of bank balance sheets in the face of the crisis and act to prevent ‘bad’ deleveraging – asset sales that have the effect of reducing the supply of credit to the economy. Officials should aim to limit deleveraging of their banks, not only in home markets, but also abroad.”

The IMF also added that despite the resilience demonstrated in recent years by emerging markets, they also face risks from deleveraging by euro area banks, particularly emerging European countries.