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Since the May 2001 World Economie Outlook, prospects for 2001-02 have weakened furlher; and downside risks have been jurther exacerba led lly the recent terrorist attack in the
United States ( see Box 1. 1). Orowth projections for al most aU regions have been reduced, rejlect
ing a vari.ety of fact{)rs, including the greaW-than-expected impact of the global slowdorvn in a
number of regions; a delayed recovery in the United States; weakening domestic denumd growth
and confidence in Europe; the prospect of a period of slower growth in japan as it presses ahead
with stru.ct1tral refonns (aùlwugh this will have substantial medium-lerm benejits); the contin
ued decline in information technology spending, which affects Asia in fJarticular; and deterùr
rating fincmcing conditions for emerging nuJrkets, especially in Latin America. GDP growth is
now slowing in almost ali regions of the globe, accompanied lly a sharp decline in trade growth.
In response, many cOttntries-especially the United States-have eased macroeconomie poücies,
most 1·eœntly in mid-September in the ajt.ennath of the terrorist attack. This easing, along with
the graduai abatement of oil priees and of other slwcks that have contrib?ttecl to the slowdown,
shOttld help support activity and confidence in the period ahead. But substantial uncertainties
and risks persist, as the downturn makes the world more vulnerable to Jurther unexpected devel
opments, and a significant danger of a deeper and more prolonged slonxl0t11n remilins. The r�r cent terrorist attack has also increased uncertainty. The duzllenge facing policymakers is how
best to limit these downside risks while promoting an orderly resolution of the imbalanœs in the
global economy over the medium tenn.
Global growth is now projected at 2.6 percent in 2001,1 0.6 percentage points
lower ù1an expected in the May 2001 World Economie Ou.llook, and a decline of
over 2 percemage points from the unusually
rapid pace in 2000 (Table l.l and Figure 1.1). Among the advanced economies, growth in the
United States is projected at 1.3 percent, 0.2 per
centage points lower than in the May 2001 World
Economie Outlook, with activity expected to begin
to pick up modestly in the period abead as the
effects of previous policy easing take hold. The
outlook for other industrial countries bas weak
ened more significantly. In the euro area, growth
has been marked down by 0.6 percentage points
to 1.8 percent, driven by a sharp weakening in
domestic demand growth, particularly in
Germany, and the greater-than-expected impact
of the global slowdown. Of most concern, the
prospects for Japan have become increasingly
somber. Wiù1 GDP now projected to decline by
0.5 percent in 2001, over l percentage point
worse than earlier projected,Japan is now likely
experiencing its fourth recession of the past
decade.2
Prospects for most developing and transition
countries have also detcriorated. Growth has
been marked down sharply in the Western Hemis
phere, where activity has been adversely affected
by the renewed financiaJ difliculties in Argentina,
lin the \>\�rld Eamomic Ou/look, global growth is calctùated using purchasing power parity weights. Global growth rates using market exchange rate based weights--which yield lower figures, mainly due to the relaùvely sm aller weights given lO China and other faster growing developing countries-are presented in Table 1 of the Staùsùcal Appendix.
20e[ming a recession as two qua ners of negative real CDP growth.
Six-month London interbank oftered rate (LIBOR, percent)
On U.S. dollar deposits 5.5 6.6 4.1 3.7 -0.4 -0.6 On Japanese yen deposits 0.2 0.3 0.2 0.1 -0.2 -0.4 On euro deposits 3.0 4.6 4.3 3.9 -o.1 -0.2
Note: (a) These projections were finalized before the September 11 terrorist attack in the United States and subsequent economie policy ac· lions; (b) real effective exchange rates are assumed to remain constant at the levels prevalling during July 23-August 17. 2001.
1Using updated purchasing-power-parity (PPP) weights, summarized in the Statistical Appendix. Table A. 21ncludes lndonesia. Malaysia, the Philippines, and Thailand. 3Simple average of spot priees of U.K. Brent, Ou bai, and West Texas lntermediate crude oil. The average priee of 011 in U.S. dollars a barrel
was $28.21 in 2000, the assumed priee is $26.80 in 2001. and $24.50 in 2002.
Global growth is projected to slow markedly in 2001, while inflation remains subdued.
8- World Real GOP2
6-
4-
2-
Trend, 197Q-2000
- Real Commodity Priees - (1990 = 100)
Non-oil commodily
priees
-400
-300
-200
0 1970 75 1970 75 80 85 90 95 2000 05 °
9- World Real Long· Term - lnterest Rate {percent)3
Inflation -20
6-
0
"61970 75 80 85 90 95 2000 05
1Shaded areas lndicate IMF staff proiections. Aggregates are computed on the basis of purchasing·power·parity weighls unless otherwise indicated.
2Average growlh raies for indivldual cou nt ries . aggregated using purchasing· power·parily weights; these shlft over lime in favor of !aster growlng countri�. giving the line an upward trend.
3GOP·weighted average of the 10·year (or nearest maturily) government bond yields fess inflation rates for the United States, Japan, Germany, France. ltaly. the United Kingdom. and Canada. Excluding llaly prior to 1972.
though certain industries have been hard hit, particularly airlines, insurance, and tourism. WhiJe it is difficult to find close paraJlels in recent history, the direct damage is rouch sma!Jer than l.hat resuJting from the Kobe earthquake ofJanuary 1995, which, as it turned out, had only a very limited impact on output growth in
japan (Box 1.3). The potential indirect effects of the attacks--on consumer sentiment and spending, on business confidence, and on tisk aversion-are likely to be significandy more important These are rouch more dlfficult to assess, and will depend importanùy on how noneconomie events evoJve in the aftermalh of the attack.
On the economie front, there are a number of reasons for cautious optimism. First, there is now a sizable amount of policy stimulus in the pipeline in most major economies, even more than had been anticipated before lhe attack. Second, economie fundamentaJs across the globe are considerably stronger than they were a few years ago, reflected in lower inflation; stronger fiscal positions; greater monetary policy
credibility; and, in many emerging markets, more flexible exchange rate regimes and lower external vulnerabiJities. And third, the terrorist attack should not substantially affect uoderlying productivity growth in lhe U.S. economy and elsewhere, on which economie prosperity ultimately depends (see Chapter III).
At press time, the situation was fluid, making it premature to try to quantify the implications of the attack for growth in the United States and elsewhere. There will clearly be a short-term effect on activity, particularly in the last part of this year, both in the United States and in other countries. However, there is stiJl a reasonable prospect that a recovery will begin in the first half of next year. In tenns of the projections in
PROSPECTS AND POLICY CHALLENGES
the World Econmnic Out look, the effect on projected global growth ln 2001 is llkely to be moderate, since developments in the third and four th quarters of the year have a limlted lmpact on the average growth rate for the year as a whole. In 2002, however, global growth is likely to be lower than the 3.5 percem projected he re.
In sum, the downside risks identified in the main text of Uùs World Economie Outlook have now increased. even if the economie channels are largely the same. The task for policymakers has correspondingly become more challenging, both in industrial and in developing countries. The basic requirements remaln those set out in the World Econmnic Outlook; in particular: • The aggressive monetaJ-y policy response fol
lowing the attack bas been appropriate, and there remalns room for maneuver, to varying extents, if addition al action is needed. ln particular, there remains room for a more aggres-sive monetary easing in japan, even following the welcome steps after the September 11 attack. On the fiscal side, the automatic stabiliz
ers sbould be allowed to operate. Beyond that. it is probably best to waiL a Jjtde to see how events develop.
• Giveo the uncertalnties in the United States, other countries-notably in Europe and
Japan-will have to rely more on intemally generated growth. This makes it even more important to press ahead with structural reforms.
• The weaker global ouùook has clearly added to the dlfficuJties facing emerging market cow1tries. With markets increasingly differentiating according w po licy performance, the central requirement remains to stay the course of prudent macroeconomie policies and structural reforms.
Figure 1.2. Selected European Union Countries, Japan, and United States: lndicators of Consumer and Business Confidence 1
Alter falllng sharply from late 2000, confidence in the United States has begun to stabilize. ln Europe, business confidence has weakened, and recently consumer confidence has turned down.
150 :- Consumer Confidence 140-130-
100-90
70
Umted King dom 2 (righi scale)
-20 -15 -10 -5
- ·5 -·10 -·15 1
Germany2 (righi scaJe) -·20
-·25 -·30
�- :� 30J_�---L--L--L--��--��---L�L--L-- �O
1990 92 94 96 98 2000 Aug. 2001
-60
55- -50 -40 -30
45- :20 :10
0
35- --10 -·20
30- -·30
25-.: -40 - ·50
20 -60 1990 92 94 96 98 2000 Aug.
2001
Sources: Consumer confidence for the United States, the Conference Board; for European countries, the European Commission. Business confidence for the Un�ed States, the U.S. Department of Commerce, Purchasing Managers Compos�e Diffusion Index; lor European countries, the European Commission; and for Japan, Bank of Japan.
lfndicators are not comparable across countries. 2 Percent of respondents expecting an improvement in their situation minus percent
ex peeling a deterioration.
mode rate additional easing in Japan, will be
helpful in sustaining confidence and activity.
The global slowdown since early 2000 has been
driven by a variety of interlinked factors, includ
ing a reassessment of corporate profitability and
the associated adjusunent in equity priees; ù1e
rise in energ)' priees in 2000, which proved more
enduring than iniùally expected; and the tighten
ing of monetary po licy in lare 1999 and 2000,
parùcularly in Ùle United States and Ùle euro
area, in response to rising demand pressures.
Weakening global activity has been accompanied
by a downturn in business and consumer confi
dence, starting in the United States but Ùlen
spreading to Europe (Figure 1.2), a tightening
of credit conditions for sorne key emerging mar
kets, and heightened risk aversion. Among t.hese
factors, the boom and bust in tlle stock priees of
information technology (JT) firms, and the asso
ciated sharp fall in IT invesunent and output,
have played a particularly important rote. As dis
cussed in Chapter Ill, unsustainable financial
booms have been a common feature of past
technological revolutions, and have typically
been associated with a significant degree of over
invesunent in the sector concerned, and an en
suing correction. However, Ùle latest episode has
been distinguished by the globalization of IT
production, so Ùlat Ùle decline in IT spending-
which as yet shows Little sign of abating--has bad
a particularly widespread impact.
In response, policymakers have generally
moved promptly to ease macroeconomie policies;
noneilieless, given the size of tl1e shocks, Ùle im
pact has inevitably been substantial. Moreover,
given Ùle global nature of Ùlese shocks, as weil as
the increased trade and financial linkages among
countries, meir impact has been more rapid and
widespread Ùlan many expected (and in a num
ber of cases bas been exacerbated by country
specifie factors). The net re suit is Ùlat growth has
slowed in almost ail major regions of the world,
accompanied by a sharp decline in trade growth
(Figure 1.3). Wh ile Ùle latter has been evident in
ali regions, tlle falloff has been particularly steep
flight to quality following the terrorist attack. In
mature markets, equity priees rallied temporarily
in April and May, but have since fallen signifi
cantly as incoming news on corporate profitabil
ity remained weak and growth prospectS deterio
rated, with equity markets in ali major industrial
countries falling sharply following the events of
September 11 (Figure 1.4); yields on govern
ment bonds broadly minored these develop
ments, but have risen lately at long maturities.
With short-term rates declining in response to
cutS in official rates in most industrial countries,
yield curves have generally steepened, albeit to
varying extents. ln currency marketS, the U.S.
dollar continued to appreciate in nominal effec
tive terms through July, apparently reflecting
continued confidence in the relative strength of
the U.S. economy, while the yen and the euro re
mained relatively weak.3 In August and
September, however, as concerns about U .S.
growth prospects increased, the dollar depreci
ated moderately against most major currencies,
with the euro returning close to its leve! against
the dollar at the beginning of the year.
ln emerging marketS, financial developments
have been influenced by mature markets, but
also by country-specifie factors. During the first
half of 2001, the EMBI+ spread reruained
volatile, witb the positive effect of lower U.S. in
terest rates offset by rising 1isk aversion and in
sorne cases deteriorating economie fundamen
tals. While spreads for most emerging market
countries declined through June, there were
substantial increases in Argentina-which also af
fected Brazit-and Tu1·ke)•. As difficulties in
Argentina and Turkey intensified injuly, their
spreads widened sharply, with spillovers to other
emerging markets, particularly in Latin America.
But overall, contagion effectS have so far proved
3See "What Is Driving ù1e Weakness of the Euro and the Strength of lbe Dollar," Chapter Il, World Economie Outlook, May 2001.
PROSPECTS ANO POLICY CHALLENGES
Figure 1.3. Global Output, lndustrial Production, and Trade Growth (Percent change from four quart ers earlier)
Growth in output and industrial production has weakened m almost every region of the globe, accompanie d by a sharp slowdown in the growth of trade flows.
Sources: Central banks and ministries of finance: and European Central Bank, Monlhl Bulletin.
t Can ad a, euro area, Japan, United Ki ngdom. and United States. 2 Argentina, Brazil, Chile, Colombia. Mexico, Peru. and Venezuela. 3 Hong Kong SAR, lndonesia, Korea. Malaysia, Phi lipp ines . Singapore. Taiwan
Province of China, and Thailand. 4 Czech Republic. Hungary, Israel, Poland, Russla, Turkey. Pakistan, and South Africa. 5 Defined as ex ports plus imports of the relevant r egion.
Equity markets and lnterest rates have falien significanUy since 2000, including ln the aftermath of the terrorist attack on September 11, 2001. Des pite sorne recent strengthening, the euro and the yen remain relatively wea.k against the U.S. dollar.
Sources: Bloomberg Financial Markets, LP; European Central Bank; IMF Treasurer's Oepartment, Nikkei Telecom; and WEFA, lnc.
1 Average of the month. 2Three·month deposit rate; euro area data prior to January 1999 reflec1 Germany. 3ren·year government bond rate. To December 1998, euro area yields are calculated on
the basis of harmonized national government bond yields welghted by GD P. Therefore, the weights are nominal outstanding amounts of govemment bonds ln each maturity band.
moderate, in part because increasingly risk
averse investors had already tended to diversify
away from ali but the highest quality emerging
market credits, and also because of the relatively
low leve! of leve rage in financial markets. As the
World Economie Outlook went to press, high yield
and emerging market spreads had risen
markedly following the terrorist attack, reflect
ing a broad-based flight to quality, accompanied
by significant declines in emerging equity mar
kets. After a weak fust quarter, gross financing
flows held up relatively weil in the second quar
ter, but have subsequently fallen again. For 2001
as a whole, net capital flows to emerging markets
are projected to turn negative for the fust time
sin ce the mid-1980s (Table 1.2) .4 Moreover,
given the sharp deterioration in financing condi
tions sin ce June and rising global risk aversion,
there are downside risks to this outlook.
During the first five months of 2001, headline
inflation continued to rise in most advanced
economies (with the important exception of
Japan), driven by the earlier sharp increase in
energy priees, and-particularly in Europe-ris-
ing food priees due to animal diseases and bad
weather. Core inflation also rose, but in most
countries is still moderate. During the rest of the
year, oil and food priees are expected to fall
back (Appendix 1) while underlying inflationary
pressures are expected to remain modest, re
flecting weak demand, increasingly competitive
product markets, and the improved anti-infla
tion credibility of central banks in the past
decade (see Box 1.2 on page 13). As a result,
headline inflation in almost ali advanced
economies is projected to decline significanùy by
2002 (Table 1.3), and recent inflation data for
most advanced countries appear consistent with
this expectation. Inflation could in sorne circum
stances become more worrisome-for instance,
if in the euro area rugher headline inflation fed
through into 2002 wage rounds, or if in the
41l should be noted, however, that this partly reflects the substantial current account surpluses in oil producing countries, and the corresponcting net private capital out
1Net capital flows comprise net direct investment, net portfolio lnvestment, and other long- and short-lerm net lnvestment flows, lncludlng of-ficial and private borrowing. Emerging markets include developing countries, countries in transition, Korea, Singapore, Taiwan Province of China, and israel.
2Because of data limitations, "other net lnvestment" may include sorne official tlows. JA minus sign indicates an increase. 4The sum of the current account balance, net private capital flows, net official flows, and the change in reserves equals, with the opposite
sign, the sum of the capital account and errors and omissions. Slncludes Korea, Singapore, and Taiwan Province of China. 61ncludes lndonesia, Korea, Malaysta, the Philippines, and Thailand. 71ncludes Israel.
Japan where banks remain exposed to equity and
bond markets. Third, while emerging markets
benefit from lower global interest rates, financing
Memorandum European Union 2.7 3.4 1.8 2.2 1 .4 2.3 2.6 1.8 9.1 8.1 7.7 7.7
Euro a rea 2.7 3.5 1.8 2.2 1.2 2.4 2.7 1.7 9.9 8.8 8.4 8.4
1Consumer priees are based on the retail priee index exeluding mortgage interest. 2Consumer priees exeluding interest rate eomponents; for Australia, also exeluding other volatile items.
the weakening of growth outside tbe United derlying these imbalances appears to have been a
States and-partly associated with that-the belief that the underlying rate of productivity
present constellation of exchange rates. growth in the Uni ted States has increased relative
Notwithstanding recent developments, the con- to other countries, making the United States a
tinued strengù1 of the U.S. dollar against the relatively more attractive environment for new in-
euro may inhibit recovery in the United States vestment. This, in turn, contributed to Jru·ger
while reducing the scope for monetary policy capital inflows, rising equity priees, and an appre-
easing in ù1e euro area, constraining a desirable ciation of the U.S. dollar, which led to a \videning
rebalancing of ex.ternal and domestic sources of U.S. current account deficit and a drop in U.S.
growth in both areas and making a11 orderly res- persona! saving. To the extent that these imbal-
olution of global imbalances more difficult. ances have been driven by such factors, their evo-
As discussed in severa! recent issues of the lution in the period ahead-and me risks associ-
World Economie Outlook, an important factor un- ated with them-will depend importantly on how
Korea 6.0 2.4 2.6 2.1 Australia -5.8 -4.0 -3.0 -2.8 Taiwan Province of China 2.9 2.9 2.5 2.6 Hong Kong SAR 7.3 5.4 6.6 7.5 Singapore 25.9 23.7 21.0 19.8 New Zealand -6.7 -5.6 -4.0 -3.8
Memorandum European Union 0.3 -0.3 0.1
Euro area' 0.4 -0.1 0.3 0.4
'Calculated as the sum of the balances of individual euro area countries.
expected and actual productivity growth unfolds in the United States and elsewhere. Clearly, this is
sue is--and will no doubt remain-subject to debate and considerable uncertainty. In the United
States, sorne part of the recent increase in actual
productivity has Likely been cyclical, but a portion may weil be more enduring in nature, reflecting
the benefits of Ùle information technology revolution (Chapter III). In most other advanced countries--with Australia being an important exception-there is rouch less evidence of an un
derlying increase in productivity, suggesting that developments in the future will depend importanùy on progress with structural reform.
Despite these risks and uncertainties, there remains a reasonable prospect of a pickup in
global growth in the coming period, although more slowly than earlier envisaged, especially following the terrorist attack. Most importantly,
sin ce the beginning of the year macroeconomie policies have been eased in most advanced countries, and in the United States in particular there
is now substantial stimulus in the pipeline. At the same time, activity is likely to be bolstered by Ùle abatement of oil and food priee shocks, whlch
appear to have had a particularly important effect in the euro area; the completion of ongoing
inventory adjustments; and, as past overinvestment is worked off, a recovery in the IT sector (although the timing of this remains very uncertain). Against this background, in the IMF's baseline scenario, GDP growth in the United States
and the euro area is projected to begin to strengthen mildly in the coming period, al
Ùlough the pace will be dampened by the lagged impact of past wealili !osses on consumption, as
well as by the continued unwinding of IT overinvestment, particularly in the United States, and the impact of the terrorist attack. Stronger demand in industrial countries, along with the
pickup in the IT sector, would support improved growth in emerging market economies and a graduai improvement in external fmancing conditions. As a result, global growth in 2002 is pro
jected to increase to 3.5 percent, although-especially if the timing of recove,;es in major countries is delayed or confidence weakens
sharply as a result of the terrorist attack-there are downside risks to this projection.
In this baseline scenario, the moderation in
global imbalances in the short-term would be
limited, with the U.S. current account deficit
falling only modestly in 2001-02. Provided that the future growÙl outlook in the United States was still perceived as solid, there wouJd be a reasonable prospect Ùlat capital inflows would be sustained. Thereafter, provided structural reforms to boost potential growth and productivity
in Japan and Ùle euro area are put in place, in
vestment opportunities outside Ùle United States are likely to become increasingly attractive.
Box 1.2. How Much of a Concern ls Higher Headline Inflation?
Witb global growtb weakening, how far should monetary policy be eased to support activity? The scope for such monetary easing must be weighed against both near-œrm inflation prospects and longer-tenu concerns about antiinflationary credibility. A current complication is that inflation developments have been ol:r scured by priee shocks that have boosted wheadline" (or overall) inflation rates in many countries (including the ew·o area and United States), despite slowing real growth. Abso-acting from these shocks, inflationary pressures appear to have remained subdued. Should policymakers be concerned about rising headline inflation, or instead focus on underlying priee measures?
The argument for focusing on core as opposed to overall inflation is based on what dlives priees across markets.! In some markets, especially for commodities, sharp priee movements tend to be associated with supply and demand developmcnts that are specifie to those markets without reflecting generalized inflationary pressures. Labor markets, in contrast, tend to adjust sluggishly in response to broader-based imbalances between aggregate supply and demand. Hence, shocks specifie to commodity markets will tend to generate one-off changes in the priee level, while labor market imbalances may be associated with much longer-lived changes in priees.
There are also arguments for looking at overall inflation. Firstly, priee level shocks can lead to higher wage growtl! if the inflation expectations of wage-setters are all'ected. Secondly, what appear to be isolated priee shocks may insteacl reflect general conditions of excess demand thal show up first in markets where priees are flexible. These phenomena were apparent in the 1970s, when priee shocks in specifie markets were accompanied by an acceleration in underlying inflation that persistecl unt:il the l980s.
'Core inflation is defined here as the overall CP! less food and enerro• priees to abstrael from temporary supply sbocks in Ùlcse markets. This mcasurc ean still be influeneed by priee sbocks. For instance, the weak euro has boosted impon priees in the euro area, white the reverse bas been true in the United States.
Regression Results for Overall and Core
CPI Inflation
Dependent variable
U.S. overall U.S. core
U.S. overall U.S. core
Euro area overall Euro area core
Parameter on 12-month lagged inflation1
Ove ralf Core
1965M1-1982M12
1.51 (6.7) -o.94 (3.6) 1.22 (7 .9) -o.54 (3.1)
1983M1-2001M4
0.14 (0.5) 0.15 (0.6) 0.14 (0.6) 0.40 (1.6)
1997M1-2001M2
0.30 (1.0) -1.40 (2.0) 0.26 (0.4) -o.37 (2.3)
1Absolute values of t-statistics ln parentheses, adjusted for MA (12) error terms. Constant terms ln the regressions have been suppressed.
Sin ce then, the ant.i-inflationary credibility of monetary policymakers has become better estal:r Lished, as they have responded firmly to forestall any signs of emerging pressures. With the enhanced credibility of policy, specifie priee shocks, such as the oil priee surge during the GtùfWar, have not triggered generalized inflation. lndeed, during the 1990s, industrial countries have enjoyed the lowest sustained inflation rates since the 1950s. Such anecdotal evidence suggests that priee shocks should be of less concern now than at times in the past.
Statistical evidence on the relationship be-1.\veen overall and core inflation also supports ù1e view thal priee shocks are now of Jess concern. During 1965-82, the dominant factor explaining U.S. inflation (eiLher overaU or core) was past ()lJeraU inflation, wh ile the effect of lagged core inflation was ac1.uaiJy negative (see the Table) . ln other words, priee shocks that drove a wedge between overall and core inflation tended to cause long-lived increases in bot11 measures of infiaùon. The results for 1983-2001 are quite differem-the parameters on both lagged intlal.ion rales are small and statist:ically insignificant, witb the borderline exception of that on lagged core inflation in its own equation. While data limitations for the euro area preclude a comparison over the same time peri-
be havi or of inflation si nec the carly l980s supports downplaying shocks to headlinc priees.
Moreover, indicators of inflation cxpectations
suggest that recent priee shocks will have tempo
rary cffects: consensus forecasts point to signifi
cant declines in U.S. and euro-arca in nation next
year; market forecasts of longer-term inOaLion im
plicit in index-linked bond yields remain subdued (sec the Figure); and othcr traditional infla
tion indicawrs, such as gold and commodity
priees, have not suggested inflationary pressures.
At the same time, the change in the behavior of
inflation sincc the carly l980s also rellects
changes to the policymaking process, in particu
lar the determination of central banks to con tain
inflation by resisting any second-round impacts of
temporary priee shocks. The continued credibil
ity of such poli ci es depends on the willingness lO tighten policies given any signs thal priee shocks
are fuelling underlying inflationary presstu·es.
Capital flows to the United States, and the U.S.
dollar, would then fall back, ideally in a graduai
fashion, consistent with an orderly resolution of
global imbalances.5
Howevet� given the risks already described,
there remains a significant danger of a worse out
come. For instance, if U.S. productivity growth
were to disappoint, and overinvestment during
the recent boom turned out to have been more
extensive and widespread than presently believed,
equity markets in the United States cotùd weaken
markedly, accompanied by a sharp fall in fixed in
vestmeot and in priva te consumption (which has
so far remained relatively resilient). As discussed
Inflation Expectations Derived from lndex-linked Bonds (Percent)
Break-even rate tor U.S. Treasuries
- 4
- 3
Break·even rate for - 1 French OATS
�----�----�----�----L---- 0 1997 98 99 2000 Aug
2001
Sources: Bloomberg Financ1al Markets, LP: and IMF staff calcufahOns.
in Appeodix TI, this could result in a mucb deeper
and more protracted global downrurn-similar to
thal experienced in the carly 1980s and carly
l990s-especially if also accompanied by continu
ing structural weaknesses and consequently
weaker-than-projected productivity growth in
Europe and Japan. There would also be a possibil
ity of substantial financiaJ market turbulence, in
cluiliug in sorne circwnstances a possible abrupt
decline in the value of ti1e U.S. dollar. The impact
on developing countries would be substantial, in
cluiling through a further detetioration in exter
naJ financing conditions; this could both aggravate and be aggravated by country-specifie risks.
;Since the baseline projections in the World Eronomic Outlook, like those of a number of other forecasters, assume constant real exchange rates, the re is onJy a small reduction in imbaJances in the baseline scenario. See Appendix IT for a
Note: The methodology and specifie assumptions for each country are discussed in Box Al. 1 Debt data refer to end of year; for the United Kingdom they refer to end of March. 2Percent of potential.
soata before 1990 refer to west Germany. For net debt, the first column refers to 1988-94. Beginning in 1995, the debt and debt·service obli· galions of the Treuhandanstalt (and of various other agencies) were tal<en over by general government. This debt is equivalent to 8 percent of GDP, and the associated debt service to % to 1 percent of GDP.
41ncludes one-off receipts from the sale of mobile telephone licenses equivalent to 2.5 percent of GDP in 2000 for Germany, 0.5 percent of GDP in 2001 for France, 1.2 percent of GDP in 2000 for ltaly, and 2.4 percent of GDP in 2000 for the United Kingdom.
sponsibility for addressing poverty must of course
lie with national governments of the countries
concerned, and in this regard the New African
Initiative announced by the Organization of
African Unity-and supported by the G-8 at the
Genoa surrunit-is a welcome step forward. Such
efforts should be accompanied by increased sup
port from the industrial countries, including fur
ther trade liberalization; debt relief un der the en
hanced HIPC initiative; a fully-funded strategy to fight the AIDS pandemie and other diseases; and
increased efforts to achieve the U .N. target for
official aid flows, which, as a percentage of donor country GDP, have declined steadily over the past
decade (Figure 1.5). In this connection, an increase in aid flows by
0.1 percentage points from today's average leve1
of 0.24 percent of GNP would substantially ex
ceed the $10 billion the United Nations has iden
tified as needed to begin a comprehensive pro
gram of HIV 1 AIDS prevention and treaunent.6
Moreover, with only one-fifth of total overseas de
velopment aid flows now going to the !east devel
oped countries, there should be scope to direct
more of the increased aid to the poorest nations.
Finally, the successful launch of new multilat
eral trade negociations, possibly at the upcom
ing WTO Ministerial meeting in Doha, would
boost global growth prospects and help
strengthen the trading system. As discussed in
Chapter ll, the potential gains for both ad
vanced and developing countries from further
trade liberalization are substantial (for develop
ing countries, the benefit is estimated at twice
the present leve! of official aid flows) . A failure
to make progress toward a new round could re
duce confidence in the multilateral trading sys
tem, a development that would likely hurt the
poorest co un tries most of ali. Moreover, in an
environment of slowing global growth, protec
tionist pressures-which are never far below the
surface, and signs of which have already begun
6"A Global Partnership for African Economie Development," address by IMF Managing Director Horst Kôhler to the United Nations Economie and Social Counci!, Geneva, July 16, 2001. The text can be found at http:;7www.imf.org/ externat/ np/ speeches/200 1/07160 l.htm.
PROSPECTS AND POUGY CHALLENGES
Figure 1 .5. Net Overseas Aid Disbursement by Major Development Assistance Committee (DAC) Countries 1 (Percent of GNP)
Ald flows have steadily declined as a ��·centag� of GNP in •ecent yea1s, andapart from Denmark, Netherlands, and Sweden-most countries are weil below
Figure 1.6. United States: A Sharp Slowdownin the Business Sector(Percent change from four quarters earlier unless otherwise indicated)
The current slowdown has been marked by a sharp fall in business investment,especially in equipment and software. Core inflation remains subdued.
Sources: U.S. Department of Labor, Bureau of Labor Statistics; U.S. Department ofCommerce, Bureau of Economic Analysis; and IMF staff estimates.
1 Data for 2001 CPI, Core CPI, and core personal consumption expenditure (PCE) referto percent change from July 2001 over July 2000; employment cost index (ECl) refers tochange from 2001 :Q2 over 2000:Q2.
Employment cost index, fourth quarter over fourth quarter.3Core inflation rates exclude changes in food and energy prices.4Percentage change from December-over-December.5Chain type price index for personal consumption expenditures.6Difference in average percent contribution to growth, comparing the year before the
last five cyclical peaks with the period between these peaks and subsequent troughs.7Difference in percent contribution to growth between 1999:Q2 to 2000:Q2 and
2000:Q2 to 2001 :Q2, annualized.
to emerge—would prove considerably more dif-ficult to contain.
How Quickly Can Growth Pick Up inNorth America?
The sharp slowdown in U.S. economic activitythat began in mid-2000 continued through thefirst eight months of 2001, and the September11 terrorist attack has further increased down-side risks, although at the time of writing it is tooearly to assess the economic consequences. Thedownturn through early September has beendriven primarily by a significant weakening inbusiness investment, marked by a sharp falloff inequipment and software purchases and a rapiddepletion of inventories. Exports have also weak-ened substantially, although, with imports alsofalling sharply, the negative contribution of nettrade to growth has diminished. In contrast, pri-vate consumption growth—while weakening—has remained relatively robust; and residentialconstruction growth has also picked up, aided bythe reduction in long-term interest rates sincemid-2000. The decline in growth so far has beenabout the same as the average peak-to-trough de-cline in previous downturns, with broadly similarrelative contributions of consumption, invest-ment, and other demand components (Figure1.6). Within investment, the contribution ofbusiness equipment and software to the slow-down has been substantially larger than in thepast, reflecting the technology downturn, andthat of construction (residential and nonresiden-tial) has been somewhat smaller.7
The baseline projection, which was completedbefore the September 11 terrorist attack, envis-ages a modest recovery in the coming period,with GDP growth of 1.3 percent for the year as a
7In addition, recent revisions to historical national ac-counts data for 1998 to 2000 have led to a significant re-duction in estimated GDP growth in 2000, from 5 percentto 4.1 percent, because of lower inventory and softwareinvestment. These same revisions also lifted the personalsaving rate to 1 percent (from -0.1 percent) because of areduction in corporate profits and increase in personalincome.
Box 1.3. An Historical Analogy to the Terrorist Attack on the United States: The Kobe Earthquake
The 1995 eartl1quake in Kobe,Japan was the most cosùy natwal disaster in modern history. Sniking on January 17. it resulted in O\'Cf 5.000 dcaths, 35,000 castLalties, and property damage of around $120 billion (or about2!h percent ofjapan's a•mual CDP). ln addition to the direct impact on !ife and property, ù1e regional economy (accounting for about 4 percent of Japan's total output) was severely afTectcd by the disrupùon of ll<lOSpOrtation, induding the closure Of Kobe's important port facilities. ln terms of the financial impacl,Japanese stock priees feil by about6 percent following ù1c earthquake.
Ln the event, the direct impact on activity, as measured b) indicarors such as indLL�nial production, was relatively small. The more important hit to overaJI output came through a contraction in consumer spending in the fu-st
whole, picking up to 2.2 percent in 2002. Such a
scenario could-if accompanied by improved
growth performance in other major COlm tries
and an orderly depreciation of the U.S. dollar
be consistent with a graduai reduction in the
cu•-rent account deficit w more sustainable lev
els, accompanied by a steady improvement in
the household savings ratio. But, as emphasized
earlier, there are also significant downside risks
in the outlook, generally stemming from interre
lated uncertainùes about the extent of overin
vesunent in the economy, the medium-teno out
look for productivity growm, and the robusmess
of household balance sheets, confidence, and
consumer spending. The September 11 terrorist
attack will have a short-term effect on activity,
and has clearly exacerbated these dsks, parùcu
larly with respect to confidence and consumer
spending (Box 1.3 considers sorne possible par
allels between the economie consequences of
this attack and me Kobe earthquake inJapan).
Macroeconomie policies have been signifi
cantly eased. Since me beginning of the year, me
U.S. Federal Reserve has reduced interest rates
by 350 basis points, including a 50 basis points
quarter of 1995, leading to a decline in real CDP
of0.3 percem (quarterly rate). Activity recovered in subsequent quarters, however, and CDP for the year as a who le expanded by 1 !.1 percent compared wit.h slighdy over !.1 percenL in 1994.
Comparing the Kobe earthquake \vit.h û1e recent Len-orist attack in the United States, the direct impact of ù1e earthquake was larger, boù1 in absolu te terms aud relative to Japan 's economy. The second-round effeciS on other indus. u;es are harder Lo assess. The earthquake caused immense dislocation in ùte surrounding arca, but ù1c terrorist attack mar have a more far-reaching impact by disrupting U.S. financial activity and air transportation. Final! y, since ù1e ten-orist attack was a deliberaw action with longtenn security implkations, the elfeciS on consumer psycho! ogy may weil not be comparable.
eut as part of a global monetary easing on
September 17, accompanied by other measures
to ensure adequate liquidity in financial markets
for seulement of transactions. Fiscal policy has
also been eased, iniùally by the implementation
of a tax eut package in mid-year and by the re
cent approval of an emergency $40 billion
spending package following the terrorist attack.
This macroeconomie stimulus should support
activity in the period ahead, allowing demand to
recover modestly by tl1e end of t.he year as as
sumed in tbe baseline. However, confidence has
been further shaken by the terrorist attack, exac
The financial position of the banking system re mains very weak, especially given credit risks on classified loans, while limited progress has bee n made in corporate restructuring.
8-Nonpertorming loans (NPLs) and Writeoffs (percent of · loans; ln March of
6 -each year)
4-
- Writeotts
::1·11 •• 1996 97 98 99 2000 01
180 - lndustrial Activity - (1995 = 100) 160-
140-
120-
80- Construction -
so��������-
- Classlfled Loans 1 (percent of loans; in March of each year)
1998 99 2000
-20
- 15
-10
- 5
0 01
- Corporate Oebt and -100 Fixed Assets2 (percent of sales)
Sources: Mlnlstry of Finance; Mlnlstry of lntemalional Trade and tndustry; Nikkei Telecomm; No mura database; and IMF staff calculations.
toefined as the sum of watch listloans (Ciass 2), doubtfulloans (Ciass 3), and unrecoverable loans (Ciass 4). net of collateral. guarantees, and specHic Joan loss provisions.
2seasonally adjusted data.
2001 02
nomic policies should be supportive, although
the room for maneuver is clearly Limited, with
short-term interest rates already close to zero
and public debt very high. Wh ile the monetary
easings in August and September should help
to support activity, there remains scope for
more aggressive use of the flexibility available
under the new monetary framework with the
aim of achieving a rapid end to deflation, even
if this were to result in sorne moderate weaken
ing of the yen. On the fiscal side, it will be im
portant that the withdrawal of fiscal stimulus
remains moderate until a recovery is clearly
under way, and the authorities' intention to
introduce a modest supplementary budget in
the faU is therefore welcome. ln this connec
lion, it would be desirable to sbift the compo
sition of government outlays from public
works toward expenditures that would be sup
pOI·tive of restructuring, including a strength
ened social safety net, and the recently an
nounced expenditure guidelines include an
important step in that direction. This should be
accompanied by tl1e development and an
nouncement of a clear and credible medium
tenu plan to put the government finances on a
sounder footing, which could encompass a
medium-tenu debt target, enunciation of the
broad objectives and directions of tax, expendi
ture, and social security policy, and greater fiscal
transparency.
How Serious ls the Slowdown in Western Europe?
In the euro area, the slowing in growth that
began in the second half of 2000-most
markedly in Germany-has continued and
spread more widely in 2001. While interpreta
tion of developments is complicated by recent
data revisions, particularly in Germany, Lhe slow
Sources: Eurostat: European Central Bank; European Commission; IMF. International Financial Statistics; and IMF staff estimates. 1 Harmonlzed index of consumer priee index.
Box 1.4. The Japanese Economie Slowdown and East Asia
The shon-tenn ouUook for Japan has wors.
ened steadily since nùd-2000 as the high-tech
driven expansion succumbed to the slump in
global electronics demand, while domestic de
mand remained weak. Real GDP is now ex
pected to decline by 0.5 percent in 2001, fol
lowed by a modest rebound in 2002, fueled by a
pickup in global growth. This represents a sig
nificant ebange from expectations a year ago.
when the recovery seemed likely to continue in
2001, witb the lMF forecasting growth ofl�
percent. Given the size of the Japanese econ
omy, mis 2Y-I percentage point markdown of the
growth outlook has significant implications for
the world economy, and East Asia in particular.
The transmission channels fromJapan to the
rest of the region include:
Trade. Wbile the region has become relatively
Jess reliant on trade wilh Japan in recent years,
the linkages remain significant, witb around 12
percent of East Asian ex ports being sold to
Japan and 20 percent of imports coming from
Japan (see the Table). A slowingjapanese econ
omy would reduce trade turnover wilh regional
panners, thus impacting their growth outlook.
ln the region, lndonesia has the most signifi
cant trade links withjapan (about one-half of
this is petroleum), followed closely by China
(which sells mosùy lower-end goods to japan).
Hong Kong SAR and Singapore bave me Jowest
reliance.
lndicators of linkages Between Japan and East Asia (ln percent. data as of 2000 unfess otherwise stated)
Share of Exports to Exports to Japan Extemal
Japan (percent of GOP) Oebt!GOP
lndonesla 22 8 97 Thalland 16 9 66 Korea 11 4 28 Hong Kong SAR 6 7 Malaysia 13 13 48 Philippines 14 7 76 Singapore 7 11 China 16 4 14
Sources: CEIC Database; IFS; WEO; and IMF staff calculations.
Stock market pullback. Given the relatively
strong linkages between Japan and a number
of East Asian markets, a further decline in the
already depressed Japanese stock markets
could push regional equicy markets down, with
investors scaling back the ir exposures to East
Asian equicy as an asset class. The linkage is
particularly strong with Hong Kong SAR, but
Korea, Singapore, and Thailand also have
significant linkages. However, if investors see
differing prospects between Japan and the
rest of East Asia, th en it is possible Ùlat funds
may be pu lied out ofjapan and put into
other Asian markets, thus boosting stock priees
the re.
Problems related to the banking sector. As the econ
omy slows down, it is likely tbat the lending ca
pacicy of banks would be restricted by capital
constraints as loan-loss charges are increased.
Given thatjapanese banks remain major tenders
to the region, reports of further ban king sector
disu-ess could be destabilizing, with Thailand
l1aving the highest exposure.
Continmd stagnation or ccmtraction in the curpo
rate sector. Wh ile Japanese foreign direct invest
ment (FDI) bas declined and its banks have re
duced lending to many East Asian co un tries
since the Asian crisis, Japan noneù1cless remains
an important source of capital. Firm-level difficulries could impactjapan's FDI to the rest of
East Asia.
Share of Oebt Share of Bank Oenominated Stock Market Lending from Share of FOl
ln Yen Correlation1 Japanese Banks from Japan
21 0.03 25 13 32 0.21 37 25 172 0.32 18 16
0.40 32 302 0.12 27 14 27 0.09 18 7
0.30 27 23 162 0.00 18 7
'Daily correlation with the Nikkei 225 after controlling for the impact of the S&P 500, using data from January 1999 to June 2001. 2Refers to long-lerm debt in 1998.
The impact of the Japanese economy on East Asia can be analyzed through multicountry macroeconomie models, such as the Oxford Economie Mode! (OEM) and the G<ubed (Asia Pacifie) mode! (Callen and McKibbin, forthcoming). Simulation results from the OEM, which highlight the trade linkages between count.ries, suggest th at a 2 percentage point decline in Japan's growth outlook for 2001 (from the October 2000 baseline) would reduce growth rates of the East Asian economies, ranging from one-fifth of a percentage point in China, Korea, Malaysia, and the Philippines to about one-lhird of a percentage point in lndonesia, Hong Kong SAR, Singapore, and Thailand. Results from the G-cubed model, which incorporates intertemp<r rai optimiring behavior of agents and explicit finan cial market linkages, highlight ù1at the factors underlying the growth slowdown are crucial, as demand shocks like fiscal consolidation may have a negative shon-term impact for the region, but would be ultimately beneficiai by lowering interest rates and stimulating dernand. lf the slowdown results fl"Om a supply shock, such as a decline in productivity, however, the region's trade dynamics could be affected in a prolonged manner.
high in Greece and Portugal in 2001, coming
down gradually in 2002.
Recent data suggest that activity and confi
dence are contiouing to weaken in the major
countries, and, in contrast to the United States,
there is relatively little policy easing in place.
Nevertheless, interest rates have been eut by 100
basis points since May. Moreover, although fiscal
policy is broadly neutra! in the area as a whole,
tax cuts in sorne countries are providing a boost
to consumption. Demand is also likely to be sup
ported by the abatement of earlier oil and food
priee shocks, completion of inventory correc
tions, a still quite favorable exchange rate, and a
modest strengthening of activity in the United
States. Against this background, eur<rarea GDP
growth is projected to average 1.8 percent in
HOW SERIOUS IS THE SLOWDOWN IN WESTERN EUROPE?
Weaker Japanese growth could also have implications for the exchange rate of the yen, although si nee the Asian crisis, reduced levels of external debt and more flexible exchange rate arrangementS have reduced vulnerability to external shocks. lt is possible lhat a deprecialing yen would exen pressure on regional currencies, especially on countries compeùng with
Japan in third markets or with major yen exp<r sure. However, a more depreciated yen would have the beneficiai effect of reducing the yen component of the East Asian countries' external debt.
Simulation results from the OEM suggest a modest initial negative impact on the region from a depreciation of the yen, and subsequent positive impact as Japan 's growtll and regional trade pick up. The impact could be somewhat different if the depreciation is induced by an increase injapan's risk premium. lncorporating this channel into the G-cubed mode! shows a net positive impact on the region, with the negative impact on net exports (due to competitive pressure) more than offset by the reduced cost of capital and higher capital inflows (thal mirror the capital outflows fromJapan following the rise in its risk p1·emium).
2001-still the highest of the three major cur
rency areas--and to rise to 2.2 percent in 2002.
But the downside risks to this forecast have been
increased by the September 11 terrorist attack,
particularly if the global recovery is slower than
expected or consumer confidence continues to
weaken. The strong intraregional linkages would
transmit these risks throughout the euro area.
Furthermore, individual eur<rarea countries
face particular risks: for example, Finland and
lreland are vulnerable to the high technology
slowdown.
The oil and food priee shocks that have damp
ened domestic demand have also led to a sharp
rise in headline inflation, peaking at 3.4 percent
in May. Core inflation bas also risen, albeit more
Box 1.5. Relative Euro-Area Growth Performances: Why Are Germany and ltaly lagging Behind France?
Since mid-2000, domesùc demand growth has been weaker in Cermany and Ital)' tban in
France (see the Figure).! These developments
mirror a panera of dhergence among the ù1ree
largest euro-area economies. Since 1he last area
wide recession in 1992-93, output growlh ha.s averaged about 2 percent for France, l. 7 percent
fot ltaly. and 1.5 percem for Cennany. The
small, but cumulaùvely important., differences in
grm\ 1h over this horizon cao largely be traced
bàck lo diŒerences in potential growÙl-linked,
an1ong où1er factors. to the rare of growù1 in the labor force, wbkh in France was n.ice as high as that in the other two countries, together \-'Ïth
somewhat greater efiectiveness in pursuing SUJ'" ply-si de fliendl) structural reforms. Moreover.
disappointing poœotial growth through most of
the 1990:; suggests th at German y has ye1 to full y shake ofi' the lingering eiTects of unification.
Against this backdrop, developments cao be
analyzed b} focttsing on four subpeliods:
• From trough to Stage J of El.\>1( ': Starùng from the cyclical trough in 1993 to early 1997.
France and Cermany-linked tluough the de
facto fixed exchange rate in the ERM-moved
most!}' in lockstep. By contrast, the deprecia
tion of the lira upon ft.aly's exit from ù1e
Exchange Rate Mechanism (ERM) in
September 1992 prov:icled a boost to exports.
Growth in ali countries was dampened b) macroeconomie policies geared toward pro
moting disinflation and convergence to Maasrricht cliteria. The negative fiscal impulse was abom2 percentagc points of GDP
in both Germany and France, and ovcr 3 percent in ltaly. Employment growth wa.s weak in
all thrce countries, but especially in Getmany, reflecting the lack of labor market refotms,
confidence effects, and Jess 1han exemplary
output performance.
ICare should be laken in analy-Ling such shorHcrm u·enos in growth rates. For example, the rapid upswing ln German growth in carlv 2000 ha.� to somc exlent crcated base dfects that tend to exaggeratc the degree of the cw rem downmrn.
Euro Area: Growth Performance
The Recent Growth Slowdown 1
- Real GOP Stockbulldmg. conlnbullon to growth
- Final domesuc demand - Exports - tmports
- 2
-------------------------------- - 10 Germany France ltaly
Cumulative Growth Rates of Real GDP (1993:03 = 100)
From lrough to EMU - The emergmg marke\ cns1s
Renewed recovery 011 shock and global slowdown
- 120
- 11 5
-105
-'----'--1 00 1993 95 97 99 2001:
02 1 Differences 10 annualized average grow1h dunng the las! four
quart ers ( 2 000:03-2001 :02) compared w11h lhe previous four quarters (1999:03-2000:02).
• The emergi.ng m4rkel crises: After four years of
firful recoverv, growth rcsumed by late 1997. France, in particular, benefitcd from strong
domest.ic demand led by an invcsrrnent boom-linked to improved profitability and increased capaciry utilization-and employ-
menr-fricndlv ta.x relief that supported consumprion. German grmnh conrinued to sputter as the Jack of wage moderation and la bor
market reforms prolonged the labor shakeout begun in rhe carly 1990s. Ital) abo did Jess weil thau Fnl!1Ce, as lagged cffects of the carlier fiscal ùghtening, Jack of progress in !:itruc
tural reforms, and initial uncenainties about membership in the monetary union ali combined to weaken demand. Supponed b) strong U.S. demand and falling oil priees, the
rccoYt'ry started to pick up steam in ali conntries by mid-1998, but stall<:d in German} and Ital) � the spillovers from the emerging market crises hit Europe. Thesc spillovers were panicularly damaging for Gem1any and llaly bccausc of thcir rclalivcly larger manufacturing sectors and higher dependcnce on extra
eut·o-area exports LO emerging markets, and on cyclically sensitive capital and intemlediate inYcstment goods.
• Reneul('(/ recovery: A.\ global activit:y rebouncled
following the A�ian and Russian crises, the expansion took off again in mid-1999 and kept a sound footing for about one year. undcrpinncd by lower energy priees and a depreciating euro. By ù1is Lime, Oscal polie\' bad
turned roughly ncutral in allthn:e countries, while monctary conditions remained accommodath·e. ru, the tightening cycle initiated b)
the European Central Bank (ECB) had b�en off.�el bv further declines in Ù1e euro. Howen:r. indicators of cost compeùtiveness-inclucling ULCrbased real e1Jecûve exchange
rates, export shares, and profitability indcxes-suggest th at conversion rates at Ûle
forces driving headline inflation-notably higher
energy and food prices-now appear to be dissi
pating and, with demand pressures also easing,
both headline and core ürllation are expected to
fall below 2 percent in 2002. Citing the im
proved outlook for priees, the ECB reduced in
terest rates by 25 basis points in August (follow
ing a si mil ar eut in May), and rates were lowered
by a further 50 basis points on September 17 i n
HOW SERIOUS IS THE SLOWDOWN IN WESTERN EUROPE?
euro's launch may bave pmvided France with a relaLive compeütive advantage vis-à-vis Cermany and ltaly.
• The oil çhork and global shmtdoum: By mid-2000 the persistemjump in cnergy pricel> startecl to sap the recoveq in ali three c::conomie�. Final domestic demand fahered in the !auer half or 2000, pan:icularh in Germany and ltalv, as oil and food priee shocks croded disposable income and gradually draggcd clown busmess confidence.2 A.� the global economy slowed in ù1e second half of 2000, expons feU bark in boù1 German} and France. albeit from relaûvely high ratel>, but have held up �urprisingly weil in Ital}' where favorable movements in extema! competitiveness haYe sustained gains in
market sharc. ln most cases, prcviously lcgislated tax cuts turn out to have bcen fonu
itously timcd to provide sorne countercycücal supporL At the same lime, the continuation
in the ECB's ùghtcning cycle contributed to the slowdown felt throughout the euro area in
ù1e first half of 2001. Looking a head, as the effects of external
shocks dissipate and European economie integration deepens, growth differences bctwcen Germany, France, and ltaly should gradually
narrow. At lhe same Lime, however, dispruities in the pace of :.truc tura! reform:.. particularly in la
bor markets. will continue to create a potenùal for new divergences in economie performru1ce, as fresh exte.rnal shocks buffet the t:LLro area.
2Thc tcwm-QI-u<ttde Joss in 2000 l\"dS cquiv-dlenr to :u:ound l. 7 percent of GOP in both German) and haly but only 0.9 perccm of GDP in Frnnc<•.
11n accordance with standard practice in the World Economie Outlook, movements in consumer priees are indicated as annual averages rather than as December/December changes during the year, as is the practice in sorne countries.
2Percent of GDP. 31ncludes Argentina, Bolivia, Brazil, Paraguay, and Uruguay.
vened directly in the foreign exchange market
severa! times sincejune 2001 and, injuly, raised
its official interest rate. However, substantial for
eign ownership of equity in the high-technology
sector in Sweden, as in Finland, should help to
limit the downturn in domestic wealth and de
mand. In Norway, high oil priees are offsetting
weakness in the non-oil economy, through,
among other things, a resurgence of oil-related
investment. Elsewhere in Europe, growth in
Switurland is expected to slow to below 2 per
cent in 2001 and 2002, Largely due to weaker ex
ports and investment activity. With inflation still
subdued, the Swiss National Bank has been able
to lower interest rates-including on September
17. Further cuts would be warranted should evi
dence of a marked slowing of activity persist.
Ongoing public expenditure restraint will be
needed to support planned tax cuts and rising
costs associated with population aging, together
with further structural reforms-including in
the network industries--to raise the trend rate
of growth. In Iceland, growth is projected to slow
sharply, due mostly to a weakening of private
consumption, and this should contribute to
sorne lowering of the still-high current account
deficit. The authorities should continue to
strengthen the financial system's ability to ab
sorb shocks.
latin America: How Will Argentina's Crisis Affect the Region?
Figure 1 .9. Selected Western Hemisphere Countries: Overall Public Sector Deficit and Public Oebt (Percent of GOP)
Fiscal consolidation remains essential in many countries in Latin America, especially those where domestic debt remains high and vulnerable to exchange rate developments.
Overall Public Sector Deficit
- 1999 - 2000 2001 (projected)
- 3
\l'Cre unclcr downward pressure. A� the c-ri�is
d<·epened in Argcntina from early,lnh·, accompa
nied by �igns or conLagion within the region,
these pressures have significantl\ increa.�ed.
Semiment remains ven· lragile, particularly lol
lowing ùte Septembcr I l terrorbt attad. on the
United States and the associatecl possibility ol in
rreasing night LO qualiLI' in linanriaJ markets . . \.\ a result, there is substantial downsicle risk to the
omlook.
ln man\ countrie:., the rentrai vulnerabilitv re-
maim a high extemal rinancing requirement. L) r>icall)' linked to a large pttbli' �eclot deficit and
high public clebt (Figure 1.9). \>\'ith a substantial
0 share of public dcbt dcnominated in roreign t'Xchange, and in !>ome GL�es a comidtTable propor-
Source: IMF staff estima tes. 1 About 4 percentage points ol Brazll's deficit in 1999 were accounted for by the
Impact of the deprecia bon of the real on public sector debL 2Unless noted otherw1se, data refer to gross stocks of government debt. 1ncludmg
thal of public enterpnses, but excluding central bank habilitles. 3fncludes also central bank llabillties (monetary base) net of llquld foreign exchange
assets. 4 Addlng debt owed by the central bank net ol hquld fore1gn exchange assets would
substanlially rai se the domesbc debt component. while taklng the (net) foreign exchange linked component mto the negative range. Figures do not 1nclude recognitiOn bonds retated to pension system conversion.
forms to offset the deteriorating externat environ
ment. Regulation and supervision of the offshore
financial centers should also be strengthened.
Emerging Asia: Hard Hit by External Shocks
The ouùook for the emerging markets of Asia
has continued to deteriorate. From mid-2000, in
dustrial production and exports slowed sharply,
driven by the global slowdown, especially in the
high technology sector, and more recently by
weakening growth in Europe andjapan (Figure
1.10). Coming on top of a variety of earlier
shocks, including higher oil priees, political un
certainties, and in sorne cases weakening confi
dence as a result of lagging structural reforms,
growth prospects have declined furtber for most
of the newly industrialized countries and mem
bers of the Association of South East Asian
Nations (ASEAN) (Table 1.7). These shocks
have been accompanied by a decline in stock
markets, capital outflows, and periodic pressures
on exchange rates. External trade accounts for a
lower share of activity in the two largest
economies of the region-China and ln dia
but, while China's economie performance is ex
pected to be relatively well-sustained, growth in
India is projected to weaken in 2001 as a result
of a range of domestic shocks together with
falling exports.
Looking forward, growth in most Asian coun
tries is expected to pick up in 2002, supported
by an upturn in global activity and in the elec
tronics cycle; and it is encouraging that foreign
direct investrnent commitrnents continue to
hold up quite weiL However, there are impor
tant risks to the ouùook, particularly given the
increased global economie and financial market
uncertainty following the September 1 1 terrorist
attack on the United States. Specifie concerns in
elude the possibilities of a more prolonged
downturn in the United States; a lagging recov
ery in the technology sector; and the weakening
EMERGING ASIA: HARD HIT BY EXTERNAL SHOCKS
Fi gure 1.10. Selected Asia-Pacific Countries: Weakening Export Growth 1 (Percent change; U.S. dollars)
The newly lndustrializecl economies ancl members of the Association of South East As lan Nations (ASEAN) are experiencing much weaker extemal clemand. especially for technology.
11 n accordance with standard practice in the World Economie Out/oak, movements in consumer priees are indicated as annual averages rather than as Oecember/December changes du ring the year, as ls the practice in sorne countries.
2Percent of GDP. 3Jncludes developing Asia, newly industrialized Asian economies, and Mongolia. 41ncludes Bangladesh, lndia, Maldives, Nepal, Pakistan, and Sri Lanka. 51nctudes Cambodia, China, Lao People's Dem. Rep., Mongolia, and Vietnam.
ouùook for Japan (Box 1.4). Further deteriora
tion in external financial conditions could also
create difficulties for sorne regional economies.
Given the improvement in economie fundamen
tals since the Asian crisis-including large cur
renl account surpluses, higher reserves, reduc
tions in short-term external debt, and
widespread adoption of flexible exchange
rates-most countries are in a better position to
manage such risks. However, a further slowdown
in growth would exacerbate pressures on already
weak financial and corporare sectors, aggravate
the fiscal deficit in lndia, and compUcate reform
efforts in China. While the room for poUcy ma
neuver varies, macroeconomie policies should
remain supportive of activity to the extent possi
rate has declined signi.ficant.ly. Social develop
ment indicators, such as life expectancy, literacy,
and infant mortality rates, have also improved.
Despite ùlis progress, around 260 million peo
ple (26 percent of the population) sûll live be
low the poverty line, which continue� to present
a m:Yor policy challenge.1
Between 1974-2000, the percentage of the
population living below the poverty line feil
from 55 percent to 26 percent (see Ùle Figure).
The decline was fairly uniform across rural and
urban areas. Rural poverty, which conslitULes
roughly Lhree-quarters of the national poor, de
clined from 56 percent in 1974 to 27 percent in
2000, while during the same period, urban
poverty dropped from 49 percent to 24 percent.
lnterstate difl'el-entials in poverty also narrowed,
but they still remain large-white 6 percent of
the state of Punjab's population lives below t11e
poverty li ne, in Bihar the incidence of poveny is
now around 43 perœnL The rate of reduction in poverty during this period has been generally
steady, with the \argest reduction having taken
place between 1994-2000. Analysis of poverty trends in ln dia, however,
has becn complicated by stacistica\ problems.
Although the data on poverty in ln dia are believcd to be among the best among developing
cowltries, there are a number of areas of con
cern, in particular related to the coverage and frequency of the National Sam pie Surveys
(NSS), from wbich poverty estimates are coo
structed.2 Jn addition, concerns have been
• rndia's ()fficial poverty line, based on a nucritional norm. is deLermined at 49 rupees pcr capita montb.Jy expendilure aL 1973-74 priee.� for rural areas, and 57 rupccs pcr monÙl for urban area.�. This official poveny tine is lower Ùlan the World Bank's dollar-aday (at purchasing power parity) poverty li ne, according LO which 47 percent of India's population lived in po\'Crty in 1994, compared with the official esûmate of 35 percent for Ùlc same year.
t'The NSS carries out two types of consumer surveysan annual survey wiùl limited sam pie size and coveragc. and a more comprehensive survey with a larger sam pie conducted roughly every five years. Although estimates from Ùle smaller samples are made public,
Trends in Poverty (Percent of population below poverty line)
-- Combined
1974 78
- Rural
83 88
Source· Offic1a1 Expen Group es11mates
- Urban
94 2000
- 60
raised regarding the accuracy of the priee della
tors used in estimating real consumption expen
dirure, and the use of estimation procedures
that do not reflect ù1e increasing mooetization
and changing consumer preferences, particu
larly in the rural economy. More recenùy, ques
tions have arisen regarding the poverty esti
mates from 2000. Sorne analysts have cautioncd
tbat confusion on the part of boù1 respondenLS and enumerators due to changes in lhe survey
questionnaires may have resulted in measurement errors and a possible downward bias to the
poverty rate.
they are not used to construct official poverty estimatc�. Nonelheless, most analyses on ùle ume series properties of poveny have supplememed the estimates from the large-sam pie surveys with thosc from the �malisam pie surveys.
Despite these issues, severa! stylized facts have emerged from the extensive body of research on poverty in lndia. First, at the microeconomie leve!, poverty rates appear to be higher among womcn; thosc who arc illiterate; landlcss taborcrs; and those who belong to the lower castes (sec National Council of Applied Economie Research, 1996). Second, at the macroeconomie leve!, growth has been a major influence on poverty. Empirical studies show that both higher agriculwral yields and increases in nonfarm output have significanùy reduced poverty rates. ln addition to growth, low inflation, education, public development spending, and land reforms-particularly tenancy reforms-have also played key roles in reducing poverty. Lastf)) poverty alleviaùon programs (lood subsidy, rural work5, and self-employment schemes) have not been ve1·y cost effective, largely due to poor targeting, leakages, and abuse. However, sorne progress has recenùy been made in rationalizing and better targeting Lhese programs (World Bank, 2000).
ln ù1e la.�t few years, sorne analysts have raised concems thal the positive link between growth and poverty reduction, evidenced in the past, may have weakened in the l990s. Critics contend that, although the reforms in the carly 1990s raised economie growth rnarkedly, the
externat position is also projected to remain rel
atively comfortable. However, the recent slow
clown-and associated fiscal revenue shortfalls
is expected to cause the public sector deficit to
rise to more than 1 1 percent of GDP in .FY 2001/02. lt remains critical that steps are taken
to assure fiscal sustainability and lay the founda
tions for strong and sustained growth-includ
ing by moving ahead with proposed fiscal re
sponsibility legislation and by implementing the
ambitious structural reform agenda recently laid
out in the Prime Minister's Economie Advisory
Cou neil.
Agricultural conditions are contributing to a
divergence in short-term economie prospects for
EMERGING ASIA: HARD HIT BY EXTERNAL SHOCKS
benefits in terms of poveny redu clion were relatively muted. Supplementing poveny estimates from ù1e five-yearly large sample surveys with the annual small-sample surveys for ù1e period 1974-97. a recent analysis shows that alù1ough poverty inc1·eased in the initial years of the reforms (199 1-92), the u·end was sharply reversed in ù1e later years as the benefits of the rcforms began to Cilter through the economy.3 However, other factors that were previously poverty red\ICing, such as low inflation and high public rlevclopment spending, appear to have been Jess effective during this period.
The 2000 survey data-which showed a marked decline in the poverty r'c�.te afler 1997 during a pe•iod of relative!) robust growthprovides funher evidence that growù1 has b('en pro-poo1· in lnclia. ln addition, the fact that per capita consumption-based on national account stat.isùcs-grew rapidly during the past decade, at a rate even faster than the growth implied by Lhe SS sw·veys, while income distribution worsened only marginally, appears lo confu·m ùlis conclusion.
ssee A7it (forthcoming) who examines t.he experience with pover'Y at the statc level during 1974-97. using eslimates from both the fivc-ycarly large sample and annual small-samplc survcys.
lin accordance with standard practice in the World Economie Outlook, movements in consumer priees are indicated as annual averages rather than as December/December changes du ring the year as is the practice in sorne countries.
2Percent of GDP.
gether with liberalization of energy and other
key sectors, would also support investment, di
versification, and sustained growth.
Growth in Australia and New Zealand is ex
pected to slow significantly in 2001-albeit by
much Jess tl1an other countries in che region
accompanied by declining inflation and smaller
current accoum deficits. The export sectors of
both countries have been performing weil, sup
ported by more depreciated real exchange rates,
although the sustainability of recent export
growtl1 may be at risk if external markets con
tinue to weaken. Domestic demand has been
more patchy: investment-particularly residen
tial consu·uction-has been weak, but recent
data point to a strong rebound in Australia, and
consumer confidence and spending in both
countries have held up relatively weil. Interest
'rates in Australia have been eut substantially,
supporting a bounce back in activity after the
slowdow11 in the second half of 2000, which in
part reflected an unwinding of the buildup of
demand ahead of changes in ilie tax regime in
mid-2000. Faced with tighter labor markets and
high capacity utilization, interest rate reductions
in New Zealand have been more moderate.
Nevertheless, provided inflation remains sub
dued, both countries have scope for further rate
reductions-particularly if external and dornes
tic demand weaken un der the impact of the
global slowdown.
The economie performance of individual
Pacifie island countries has varied qui te widely over
the years, reflecting differences in ilie strengili
of economie policy implementation, ilie political
environmen t, and the timing and severity of par
ticular externaJ shocks. Thus, real GDP con
tracted sharply in Fiji and ilie Salomon islands in
EMERGING EUROPE: A DIFFICULT BALANCE BETWEEN SHORT- AND MEDIUM-lERM OBJECTIVES
Emerging Europe: A Difficult Balance Between Short- and Medium-Term Objectives
Following a strong pickup in 2000, regional
GDP growth is expected to fall to 1.1 percent in 2001 (Table 1.8), due largely to a sharp decline
in output in Tw·key. GDP growth in most other
countries in the region is expected to weaken
moderately, as export growth-which has so far
held up relatively well, buoyed by foreign direct
invesonent and corporate restructuring-is in
creasingly affected by weakening demand in
Europe, particularly German y (Figure 1 . 1 1 ) .
Correspondingly, little progress is expected i n re
ducing external current account deficits, which,
although largely financed by foreign di•·ect invest
ment, remain a source of vulnerability. So far,
contagion from the Turkish crisis has been lim
ited, although sorne countries-including Poland
and Hungary-experienced sorne pressures on
exchange rates as conditions in Argen tina deteri
orated in early July. In most countries, unemploy
ment-linked to labor market rigidities and high
tabor taxation-is also a serious concern.
For the regional aggregates, developments
bave been dominated by the crisis in Turkey,
where a combination of weakening economie
fundamentals, policy slippages, and increased
political uncertainty culminated in a major spec
ulative attack and the floating of the lira in la te
February. The extremely higb interest rates ex
perienced during the crisis period, combined
with the large overnight borrowing of the state
banks and official support for intervened private
banks, resulted in a substantial increase in pub
lic debt and in a rapid shortening in its maturity.
\<\'hile interest rates eased in the immediate af
termath of the crisis, they have remained at high
levels, putting fiscal sustainability and economie
recovery at risk. Along with extreme uncertainty
about exchange rates and inflation, high real in
terese rates hampered the real economy and in
creased pressures on the already fragile banking
system. The key challenge facing the new eco
nomie team bas been to restore confidence and
to b1·ing down interest rates rapidJy and in a sus-
Figure 1 .11 . Emerging Europe: Export Growth 1 (Percent change from four quart ers eartier unless otherwise noter!)
Exports in emerging Europe have been growing strongly over recent years, partly reflecting the impact of corporate restructuring and foreign direct lnvestruent. However. export growth has recently weakened under the impact of the global slowdown.
Export Growth
50-
40- Hungary Czech
30- Re public
20- / 10-
0 -10 -
·20-Pola nd
-30
-50
-40
-20
0
- -10
--20 ·30
1997 98 99 2001. 1997 98 99 2001 02 02
Exports as percent of GDP (2000)
- Germany - Other EU Rest of World
ro- -ro
Hungary Czech Poland Republic
Bal tics Butgaria Romania
Sources: IMF, Direction of Trarfe Statistics; and various central bank websites. 1 Export of goods only.
Memorandum Net energy exporters3 5.5 8.6 4.3 4.2 75.3 19.6 20.7 12.4 9.9 16.7 10.7 7.2 Net energy importers4 1.6 5.2 4.7 3.5 56.1 44.9 25.0 14.9 0.1
11n accordance with standard praclice in the World Economie Outlook, movements in consumer priees are indlcated as annual averages rather than as December/December changes during the year as is the practice in sorne countries.
2Percent of GDP. 3includes Azerbaijan, Kazakhstan, Russla, and Turkmenlstan. 4includes Armenia, Belarus. Georgia, Kyrgyz Republic, Moldova, Tajikistan, Ukraine. and Uzbekistan.
Turkey and Argentina has been relatively mod
est: spreads on both Russian and Kazakh eu
robonds have fallen for the year as a whole,
aided by high energy priees and limited financ
ing needs (although sorne pressures emerged
temporary at the end of june as the situation in
Argentina deteriorated and oil priees declined).
However, those countries where Turkey accounts
for a significant share of exports (including
Georgia) are likely to be adversely affected during
COMMONWEALTH OF INDEPENDENT STATES: RECOVERY CONTINUES, BUT REFORMS LAG
ber of cases. In Armenia, Georgia, Ky1"{JJZ Republic,
Moldova and Tajikistan, the dramatic increase in
ex tema! debt over the pasr decade is a serious
threat to external and fiscal sustainability (Figure
1.12) and i.s of particular concern given these
countries' very low per capita income and higb
poverty levels. The rise appears to stem from
sharp increases in energy priees and the loss of
transfers from the central govemment of the for
mer USSR early in the transition, resulting in
large current account deficits. Regional and inter
nai conflicts, policy failures and weak governance,
and sharp currency devaluations following the
1998 Russia crisis also played an important
role.9 These factors were compounded by overes
timation of implementation capacity and underes
timation of the difficulties of transition by the
governments, international financial institutions,
and other creditors. Also, in sorne cases the fi
nancing received by these cotmtries was not ap
propriately concessional, and related investrnents
suffered from inadequate project planning. While
policies to strengthen domestic adjustrnent and
growth performance will help alleviate the situa
tion, a number of these countries could face seri
ous difficulties if the externat environment deteri
orates or if economie growth does not respond to
reforms as expected. ln this event, additional assistance from the international community will be
needed to avoid an abrupt adjustrnent that could
have a serious impact on the poor.
Looking to the longer term, the reinvigoration
of the structural reform process-particularly in
institution building and governance, enter-prise
restrucruring, the financial sector, and transform
ing the role of the state-remains the key to sus
ta.inable growth in the GIS. Indicators of struc
tural reform produced by the European Bank for
Reconstruction and Development (EBRD) sug
gest that little progress was made between 1998
9for a detailed discussion, see "Armenia, Georgia, Kyrgyz Republic, Moldova, and Tajikistan: External Debl and Fiscal Sustainability," joinùy prepared by rhe European Il Departrnent of the lMF and the Europe and Central Asia Region of the World Bank, available al http:/ /www.imf.org/ externa)/np/ eu2/2001/ edebt/ eng/index.htm
Figure 1 .12. Commonwealth of lndependent States (CIS): Continuing Recovery But Disappointing Progress on Reform 1 (Annual percent change unless otherwise noted)
GDP growth has picked up si nee the Russian crisis and inflation is declining, although it remains high in a number of countries. But progress in structural reform has been disappointing, wh ile high external debt in some cou nt ries is a serious concern.
Source: European Bank for Reconstruction and Development, Transition Report 2000. 1 Shaded areas indicate IMF staff projections 2 Belarus, Tajikistan, Turkmenistan, and Uzbekistan. 3 Armenia, Azerbaijan, Georgia, Kalakhstan, Kyrgyz Re public, Moldova, and Ukraine. 4 Simple average of EBRO indicators for eight structural reform lndicators. A score of 1
re presents conditions bef ore reform in a centrally planned economy; a score of 4 1/3 shows strucrural characteristlcs comparable to those in advanced economies.
5 Armenia, Georgia, Kyrgyz Re public, Moldova, and Tajikistan.
11n accordance wîth standard practice in the World Economie Out/oak. movements in consumer priees are îndîcated as annual averages ather than as December/December changes during the year, as is the practice in sorne countries.
2Percent of GDP. 3Excludes South Afrîca.
and 2000 (Figure 1.12), des pite relative! y favoi·
able macroeconomie conditions (and in sorne
cases reform actually moved backwards). Against
ù1at background, Ùle 1 0-year reform program an·
nounced by the Russian government is encourag·
ing, and the recenùy implemented tax refonn is a
major step forward (aliliough the revenue impli
cations will need to be monitored carefully, espe
cially if oil priees decline fmther). New legislation
in a broad range of areas is progressing ùuough
Ùle Duma, including proposais on simplification
of business regulations, mo ney laundering, land
code, and pension reform. The government has
also approved strategies for reform of t:wo key
utilities-electricity and railways. Elsewhere, Ùle
experience remains mixed. While Ùle momentum
of reforms has picked up in sorne co un tries (in
cluding Armenia and Azerbaijan), in others-in
cluding many of Ùle cow1tries !east advanced in
u·ansition-Ùle reform process remains stalled. In
a number of Ùlese, where furilier liberalization is
being blocked by vested interests Ùlat benefit
from a situation of partial reform, a major dornes
tic political initiative will be needed to achieve
further progress.
Africa: Supporting Growth and Poverty Reduction
GrowÙl in Mrica is projected to reach close to
4 percent this year, driven by a substantial im
provement in the Maghreb region-especially as
Morocco recovers from drought-and a more
modest increase in activity in sub-Saharan Mrica
(Table 1.10).10 Inflation is expected to remain
subdued in the Maghreb, as weil as most coun
tries of sub-Saharan Af'rica, aliliough it remains a
concern in sorne countries-notably in Angola, the Democratie Republic of Congo, and ZimbafJwe, but
also in Ghana and Nigeria. Wh ile me regional cur
rent account deficit remains small-reflecting
large surpluses in oïl and gas producers-many
sub-Saharan Mrican countries continue to expe
rience large deficits, in part driven by weak non-
IOHowever, IMF forecastS of African growth have in the past been too optimistic, reflecting a combination of adverse shocks, including conl:lictS, as well a.� shortfalls in polie)• implementation.
weigh on export earnings of South Africa. Global and commodity market developments
notwithstanding, local influences still play the
dominant role in the economie prospects of most
African countries. In particular, the outlook for
private investment, economie diversification, and
longer-term growth is generally brighter in coun
tries that have pursued sound macroeconomie
AFRICA: SUPPORTING GROWTH AND POVERTY REDUCTION
Figure 1 .13. Selected African Countries: Sensitive to Commodlty Markets 1 (Percent change; countries grouped according to key sources of export eamings)
Commodity market developments have a major impact on overall economie activity in many Alrican countries.
6 - 011 and Nalural Gas2
5 - Metals4
3
Export of 1 - goods
- (righi scale)
0 1995 96 97 98 99 2000 01
-80
- 15
-10
- 5
0
--5
·10 02
1 0 - Food and Beverages3 ·
Export of goods 8 -__..- (righi scale)
12- Agricultural Raw • Malerials 5 10 -
99 2000 01
1 Shaded a rea indlcates IMF staff projections.
-40
- 30
-20
-10
-32
-24
- 1 6
- 8
0
- .a
·16 02
2Afgeria, Angola. Cameroon. Republic of Congo, Equatorial Guinea, Gabon, and Nigeria. 3Burundi, Comoros, Côt e d'Ivoire. Ethiopia. Guinea·Bissau. Kenya. Maurilania.
Mauritius. Rwanda, Sao Tomé and Principe, and Uganda. 4Central African Republic, Ghana, Guinea, Mozambique, Namibia, Niger, Sierra Leone,
South Alrica. and Zambia. Ssenin. Chad. Malawi, Mali. Sudan, and Zimbabwe. This category includes conon and
Box 1 .7. Economie Growth, Civil Conflict, and Poverty Reduction in Sub-Saharan Africa
Efforts to reduce poverty in sub-Saharan
Africa have been disappointing over the past two decades, and its poverty gap wilh the rest of
the world has widened significanlly. Wbile the
share of sub-Saharan Mrica's population earning Jess t.han $1 per day feil by 1 Y2 percentage
points over the 1990-98 period (see t.he Tabl.e) ,
the proportion feil by 4 percentage points in south Asia and by 121h percenrage points in east
Asia (Chen and Ravallion, 2000) . In low- and
middle-income countries, the decline in poverty
during the 1990s closely tracked trends in per
capita economie growth.
This relaùonship is confirmed in a number of
recent empirical studies. Ravallion and Chen ( 1997), for example, fi nd th at the share of the population living on les:; than $1 per day falls by
3 percent for every 1 percem increase in mean
per capita income, while Dollar and Kraay
(2000) find a 1 percent increase in economie
growth is associated with a 1 percent increase in
income of the poor. Sucl1 studies, however, to a
large extent have nol focused specifically on
Africa, owing Lo the paucity of quality data on
income of the poor. Nonetheless, trends in
broader "nonincome" poverty (or human devel
opment) indicators, which are more readily
available for sub-Saharan Africa, also closely track changes in economie growth.
Infant mortality rates feil by 20 percent in subSaharan Africa from 1980 to 1998, a reJatively
modest improvemenc compared to the declines of around 30 Lo 50 percent achieved in other regions of the world. Similarly, li fe expecrancy in-
Poverty lndicators and Growth
Llfe Expectancy at Birth (in years) 1980 1998
Low· and middle·income countries 58 65 East Asia and Pacifie 69 Europe and Central Asia 68 69 latin America and Caribbean 65 70 Middle East and North Africa 59 68 South Asia 54 62 Sub·Saharan Africa 48 50
creased by only 4 percem in sub-Saharan Africa
during this period and remalns weil below aver
age lifespans elsewhere. This poor progress in
raising life expectancy in sub-Saha.ran Africa is
partially exp1ained by t.he high incidence of
HIV 1 AIDS in a number of countries. Cross
country empirical anaJysis highlights the impor
tant role or growt.h in explaining broader "nonincome" poverty reduction in sub-Saharan
Africa.l lt has been estimatcd thal a 10 percent
increase jn per capita CDP is associated with a 1 percent increase in life expectancy, a 3 per
cent to 4 percem decline in infant mortality
rates, and a 3!12 percent to 4 percent increase in t.he rate of primary school enrollmem.2 The analysis also finds th at civil conflict. income dis
tribution, and social service delivery are also significant factors affecting poverty in Africa.
lmplementing structuraJ adjustment prograrns
does nOL significanùy affect life expectancy or infant mortalhy rates, t.hougb adjusters tend to
have higher primary school enrolmem rates-it
is the economie growth resulùng from adjust
ment programs t.hat reduces poverty.
Considering in more detail the impact of esca
lating civil conflict, a srudy of six African coun
tries t.hat experienced extensive economie !osses
during sustained civil confficts in the J980s and
1See Moser and lchida (2001) for a more de1ailed discussion.
2Based on the esùmaûon of a reduced-fonn poverty equation, employing a panel of 46 sulrSaharan African countties covering the:: period 1972-97.
Share of 1 nfant Mortallty Population Uvlng Real GDP Growth Rate (per 1 000) Below $1 Per Day Rate Per Capita (Avg.)
l990s finds that real per capita GDP at the end of the conOict period averaged only 55 percent of its prewar JeveJ.ll Moreover, while lhere was an initial postwar rebound in agricuJtural output, the desu·uction of the capital base-both human and physical-limited the extent of medium-Lerm gains. Consequently, five years a.t� ter ù1e end of the conAict, real per capila GDP had increased on average to only about 75 percent of prewar levels.
More generally, a comparison ol poverty and income rrends for conflict and nonconflict countries in sub-Saharan Africa over the 1972 lo 1997 period reveals ù1e following:4 • The inlant mortality rate lor nonconnict
countries feil by 36Y1 percent, compared with a decline of251h percent for conflicl countries. Excluding conflict-affected countries, the infant mortality rate in sub-Saharan Africa
�Moser, S taines, and Engstrom (fonhcomiog). �Conflict countrie� over Lhe 1972-97 period com·
prised Angola, Burundi, Chad, Democratie Republic of the Congo, Ethiopia, Cuinca-Bissau, Liberia, Motambique, Nigeria, Rwanda, Sien-a Leone, Sudan. and Uganda. These countries represemcd 55 percent ot the population in sulrSaharan Afiica in 1990.
and structural policies. Reflecting this, relatively
strong growtb-around 5 percent and above-is
expected to continue in Botswana, Cameroon,
Mozambique, Tanzania, and Uganda. In contrast,
poor policy performance, often combined with
political uncertainty and/or conflict, bas
markedly adverse effects on prospects for sus
tained growth and for reductions in poverty (see
Box 1.7). In Zimbabwe, for exan1ple, the turbu
lent land reform program and inappropriate
macroeconomie policies are expected to lead to
the economy comracting by around 8V2 percent
in 2001, with inflation reaching more than 90
percent by the end of the year; in Côte d'Ivoire,
the recent political uncertainty bas hurt public
finances and contributed to a weak investment
climate and a fall in output. Local weather condi
tions can also have a major impact on year-to-
AFRICA: SUPPORTING GROWTH AND POVERTY REDUCTION
compares much more favorably (at 82 per 1000 in 1997) with that in south Asia.
• Life expectancy increased by 17Y1 percent for nonconOict countries compared with 9Y1 percent for confiict-affeCLed countries, even ù10ugh improvements in Life expectancy generally stalled in the l990s owing to ù1e spread of HIV 1 AIDS.
• Gross prima1-y school enrollmem increased from 61 to 89 percent over 1.972 to 1992 in nonconl·lict countdes, compared with an in
an initial surge in the 1970s, also dillered substanlially bctwecn Ùl(' cwo groups of countrics: real GDP per capita (in purchasing pO\ver parity terms) grew at an average annual rate of
51h percent in nonconflict couno·ies over ù1e
1972-97 period, compared with 3 percent in conllict countrics. Real per capita GDP (in U.S. dollar terms, converlcd at 1990 exchange rates) increased at an average rate of l percent annually for nonconflict countries com
pared wiù1 a declint: of 1 Yi percent annually for conflict cotmtries.
11n accordance with standard practice in the World Economie Oullook, movements in consumer priees are indicated as an nuai averages rather than as December/December changes du ring the year, as is the practice in sorne countries.
2Percent of GDP. 31ncludes Bahrain, Egypt, lslamic Rep. of Iran, Iraq, Jordan, Kuwait, Lebanon, Libya, Oman, Qatar, Saudi Arabia, Syrian Arab Republic, United
Arab Emlrates, and Republic of Yemen. 41ncludes Bahrain, lslamic Rep. of Iran, Iraq, Kuwait, Ubya, Oman, Qatar, Saudi Arabia, and United Arab Emirates. Slncludes Egypt, Jordan, Lebanon, and Syrian Arab Republic.
tion fund-expected to total close to 20 percent
of GDP by the end of 2001-and sustained mon
e tary discipline and low inflation, Algeria should
be able to avoid the same extent of boom-bust cy
cle th at Nigeria may face. Some developments
are of con cern, however, including a surge of
public wage and capital expenditure and a
pickup in monetary growth that may add to infla
tion pressures. Maintaining prudent macroeco
nomie policies, together with increasing the pace
of privatization, trade liberalization, and other
structural reforms, would help promote private
secror led investment and growth-particularly
needed in non-energy sectors of the economy.
The Middle East: Managing Oil Priee Volatility
The economies of the Middle East face a range
of externat and domestic pressures. Most notable
among tbese are oil market developments, in
clu<ling the increased uncertainties in the market
following the September 1 1 terrorist attack in the
United States; ù1e s tance of domestic policies
particularly fiscal policy; the regional security
situation; and the global economie slowdown, es
pecially-in the case of Israelr-in ilie lùgh-tech
nology sector. While me region as a whole is ex
pected to register relatively robust growth of 4.5
percent in 2001 and 4.4 percent in 2002, the
short- to medium-term outlook varies qui te
widely from country to country (Table l . l l ) .
Although non-oit growtb is likely to accelerate
in 2001 owing in part to ongoing structural re
forms, total growù1 in most regional oil produc
ers is expected to moderate, mainly reflecting
limits on oit production under quotas agreed to
by the Organization of the Petroleum Exporting
Countries (OPEC) as weil as somewhat lower oil
priees. In fran, this impact is largely offset by
strong growth in non-oil activities-driven in
part by a recovery in agriculture from last year's
drought and by a pickup in domestic demand.
Given the need to sustain relatively high growth
to generate employment for a rapidly growing la
bor force, policy emphasis needs to be placed on
macroeconomie stabilization, as well as on push
ing ahead with reform efforts directed at liberal
izing and opening the economy. Expenditure re
straint is being applied in most oil-producing
counuies, as ù1ey attempt to mute the boom
bust cycles experienced under earlier oit priee
fluctuations and, in Saudi Arabia, to reduce high
domestic debt (Figure 1.14). In addition, official
Faced with higher export earnings, most oil producing countries are now showing greater fiscal restraint as they seek to avoid boom·bust cycles of the past.
25 - GDP Growth and 011 Priee
20-
15 -
1 0 -
5 -
- 5 0
-40
-30
-20
- 1 0
o--------�-�L----4---4----------------- 0
·5 - - ·10
-to���--�����--����--���� ·20 1972 76 80 84
- Revenue and Expenditure 2 (U.S. dollars)
1973 1979
88 92 96 2000 02
- 1 00
- Public expendllure - Oil export revenue
- 80
60
40
20
0 1990 2000
1 Data for 2001 and 2002 are IMF staff projections. 011 producers include Bahrain, lslamic Rep. of Iran, Kuwait, Libya, Oman. Qatar. Saudi Arabia, and United Arab Emirates.
21ncrease (in U.S. dollars) in the three years following each oil priee shock compared with the three years before.
help to strengthen the climate for private invest
ment, as would restructuring and privaùzation in
the dominant state-owned enterprise sector.
For the countries of the Mashreq (see Table
1 .11) , economie growth is projected to be some
what lower than in the Middle East as a whole,
in pan the result of the difficult security situa
tion. Economie vulnerabilities are acute in
Lebanon, where the government deficit and debt
have reached very high levels; a comprehensive
strateg}' to address these concerns needs to be
implemented rapidly. In Egypt, real GDP growth
is projected to ease to 3.3 percent in 2001,
largely reflecting the recent slowing of credit ex
pansion from earlier unsus tainable rates. The
fluctuation band for the pound was devalued by
6� percent in early August, and widened to
+/-3 percent (from +/-1� percent). The 25
percent currency depreciation against the dollar
since mid-2000 will, over time, help stimulate the
traded goods sector, but continuing flexibility
will be needed to avoid balance of payments
constraints as economie growth recovers.
Prospects for recovery over the year ahead will
depend, in part, on the speed with which in
vestor confidence strengthens and on develop
ments within the region. In ù1e Mashreq as a
whole, reforms directed at further trade liberal
ization and developing a supportive business en
vironment wo�tld improve the longer-lerm out
look for growth.
Economie activity in Israel weakened sharply
in the final quarter of 2000, led by a falloff in in
vestment and exports, and GDP growth is ex
pected to decline from 6.2 percent in 2000 to
0.7 percent this year. This slowdown is mainly a
result of the global high-technology slump and
of the deterioration in regional security--the lat
APPENDIX 1: PRIMARY COMMODITIES AND SEMICONDUCTOR MARKETS
shipments briefly to protest United Nations eco
nomie sanctions.I2
The ouùook for oil priees also depends on
global economie growth, especially in the major
industrial countries, and on prospects for contin
uing cohesion within OPEC--where futures
priees indicate that market participants generally
expect OPEC's target priee band to be main
tained. Following the September 1 1 terrorist at
tack, futures priees increased slightly for the
near term and decreased for long-term con
tracts. As of mid-September, crude priees were
around $27 at the end of2001, weakening to
around $22 by the end of 2002. In addition to
economie and political uncertainties surround
ing the oil market, the vulnerability of markets
for oil products to disruptions in production
and distribution also needs to be emphasized.
For exarnple, with capacity utilization in U.S. re
fineries currently running at around 93 percent
and little recent investment to enhance capacity,
product markets have little room for maneuver
in the event of unexpected breakdowns or other
supply disruptions.
Agricultural Commodities
Production of most agricultural commodities
failed to adjust to slower demand growth in
1997-98 and, with a succession of good harvests,
it has been difficult to absorb inventories accu
mulated in those two years. As a result, priees
generally remain weil below the ir levels of the
mid- to la te 1990s (Figure 1 .17). Wh ile the cur
rent slowing in global demand may exacerbate
priee weakness, low priees for most of these com
modities tend to stem from supply rather than
demand conditions. In particular, priee declines
over recent years have led to sorne strategie shift
ing among annual crops but have generally not
led to a decrease in overall production. The situ
ation bas been most serious for tree and other
12Jraq's agreement with the United Nations to export oil in return for food and medicine expires on November 30, 2001, which adds to the uncertainty regarding supply in the near term.
Figure 1 .17. Indices of Commodity Priees (1995 average = 100)
Sources: Yellow sheets, Urnerbarry Publica1ions; The National Business Review; Bloomberg Financial Markets. LP; Tropical Timbers Journal; U.S. Forest Service. USOA; London Metals Exchange; World Bank and IMF staff calculations.
States, as weil as low saving rates, were sustained
over the period 1880-1913 by severa! areas of
new European settlement, including Australia
and Canada (but not the United SLates). In
this case, however, the areas of new European
settlement were exploiting a resource (new
land) that was not available in the European
countries supplying the capiLal, and was comple
mented by large inilows of labor. By contrast,
the United States is currently exploiting a tech
nology whose components are highly traded
(see Chapter IJI). Even if, as assumed in this
scenario, the United States was able to furtl1er
expand its existing productivi ty advanLage over
the other main industrial countries, this situa
tion would be unlikely to last for an extended
period of time, especially if su·uctural reforms
are introduced. As the gap between tl1e output
potential of the United States and the rest of
the world widened, the opportunities for catch
up through copying U.S. organizational tech
niques would likewise increase. At some point,
the greater expected real return to the United
States, and associated capiLal flows and ex
change rate strength, would reverse, ideally in a
graduai fashion.
The second set of scenalios looks at the conse
quences of a slowing of productivity growth
around the world, together witb a realization
that overly optimistic assumptions about recent
rates of growth of potential output growth have
led w significant invesunent and consumption
overhangs \vithin the United SLates.
When it is realized tl1at current U.S. potential
output is l lh percent lower than initially as
sumed, invesunent falls in order to restore the
desired capiLal output ratio. More generally,
Jower productivity growth in the United SLates
and elsewhere also depresses wealtb, and hence
investrnent and consumption. The most dra
matie version of this scenario, reported in Table
1.15, is when financial markets correctly reassess
the situation immediately, wbich leads to a sig
nificant reduction in existing international im
balances at considerable short-term costs to
global output and demand. In tl1is case, the
U.S. equity market falls by 20 percent as the
APPENDIX Il: ALTERNATIVE SCENARIOS
Figure 1 .20. Impact of Changes in Productivity Growth (Deviation in percent from base/ine real GDP) -- United States Japan -- Euroarea -- Other industrial countries
Euro area Real GDP -1.0 -1.4 -1.8 -2.4 -3.0 Potential output --o.5 --Q.9 -1.4 -1.8 -2.3 Real domestic demand 0.7 0.7 0.6 0.3 Real investment 1.2 2.6 2.6 2.7 2.8 Real effective exchange rate 10.4 10.1 9.9 9.8 9.6 Real U.S. dollar exchange rate 17.8 17.7 17.5 17.6 17.9 Current account ($billion) -9.5 -35.3 -55.2 -72.6 -88.2 Private lending (percentage points of GDP) --Q.2 -D.9 -1.2 -1.4 -1.2 CPI inflation (percentage points) -1.6 --o.8 --o.5 --Q.4 --Q.3 Short-lerm interest rate (percentage points) -1.6 -1.9 -2.2 -2.3 -2.3
Japan Real GDP -1.0 -1.5 -1.8 -1.9 -2.0 Potential output -n.5 -1.0 -1.6 -2.1 -2.7 Real domestic demand -1.4 -2.0 -2.4 -2.6 -2.8 Real investment --Q.9 -2.3 -2.7 -3.0 -3.1 Real effective exchange rate �.2 �.2 �.4 �.6 -1>.8 Real U.S. dollar exchange rate 0.2 0.2 --Q.1 --Q.2 -D.2 Current account ($billion) -2.3 -2.3 -1.5 1.8 10.1 Private lending (percentage points of GDP) --D.1 --D.2 --Q.3 -D.7 -D.2 CPI inflation (percentage points) 0.4 0.0 -D.1 -D.1 -D.1 Short-lerm lnterest Rates (percentage points) --Q.2 --Q.2 -D.2 0.1
Other industrial economies Real GDP --o.6 --Q.9 -1.3 -1.8 -2.4 Real domestic demand --D.2 0.3 0.2 --D.2 Current account ($billion) -21.8 -49.3 �2.2 -73.5 -84.4
lndustrial countries Real GOP -1.4 -1.8 -2.1 -2.4 -2.5 Real domestic demand -1.3 -1.7 -1.9 -2.2 -2.3 Current account ($billion) 6.4 -n.5 0.3 --D.1 -2.0
Developing countries Real GDP --o.5 --Q.7 -1.0 -1.2 -1.3 Real domestic demand -n.5 -1.0 -1.3 -1.5 -1.8 Current account ($billion) �.4 0.5 --Q.3 0.1 2.0
consequences of the investment overhang are by 4\14 percent compared to baseline by 2003 realized, and the dollar falls by a similar amount and stays broadly level ù1ereafter. This reflects against the euro and around 15 percent against the resolution of the excesses of the previous other industrial country currencies, except the boom based in overly optimistic potential out-yen, as the consequences for capital flows are re- put assumptions, which leads to a rapid reduc-alized, boosting real exports and reducing real tion in investment (which in turn further re-imports. Consistent with the depreciation of the duces the rate of growth of potential output) real exchange rate, U.S. domestic demand falls and, to a lesser extent, private consumption.
Table 1 .16. Alternative Scenario: Graduai Realization of Slower Productivity Growth (Percent deviation from baseline unless otherwise specitied)
2002
United States Real GDP -1.3 Potential output -1.5 Real domestic demand -1.6 Real investment -1.4 Real effective exchange rate -1.9 Current account ($billion) 13.0 Net private sector savings 0.1 CPI inflation (percentage points) 0.2 Short-lerm interest rate (percentage points) 0.0
Euro area Real GDP -Q.6 Potential output -o.5 Real domestic demand -o.2 Real investment 0.6 Real effective exchange rate 2.1 Real U.S. dollar exchange rate 3.5 Current ace ou nt ($billion) -4.1 Net private sector savings CPI inflation (percentage points) -o.3 Short-term interest rate (percentage points) -o.3
Japan Real GDP -o.4 Potential output -o.5 Real domestic demand -Q.4 Real investment 0.3 Real effective exchange rate -1.4 Real U.S. dollar exchange rate Current account ($billion) -3.5 Net private sector savings -o.1 CPI inflation (percentage points) 0.1 Short-term lnterest Rates (percentage points) -o.1
Other industrial economies Real GDP -o.6 Real domestic demand -o.3 Current account ($billion) -7.2
lndustrial countries Real GDP -o.8 Real domestic demand -o.8 Current account ($billion) -1.7
Developing countries Real GDP -o.3 Real domestic demand -o.4 Current account ($billion) 1 .7
Monetary conditions are eased significantly, al
though the reduction in short-term interest
rates is constrained by the inflationary impulse
from the depreciation of the doUar. Real GDP
shows a similar, if less dramatic, fall, being re