WORLD ECONOMIC OUTLOOK 2010

Executive Summary

In 2010, world output is expected to rise by about
4¼ percent, following a ½ percent contraction in 2009.
Economies that are off to a strong start are likely to
remain in the lead, as growth in others is held back
by lasting damage to financial sectors and household
balance sheets. Activity remains dependent on highly
accommodative macroeconomic policies and is subject
to downside risks, as fiscal fragilities have come to the
fore. In most advanced economies, fiscal and monetary
policies should maintain a supportive thrust in 2010
to sustain growth and employment. But many of these
economies also need to urgently adopt credible mediumterm
strategies to contain public debt and later bring
it down to more prudent levels. Financial sector repair
and reform are additional high-priority requirements.
Many emerging economies are again growing rapidly
and a number have begun to moderate their accommodative
macroeconomic policies in the face of high capital
inflows. Given prospects for relatively weak growth in
the advanced economies, the challenge for emerging
economies is to absorb rising inflows and nurture domestic
demand without triggering a new boom-bust cycle.

Recovery Has Proceeded Better than Expected

The global recovery has evolved better than
expected, with activity recovering at varying speeds––
tepidly in many advanced economies but solidly in
most emerging and developing economies. Policy
support was essential to jump-start the recovery.
Monetary policy has been highly expansionary and
supported by unconventional liquidity provision. Fiscal
policy provided a major stimulus in response to
the deep downturn. Among advanced economies, the
United States is off to a better start than Europe and
Japan. Among emerging and developing economies,
emerging Asia is in the lead. Growth is also solidifying
in key Latin American and other emerging and
developing economies but continues to lag in many
emerging European and various Commonwealth of
Independent States (CIS) countries. Sub-Saharan
Africa is weathering the global crisis well, and its
recovery is expected to be stronger than following
past global downturns.

The recoveries in real and financial activity are
mutually supportive, but access to credit remains
diffi cult for some sectors. Money markets have
stabilized. Corporate bond and equity markets have
rebounded. In advanced economies, the tightening
of bank lending standards is ending, and the credit
crisis appears to be bottoming out. In many emerging
and developing economies, credit growth is reaccelerating.
Nevertheless, fi nancial conditions remain
more diffi cult than before the crisis. Especially in
advanced economies, bank capital is likely to remain
a constraint on growth as banks continue to retrench
their balance sheets. Sectors that have only limited
access to capital markets––consumers and small
and medium-size enterprises––are likely to continue
to face tight limits on their borrowing. In a few
advanced economies, rising public defi cits and debt
have contributed to a sharp increase in sovereign risk
premiums, posing new risks to the recovery.

Together with real and fi nancial activity, crossborder
fi nancial fl ows from advanced to many
emerging economies have also rebounded strongly.
Key drivers include rapid growth in emerging
economies, large yield diff erentials in their favor,
and a returning appetite for risk. The recovery of
cross-border fl ows has come with some real eff ective
exchange rate changes––depreciation of the U.S.
dollar and appreciation of some other floating currencies
of advanced and emerging economies. But
relative to precrisis levels, changes have been generally
limited, and global current account imbalances
are forecast to widen again over the medium term.
Multispeed Recovery Will Continue

The world economy is poised for further recovery
but at varying speeds across and within regions.
Global growth is projected to reach 4¼ percent
in 2010 and 2011. Advanced economies are now
expected to expand by 2¼ percent in 2010, and by
2½ percent in 2011, following a decline in output
of more than 3 percent in 2009. Growth in emerging
and developing economies is projected to be over
6¼ percent during 2010–11, following a modest
2½ percent in 2009. As Chapters 1 and 2 explain,
economies that are off to a strong start are likely to
continue to lead the recovery, as growth in others is
held back by lasting damage to fi nancial sectors and
household balance sheets. The recovery under way
in the major advanced economies will be relatively
sluggish compared with recoveries from previous
recessions. Likewise, the recoveries in many economies
of emerging Europe and the CIS are likely to
be sluggish compared with those expected for many
other emerging economies.

The outlook for activity remains unusually uncertain,
even though a variety of risks have receded.
Risks are generally to the downside, with those related
to public debt growth in advanced economies having
become sharply more evident. In the near term, a risk
is that, if unchecked, market concerns about sovereign
liquidity and solvency in Greece could turn into a
full-blown and contagious sovereign debt crisis, as
explained in the April 2010 Global Financial Stability
Report (GFSR). More generally, the main concern
is that room for policy maneuver in many advanced
economies has either been largely exhausted or is
much more limited, leaving the fragile recoveries
exposed to new shocks. In addition, bank exposures
to real estate continue to pose downside risks, mainly
in the United States and parts of Europe.

Policies Need to Sustain and Strengthen Recovery

Given the large amount of public debt that has
been accumulated during this recession, in many
advanced economies exit policies need to emphasize
fi scal consolidation and fi nancial sector repair. This
will allow monetary policy to remain accommodative
without leading to infl ation pressure or fi nancial
market instabilities. In emerging and developing
economies, priorities depend on room available for
fi scal policy maneuvers and on current account positions.
Spillovers related to fi scal policies are particularly
relevant for the major advanced economies, as
large defi cits and the lack of well-specifi ed mediumterm
fi scal consolidation strategies in these economies
could adversely aff ect funding costs of other
advanced or emerging economies.
Medium-Term Fiscal Consolidation Strategies Are Urgently Needed

Fiscal policy provided major support in response to the deep downturn. At the same time, the slump in activity and, to a much lesser extent, stimulus measures pushed fiscal deficits in advanced economies to about 9 percent of GDP. Debt-to-GDP ratios in these economies are expected to exceed 100 percent of GDP in 2014 based on current
policies, some 35 percentage points of GDP higher than before the crisis.
Regarding the near term, given the fragile recovery, fiscal stimulus planned for 2010 should be fully implemented, except in countries that are suff ering large increases in risk premiums––these countries need to begin fi scal consolidation now. Looking further ahead, if macroeconomic developments proceed as expected, most advanced economies should embark on signifi cant fi scal consolidation in 2011.
Countries urgently need to design and implement credible fi scal adjustment strategies, emphasizing measures that support potential growth. These should
include clear timelines to bring down gross debt-to-GDP ratios over the medium term. Also needed are reforms to entitlement spending that lower spending in the future but do not depress demand today.

The fiscal challenges are diff erent in a number of emerging economies, with some important exceptions.The public debt problem in these economies is more localized––as a group, these economies’public debt ratios are at about 30 to 40 percent of
GDP and, given their high growth, are expected to
soon be back on a declining path. Many emerging
Asian economies entered the crisis with relatively
low public debt levels and can aff ord to maintain
an expansionary fi scal stance. This will help rebalance
the mix between externally and domestically
driven growth. But these economies will need to
be alert to growing price pressures and emerging
fi nancial instability and to allow their currencies
to appreciate to combat overheating. Other major
emerging economies, however, have less fiscal room
to maneuver and should withdraw support as the
recovery gains more traction. Fiscal policy in lowincome
economies will also need to be redirected
toward medium-term considerations as private and
external demand recovers.

Monetary Accommodation Needs to Be Unwound Cautiously and Capital Inflows Managed

Still-low levels of capacity utilization and wellanchored
infl ation expectations are expected to keep
infl ation in check in most economies. Signifi cant
upside risks to infl ation are confi ned to emerging
economies that have a history of unstable price
levels or have limited economic slack. In major
advanced economies, monetary policy can remain
accommodative as fi scal consolidation progresses,
provided infl ation pressure remains subdued. This
can be achieved even as central banks begin to withdraw
the emergency support provided to fi nancial
sectors. In major emerging and some advanced
economies that are experiencing faster recoveries,
central banks have already begun to reduce the
degree of monetary accommodation or are expected
by the markets to do so over the coming year. These
economies will probably continue to lead the tightening
cycle, as they are expected to recover faster
than major advanced economies. In some emerging
economies, overcapacity in some sectors and deteriorating credit quality also point to the need to tighten credit.

In emerging economies with excessive surpluses,
monetary tightening should be supported
with nominal eff ective exchange rate appreciation
as excess demand pressures build, including in
response to continued fi scal support to facilitate
demand rebalancing or capital infl ows. In others,
monetary tightening may be complicated: it could
attract more capital infl ows, lead to exchange rate
appreciation, and thereby undermine competitiveness.
If exchange rate overshooting becomes a concern, countries should consider fi scal tightening to ease pressure on interest rates; some build-up of reserves; and possibly stricter controls on capital
infl ows—mindful of the potential to create new
distortions—or looser controls on outfl ows.
Financial Sectors Must Be Repaired and Reformed
Together with fiscal adjustment, more progress
with financial sector repair and reform is the top
priority for a number of advanced economies to
sustain recovery. Moreover, fi nancial market ineffi
ciencies and regulatory and supervisory failures
played a major role in the crisis and need to be
remedied to build a stronger fi nancial system.
For advanced economies, the April 2010 GFSR
has lowered its estimate of actual and prospective
bank write-downs and loan loss provisions during
2007–10 from $2.8 trillion to $2.3 trillion, twothirds
of which had been recognized by the end of
2009. Progress in remedying fi nancial ineffi ciencies
and reforming prudential policies and frameworks
will increase the eff ectiveness of monetary policy
and reduce the risk of the ample supply of liquidity
fi nding an outlet in renewed speculative distortions.
At the same time, emerging economies will need
to continue to strengthen their prudential policies
and frameworks in anticipation of growing capital
infl ows.
Policies to Support the Unemployed and FosterEmployment Are Essential

High unemployment poses major social problems.In advanced economies, unemployment
is projected to stay close to 9 percent through 2011 and then to decline only slowly. Chapter 3
explains that unemployment responses have been
markedly different across advanced economies
because of diff erences in output declines, labor
market institutions, and factors such as fi nancial
stress and house price busts. Moreover, in many
countries problems are larger than the headline
unemployment rate statistics suggest because many
individuals are underemployed or have dropped
out of the labor force. In this setting, a major
concern is the potential for temporary joblessness
to turn into long-term unemployment and to
lower potential output growth. To limit damage to
the labor market, macroeconomic policies need to
be appropriately supportive of the recovery where
possible. At the same time, policies need to foster
wage fl exibility and provide adequate support for
the jobless.

Rebalancing Global Demand Is Key to Buoy and Sustain
Growth

For the world economy to sustain a high-growth
trajectory, the economies that had excessive external
defi cits before the crisis need to consolidate their
public fi nances in ways that limit damage to potential
growth and demand. Concurrently, economies
that ran excessive current account surpluses will
need to further increase domestic demand to sustain
growth, as excessive-defi cit economies scale back
their demand (and imports) in response to lower
expectations about future income. As the currencies
of economies with excessive defi cits depreciate, then
logically those of surplus economies must appreciate.
Rebalancing needs to be supported with fi nancial
sector reform and structural policies in both
surplus and defi cit economies. Policymakers will
need to exploit policy synergies, especially between
fi scal policy and structural reform.
Global demand rebalancing is not a new issue.Chapter 4 reviews the historical experience of economies with large current account surpluses. It finds that reversing current account surpluses has typically not been associated with losses in economic growth, with a variety of macroeconomic and structural policies playing an important role in countering output losses from real exchange rate appreciation.
(Source: IMF)