The IMF raised its global growth forecast for the first time in nearly two years on Tuesday, saying fading economic headwinds should permit advanced nations to pick up the mantle of growth from emerging markets.
However, the IMF warned richer nations were still growing below full capacity, and it added the specter of deflation to its long list of risks that could derail the nascent recovery.
In an update to its World Economic Outlook report, the IMF predicted the global economy would grow 3.7 percent this year, 0.1 percentage point higher than its projection in October last year. It said it sees growth of 3.9 percent next year.
IMF chief economist Olivier Blanchard said less government austerity and uncertainty, and a healthier financial system, were all allowing growth to speed ahead.
“The basic reason behind the stronger recovery is that the brakes to the recovery are progressively being loosened,” Blanchard told reporters on a conference call.
The IMF forecast higher growth in advanced economies this year, but kept its outlook unchanged for the developing world, where higher exports to rich nations were expected to be offset by weak demand at home.
The US is likely to be one of the bright spots, after a budget deal in the US Congress reduced some of the government spending cuts that had weighed on domestic demand.
US data last month showed a build-up in business inventories, the most since 1998, helped boost third-quarter GDP, and the IMF expects domestic demand to lift growth to 2.8 percent this year. In its previous forecast in October last year, it looked for growth of 2.6 percent.
The IMF also saw a rosier outlook for the UK, amid cheap credit, a boost in consumption and greater confidence. It raised its growth forecast to 2.4 percent this year from 1.9 percent in October last year. It was the largest increase among major economies, when accounting for rounding.
Japan’s prospects also surprised to the upside, as the IMF predicted further fiscal stimulus should help offset some of the impact from a higher consumption tax planned for this spring. However, the IMF said Japan must focus on consumption and investment to keep growth sustainable, rather than relying on government spending and exports.
While the IMF said Japan is unlikely to slip back into deflation, it warned that other rich nations now risk the same problem of sluggish price growth, which can happen when economies linger well below their full potential. Disinflation can turn to economically debilitating deflation if there is a negative shock to economic activity, the IMF said.
A falling spiral of prices would weaken demand by making cash more valuable over time, discouraging consumption. It also increases the burden of debt, a big problem for highly indebted places like the US and the eurozone.
The IMF urged central banks to avoid raising interest rates too soon, and called on the European Central Bank in particular to help sluggish demand by boosting credit growth.
The IMF warned that some developing countries, especially those with large current account deficits or domestic weaknesses, could be hit hard by capital outflows this year as the US Federal Reserve begins to scale back the pace of its asset purchases. The IMF expects the Fed to wait until next year before it raises its policy rate.