Thu, Feb 06, 2003 page12

• Global economy forecast tepid: Rogoff

  `CUSP OF RECOVERY' The IMF's top economist says the big uncertainty for the world's major economies remains the possibility of a US-led war against Baghdad

  • BLOOMBERG
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  The world economy will expand at a "tepid" pace this year, constrained by the possibility of war in the Middle East and continuing fallout from the burst of the 1990s stock bubble, said Kenneth Rogoff, chief economist at the IMF.

  "We're keeping our fingers crossed," Rogoff said in an interview. "We're expecting a global recovery and we hope we're in the midst of one, albeit a tepid one. But there's a lot of uncertainty."

  The IMF won't make official growth forecasts until the release of its World Economic Outlook in April. Still, Rogoff said "it's clear we're on the cusp of recovery."

  The recession that began in 2001 was "a plain-vanilla downturn" characterized by imbalances in the global economy that included overcapacity in many industries, rising interest rates and oil prices, and overvalued stock markets, he said.

  "It's fairly typical looking," he said. "That gives us some optimism that we'll come out of it."

  The possibility of war with Iraq and the threat of terrorist attacks have fueled uncertainty, which "is part of the story of what's going on at the moment," Rogoff said.

  Once the outcome in Iraq is known, "it would be a big boost" for growth prospects, he said.

  The US is in the best shape of the major world economies, Rogoff said. Monetary policy, with the benchmark overnight bank lending rate at a 41-year low of 1.25 percent, is about right, Rogoff suggested.

  The Federal Reserve has been "very aggressive" in reacting to the slowdown by lowering interest rates, he said.

  The IMF is evaluating whether the US needs additional fiscal stimulus and whether US President George W. Bush's US$690 billion, tax-cut package will help the economy, he said.

  While the US administration estimates its proposals would push the budget deficit up to 2.8 percent of GDP, "that's sustainable" if growth picks up, he said.

  "If you have extraordinary financing needs" because of a recession, "that's certainly well within normal bounds" for a budget deficit, Rogoff said.

  What may be a concern is the US current account deficit, which equaled 4.5 percent of GDP over the 12 months through September. A rising budget deficit means the US needs to attract even more foreign investment.

  "These things heighten vulnerabilities" for the US and the dollar, he said.

  The US currency, recently quoted at ?119.74 and 1.0880 to the euro, is close to "appropriately valued" now, he said.

  "Big shifts in current accounts can lead to big shifts in exchange rates, which could expose vulnerabilities in financial firms" and markets, Rogoff said.

  The US may not be able to resolve its current account deficit unless Europe and Japan begin growing faster, he said.

  European leaders must take steps to overhaul labor and investment laws, Rogoff said.

  "It's one thing to try to manage your way out of a downturn that lasts a year, but when you have a sustained period of slower growth, you have to look at structural issues," he said.

  The European stability pact, which requires countries to limit budget deficits to no more than 3 percent of GDP, "did serve a very useful function" when the euro was being introduced, Rogoff said.

  Debate about whether to loosen its requirement misses the point, he said.

  "The fundamental point is that Europe has an aging population, health-care problems, pension problems," he said.

  "They should be running surpluses when their economies are expanding," he added.

  The European Central Bank has scope to lower its benchmark refinancing rate, currently 2.75 percent, because the strengthening of the euro "makes policy tighter," he said.

  At the same time, there are deflationary pressures in Germany and some of the smaller European economies "that give cause to follow a somewhat easier monetary policy going forward."

  Japan's first priority is to deal with falling prices, Rogoff said.

  "They have to move to a situation where, instead of deflation they have some low level of inflation," he said.

  That means the Bank of Japan must have "a more aggressive mon-etary policy," he said, "not simply ease more aggressively than it has, but establish a communication strategy which communicates to the public that it is indeed trying to achieve a positive level of inflation."

  Japan must fix its banks and restructure corporate and finance laws and not keep relying on government-stimulus packages to boost growth, he said.
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