February, 2009

Global Outlook and Policy Challenges

Olivier BlanchardEconomic CounsellorResearch Department

1

WEO Real GDP Growth ProjectionsWEO Real GDP Growth Projections((In percent change from a year earlier)In percent change from a year earlier)

U.S.U.S. Euro Japan China India WorldEuro Japan China India World

2002009 (Jan.09) 9 (Jan.09) --1.6 1.6 --2.0 2.0 --2.6 6.7 5.1 0.52.6 6.7 5.1 0.52002009 (Nov.08) 9 (Nov.08) --0.7 0.7 --0.5 0.5 --0.2 8.5 6.3 2.20.2 8.5 6.3 2.2Change Change --0.9 0.9 --1.5 1.5 --2.4 2.4 --1.8 1.8 --1.2 1.2 --1.71.7

202010 (Jan.09) 1.6 0.2 0.6 8.0 6.510 (Jan.09) 1.6 0.2 0.6 8.0 6.5 3.03.0202010 (Nov.08) 1.5 0.9 1.1 9.5 6.8 10 (Nov.08) 1.5 0.9 1.1 9.5 6.8 3.83.8Change 0.1 Change 0.1 --0.7 0.7 --0.5 0.5 --1.5 1.5 --0.3 0.3 --0.80.8

Source: IMF, World Economic Outlook.Source: IMF, World Economic Outlook.

Global Outlook Has Deteriorated, but Modest Global Outlook Has Deteriorated, but Modest Turnaround Anticipated with Policy StimulusTurnaround Anticipated with Policy Stimulus

2Deteriorated Outlook Reflects Abrupt Fall in Industrial Activity and Global Trade

Merchandise Exports(Annualized percent change of 3mma

over previous 3mma)

-20

-15

-10

-5

0

5

10

15

Jan-00 Jan-02 Jan-04 Jan-06 Jan-0830

35

40

45

50

55

60

65

Industrial Production(Annualized percent change of 3mma

over previous 3mma)

Global IP

Global Manf. PMI(sa, RHS)

-40

-30

-20

-10

0

10

20

30

40

50

60

Jan-00 Jan-02 Jan-04 Jan-06 Jan-08

Dec.08

World

Nov.08

Advanced

Emerging

3

Behind the Forecasts—Advanced Economies

Causes of the collapse of output: Continued financial crisis.

Less through direct effects (so far) of credit crunch.

Than through indirect effects

Lower wealth

Collapsing confidence

Wait and see

4

40

50

60

70

80

90

100

110

120

Jan-07 Jul-07 Jan-08 Jul-08 Jan-09

U.S.

Japan

Euro area

U.K.

Fall in Stock Markets and Consumer Confidence

1/23 0

20

40

60

80

100

120

140

160

180

Jan-05 Jan-06 Jan-07 Jan-08

U.S.

Japan

Euro area

U.K.Dec.08

Equities(1/1/2007=100; FTSE)

Consumer Confidence(Jan. 2005=100)

LehmanBrothers

5

Behind the Forecasts—Emerging Economies

Three Major Shocks:

Declining External Demand and Exports.

Tighter Credit (External Financing).

Lower Commodity Prices.

6

-40

-20

0

20

40

60

03 04 05 06 07 08 09-10

-5

0

5

10

15

20

03 04 05 06 07 08 09

Emerging Economies Growth Slowed By Falling Exports and Industrial Production

Industrial Production(in percent change from a year earlier)

Emg. Asia

Nov.08

Merchandise Exports(in percent change from a year earlier)

Latin America

Emg. Asia

Latin America

Nov.08

Emg. Europe

Emg. Europe

7Sharply Lower Commodity PricesSharply Lower Commodity Prices

Commodity Price Indices(index: Jan. 2002=100)

0

100

200

300

400

500

600

700

Jan-02 Jan-04 Jan-06 Jan-08

Metal Index

Beverage Index

Food Index

Agricultural RawMaterialEnergy

Proj.

8

0

400

800

1200

1600

2000

2400

2800

3200

3600

Jul-07 Nov-07 Mar-08 Jul-08 Nov-08

External Financing PressuresExternal Financing Pressures

Selected Emerging Markets Sovereign CDS Spreads(index: 7/1/2007=100)

Current account surplus or small deficit

Current account deficit larger than 5% of 2007 GDP

1/23

9

0102030405060708090

100

2006Q1

Q2 Q3 Q4 2007Q1

Q2 Q3 Q4 2008Q1

Q2 Q3 Q4

LatamAsiaEMEA

Syndicated Lending to Emerging Markets(in billions of U.S. dollars)

Source: Dealogic

Syndicated lending to emerging markets Syndicated lending to emerging markets has contracted sharply as banks has contracted sharply as banks deleverdelever

10

0102030405060708090

100

2006Q1

Q2 Q3 Q4 2007Q1

Q2 Q3 Q4 2008Q1

Q2 Q3 Q4

CorporatePublic

Emerging Markets Bond Financing(in billions of U.S. dollars)

Market-based financing tighter with home bias

Source: Dealogic

11

0

50

100

150

200

250

300

350

400

450

500

2005 2006 2007 2008 2009 2010 2011 2012

SovereignCorporate

Historical Issuance and Upcoming FX-Denominated Debt (in billions of U.S. dollars)

Source: Dealogic, Bloomberg, Staff Estimates

Issuance Amortization

Emerging Market Emerging Market CorporatesCorporates will have Large Rollover will have Large Rollover Needs in Coming YearsNeeds in Coming Years

12

Policy Challenges—Advanced Economies

Need to decrease uncertainty and tail risk

Need to repair financial system, get credit going 3 legs, but only 1 working

May need to substitute / do it yourself for some timeCentral banks and “credit easing”

Need to boost demand (fiscal stimulus)Spending more than general tax cuts, higher multipliers

13

0

200

400

600

800

1000

1200

Worldwide Americas Europe Asia

Writedowns and Credit Losses vs. Capital Raised (In billions of US$; cumulative since 2007Q2)

0

200

400

600

800

1000

1200

Banks/Brokers Insurers GSE

Clarifying Asset Prices and Capital Adequacy

(By Region) (By Type)

Losses

Capital

Losses

Capital

Source: Bloomberg, L.P.

14

0

1

2

3

4

5

6

7

Jan-08 May-08 Sep-08 Jan-09

Counteracting Portfolio Shifts through “Credit Easing”

U.S. Commercial Paper Rates(30-day rates; in percent)

Non-Financial (A2/P2)

1/20

U.S. Credit Spreads(over Treasuries; in basis points)

Financial (AA)

Asset-backed (AA)

CPFF MMIFF

0

200

400

600

800

1000

Jan-08 May-08 Sep-08 Jan-09

. Corporates (BBB)

1/21Conforming

mortgage

Jumbo mortgage

TALFCredit

Cards ABS

MBSPrgm.

15

Global Growth and Contributions of Fiscal Stimulus 1/World

(in percent, GDP Growth)

-4

-3

-2

-1

0

1

2

3

4

5

6

7

06 07 08 09 10 11 12 13 14 15

WithoutFiscal

Package

WEO projection

United States(in percent, GDP Growth)

-4

-3

-2

-1

0

1

2

3

4

5

6

7

06 07 08 09 10 11 12 13 14 15

WithoutFiscal

Package

WEO projection

1/ GIMF simulation; fiscal shock based on G-20 fiscal packages plus two-year monetary accommodation.

16

Policy Challenges—Advanced Economies

Big challenge if long rates go up (sustainability concern), then much of the positive effects is offset

Need well defined, credible medium-run plans

17

0

20

40

60

80

100

120

140

160

180

200

Jun-07 Oct-07 Feb-08 Jun-08 Oct-08

United States

United Kingdom

Japan

Industrial Economies(5yr Sovereign CDS; in basis points)

0

20

40

60

80

100

120

140

160

180

200

Jun-07 Oct-07 Feb-08 Jun-08 Oct-08

France

Germany

Italy

Spain

1/23 1/23

Selected Europe(5yr Sovereign CDS; in basis points)

Rising Concerns Over Fiscal Sustainability

Source: Bloomberg, L.P.

18Ireland Sovereign and Bank CDS SpreadsBefore and After Public Guarantees

Irish Bank and Sovereign CDS Spreads(5-year CDS Spreads; in basis points)

0

50

100

150

200

250

300

350

400

450

Jun-08 Jul-08 Aug-08 Sep-08 Oct-08 Nov-08 Dec-08 Jan-09

2/2

Bank of Ireland

Ireland Sovereign

Allied Irish Bank

Governmentguarantees

19

Policy Challenges—Emerging Economies

Same as advanced economies (bad loans, tight credit), plus more:

Lower commodity prices.

Lower export growth.

Usual advice: Smooth if you can (reserves, exchange rates, fiscal policy).

Two issues:

How long? One year, or many more?

Capital account: ``Creeping stops’’ of financing (home bias)

Need liquidity support (reserves, swaps, new Fund facility)

20

New IMF Facility?

Some directions:

Creeping stops: Largely exogenous, Slow, Long Lasting.

Prequalification, not conditionality

Precautionary. Available for 6 months, one year?

Long lasting. Same terms as SBA?

21

Recovery Prospects and Risks

Recovery prospects based on: Slow improvement of financial system; housing price stabilization; fiscal impulses and other key policy actions.

Key Risks: Policies not in place soon enough (more serious real and financial feedbacks)

Policies in place, but do not work well (Japan, 1990s)

Policies cannot help avoid sustained deflation

Policies help some at expense of others

Still, some reasons for optimism. Crisis of confidence, but confidence can return fairly fast with right policies

22U.S. Housing – Signs of Stabilization?

Real House Prices(index, 1995 = 100)

Housing Inventories(new homes)

50

100

150

200

250

70 75 80 85 90 95 00 05

OFHEO

Case-Schiller

NAR

OFHEO trend

NAR trend

100

200

300

400

500

600

70 75 80 85 90 95 00 050

2

4

6

8

10

12

14

Months of supply

(RHS, SA)

Thousands of units(LHS)

23

Price of Oil(US dollar/barrel)

G3 Growth(year-on-year percent change)

-6-4-202468

2007 2008 2009 2010 2011 2012

US Inflation(year-on-year percent change)

Euro Area Inflation(year-on-year percent change)

5050thth percentile and confidence bandspercentile and confidence bands 1/1/

20

40

60

80

100

120

140

2007 2008 2009 2010 2011 2012

-4

-2

0

2

4

6

2007 2008 2009 2010 2011 2012-4

-2

0

2

4

6

2007 2008 2009 2010 2011 2012

How Great Are Deflation Risks?

1/ Simulations from Global Projection Model (GPM).

24

-60-40-20

020406080

100120140

Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08-60-40-20020406080100120140

Total

Advanced

EM

Syndicated Loans for Trade Finance(%yoy change on 3-month moving average)

12

A Global Credit Crunch may Contribute

to Sharp Drop in Trade Finance

Source: Dealogic

25

0.0

0.2

0.4

0.6

0.8

1.0

1.2

90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 090

10

20

30

40

50

60

70

VIX and Standard Deviation of Forecasts (in percent)

VIX Index(RHS)

U.S. Consensus Forecasts (STDEV; following

year; LHS)

Gulf War I

AsianCrisis LTCM

Heightened Uncertainty a Defining Feature of the Crisis

9/11Jan.09

26Leading to Sharp Portfolio Shifts

0

2

4

6

8

10

12

Jan-07 May-07 Sep-07 Jan-08 May-08 Sep-08 Jan-09

U.S. Interest Rates(in percent)

Corp. BBB

10yr Treasury

Corp. AA

1/26

2yr Treasury

27

-40

-20

0

20

40

60

80

100

120

140

Recession Avg. 1/ 2008Q3

VIX

Consumer confidence

Consumer durables

Fixed investment

Residential investment

Elevated Uncertainty Weighing on Spending

VIX , U.S. Confidence& Spending

Source: Bloomberg L.P.1/ Average of year-on-year percent changes during NBER recession dates from 1980-2008.

-50

-40

-30

-20

-10

0

10

20

30

Jan-07 Jan-08 Jan-09-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

U.S. Vehicle Sales(in percent)

Auto and truck sales(yoy 3ma; RHS)

Auto and truck unit inventory

sales ratio(LHS)

(percent change, yoy)