IMF brief for G-20

The International Monetary Fund (IMF) had prepared a 17-page note for the G-20 meeting in Chengdu, China. This is what the Fund had to say about BRIC countries:

In China, the government again resorted to boosting credit and infrastructure spending, supporting near-term growth but further raising vulnerabilities. As a result, the economy is expected to continue to grow strongly this year, at 6.6 percent, exceeding the IMF’s recommended range of 6–6½ percent, before slowing to 6.2 percent in 2017.

India’s economy is on a recovery path, helped by lower oil prices, positive policy actions and improved confidence. Growth is projected at 7.4 percent in both FY2016/17 and FY2017/18. But headwinds from weaknesses in India’s corporate and bank balance sheets, a decelerating pace of reforms, and sluggish exports will weigh on growth.

Finally, conditions in Brazil and Russia are starting to improve gradually, with a return to positive growth expected for 2017. [Link]

The comment about ‘decelerating pace of reforms’ in India is interesting as is the observation on ‘again resorted to’ for China.

On monetary policy, what the Fund wrote was disappointing, however:

Monetary policy. Central banks should continue to use all available instruments to raise inflation, including negative interest rates (emphasis mine), where appropriate, while carefully monitoring the potential impact on banks, pension funds and insurance companies as well as market functioning. In the United States, Federal Reserve policy should remain data dependent. There is a clear case for the Fed to proceed along a very gradual upward path for the fed funds rate, conscious of global disinflationary trends and confirming along the way that wage and price inflation are indeed maintaining their steady upward momentum. [Link]

The open encouragement to negative interest rates is astounding. There is nothing much to show for it, in terms of real economic outcomes. Not nearly commensurate enough whereas the distortions it causes are plenty. A recent Bloomberg article on the difficulties that CALPERS pension fund faces in generating returns on its investments commensurate with its pension obligations is just the tip of the ice-berg. In addition, when it presented its Economic Outlook in June, OECD noted that retirement savings fetched 40% less income in 2015 than they did in 2010. It would have declined further now.

I happened to watch a conversation between a Bloomberg economist and Alberto Gallo who used to be with the Royal Bank of Scotland and now with a hedge fund. Gallo points out that negative rates widen inequality and are deflationary because people with a target savings for retirement are forced to save more as their savings less and less returns. In that sense, it is actually deflationary!

Further, there is no mention of the distortions (and price bubbles) that the monetary policy stance is creating in stock and debt markets, etc. No matter how much head-nodding is done towards including financial market feedback loop into macro policy framework, in the final analysis, they are omitted. Such a shame and such a bad thing for the world.

Short-term demand support still has an important part to play in advanced economies, but needs greater emphasis on growth-friendly fiscal policies.

This renewed emphasis on fiscal policy tends to ignore the long-run balance sheet effect. Accumulated government debt is high and so are unfunded obligations on pensions and social security. Further, this is also likely a hint of the shape of things to come – monetary policy supported fiscal stimulus. We have to wait and see what the Bank of Japan does on July 28-29 meeting.

My hunch is that some new measures would be unveiled in this meeting. Not for nothing did Bernanke visit Tokyo recently. China has used the Brexit as an excuse to weaken its currency. So, I think the United States has given its green signal to Japan to do its part with currency debasement. Down the slippery slope they go.

It is not surprising that the Chinese yuan’s ranking in international payments has slipped to the sixth position with the Canadian dollar pipping it to the fifth position. The yuan is well on its way to becoming a global funding currency and stay that way for a very long time, as the yen had been for a long time.


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