Several global incidents like the rising strength of the dollar, China’s real estate crisis, and Russia’s invasion of Ukraine have disrupted the world economy severely, which may lead IMF to slash the global economy’s growth projection again.
The International Monetary Fund (IMF) usually does not use theatrical language to describe global economic conditions. Nevertheless, at a panel discussion at Bali, Indonesia, on July 17, 2022, the fund’s director for strategy, policy and review Ceyla Pazarbasioglu couldn’t help but comment; “It’s shock after shock after shock which is really hitting the global economy.” Three shocks have converged, the rising US dollar, Russia’s war on Ukraine and China’s unprecedented real estate crisis.
The IMF had cut global growth by nearly 1%, which translated into almost US$1 trillion, recently. It’s now readying to announce further cuts as a series of shocks threaten the world economy, the biggest perhaps is the growing strength of the US Dollar to insane levels. The Chinese have reacted strongly to the growth of the dollar accusing the United States of weaponizing it against other countries. The communist country is facing an economic slowdown, a resurgence of Covid19, and a worsening outlook for its real estate sector.
US dollar’s insane growth
“It’s our currency, but it’s your problem,” was the 1971 message from John Connally, Richard Nixon’s treasury secretary, to U.S. trading partners dismayed by the dollar’s then weakness. What was true then remains true today, albeit in the opposite direction with the greenback having risen 6% in April and 13% in the past year to its strongest level for two decades against a basket of major currencies. The Federal Reserve needs to be mindful of the threat to global growth posed by the U.S. currency’s rapid ascent. A rising dollar though good news for US citizens travelling abroad, nevertheless makes US companies less competitive.
The greenback is the logical haven for investors seeking financial refuge from a confluence of global shocks that started with the pandemic and has been intensified by Russia’s invasion of Ukraine, culminating in an energy and food price surge. King dollar rules supreme as the Fed maintains a policy of benign neglect in the currency market, having provided almost limitless access to dollar liquidity for central banks around the world in the past two years.
Buoyed by demand for safe-haven assets as Federal Reserve policy tanks stocks, the U.S. dollar index, which tracks the price of the dollar against six foreign currencies, has surged 16% over the past year—a rally that’s about as extreme as it gets, historically speaking.
IMF to downgrade forecast substantially
In its April report, the IMF slashed its outlook for global growth this year to 3.6%, from 4.4%, citing rising inflationary risks and aggressive central bank tightening. In a review due this month, “we will downgrade our forecast substantially,” Pazarbasioglu said. Monetary regulators across the globe are struggling to cope with price increases driven by supply issues, developing since the early stages of the pandemic.
The International Monetary Fund will cut its global economic growth outlook “substantially” in its next update, as finance chiefs grapple with a shrinking list of options to address the worsening risks. Surging food and energy prices, slowing capital flows to emerging markets, the ongoing pandemic and a slowdown in China make it much more challenging for policymakers.
She spoke after the Group of 20 finance ministers, and central bank governors ended their meeting on Saturday without reaching a communique, underlining the difficulty in coordinating a global response to surging inflation and recessionary fears. In a review due this month, “we will downgrade our forecast substantially”, Ms Pazarbasioglu said.
IMF managing director Kristalina Georgieva told the summit the war is causing significant economic distress in the rest of the world, reducing global growth this year and next.
The world is paying the price of war
“The war in Ukraine has intensified, exerting added pressures on commodity and food prices,” she said in a statement Saturday. “Global financial conditions are tightening more than previously anticipated. And continuing pandemic-related disruptions and renewed bottlenecks in global supply chains are weighing on economic activity.”
Central bankers around the world are finding it tough to find the right response to price increases that are driven by supply issues. The meeting also ended without an agreement on a US proposal to cap the price of Russian oil, for which US Treasury Secretary Janet Yellen had hoped to secure support. She said the proposal could be a powerful tool to mitigate the economic fallout of the war in Ukraine and curtail Russia’s ability to profit from soaring energy costs and further fund its military aggression.
“The path to a soft landing is narrowing; we think it is still a feasible path but certainly not a very easy one,” said Hyun Song Shin, head of research at the Bank for International Settlements, at the same panel. “Where central banks take monetary policy in a rapid and decisive manner and have a front-loaded response to inflation, that is more conducive to a soft landing.”
Bank Indonesia, as the host nation for the G20 meeting, has become an outlier in keeping its policy rate at a record low. Governor Perry Warjiyo has defended that view, saying that tightening too soon could risk plunging the country, fresh out of a pandemic-driven recession, into stagflation instead.
China can’t be a global growth engine
During previous economic slumps, the world has often looked at China to act as the growth engine. However, things looked different this time. The National Bureau of Statistics in China reported last week that the economy expanded 0.4 % from a year earlier in the second quarter, worse than some economists’ expectations. It was the lowest growth rate since the first three months of 2020 when the country effectively shut down to fight the early stages of the pandemic, and its economy shrank for the first time in 28 years.
The Chinese economy recovered almost immediately in 2020, but the current outlook is not so promising. Unemployment is close to the highest level on record. The housing market is still a mess, and small businesses are bearing the brunt of weakness in consumer spending.
“China is the shoe that has never dropped in the global economy,” said Kenneth Rogoff, a professor of economics at Harvard University and a former chief economist for the International Monetary Fund. “China is in no position to be the global engine of growth right now, and the long-term fundamentals point to much slower growth in the next decade.”
China is facing a mortgage crisis as several thousands of unhappy homebuyers are refusing to pay their mortgage for unfinished or stalled housing projects. This was precipitated by property developers who had run out of capital to finish the construction.
Data accessed by news agency Bloomberg and the China Real Estate Information Corp revealed that homebuyers across 50 cities have stopped paying their mortgages on at least 100 projects.
A drop in home prices could also be one of the reasons why homebuyers are refusing to pay their mortgages. China considered these mortgages as safe banking assets due to high down payments as well as the collateral value they possessed.
China’s property crisis is leaping out of the frying pan and into the fire. Homebuyers in 22 cities are refusing to make mortgage payments on unfinished homes, Citigroup reports. The rare protest extends the risk of defaults from offshore developer bonds read more to banks with $6 trillion of mortgages.
The fat tail risk of President Xi Jinping’s efforts to deleverage the sector is emerging, and it puts Beijing in a tight spot. This spells danger for the Chinese economy since home sales and construction are China’s biggest growth engines. The property sector accounts approximately for about a quarter of China’s GDP. A real estate bust will be dangerous for the Chinese economy which is reeling from Covid-induced lockdowns.
(Abhijit Roy is a technology explainer and business journalist. He has worked with Strait Times of Singapore, Business Today, Economic Times and The Telegraph. Also worked with PwC, IBM, Wipro, Ericsson.)
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