Bloomberg News

IMF Cuts U.S. Growth Forecast, Sees European Contagion Risk

June 17, 2011

(Updates with comments from IMF officials on Europe, U.S. from fifth paragraph.)

June 17 (Bloomberg) -- The International Monetary Fund cut its forecast for U.S. growth in 2011 for the second time in two months, warning that further setbacks to a recovery pose growing threats to the world economy, along with potential contagion from the European debt crisis.

The U.S. economy will grow 2.5 percent this year, down from 2.8 percent projected in April, the IMF said today, citing higher commodity prices and bad weather in the first quarter and a weak housing market. The IMF forecasts 2.7 percent growth in 2012, slower than the previous estimate of 2.9 percent. The Washington-based IMF sees the world economy expanding 4.3 percent this year, down from 4.4 percent two months ago. It left a 4.5 percent forecast for next year unchanged.

“Global activity is projected to slow in the second quarter of 2011, and then reaccelerate in the second half of the year,” the IMF said in an update of its World Economic Outlook report. “Greater-than-anticipated weakness in U.S. activity and renewed financial volatility from concerns about the depth of fiscal challenges in the euro area periphery pose greater downside risks.”

The IMF urged emerging markets from China to Indonesia, which are set to grow three times faster than developed counterparts, to hasten interest-rate increases. Challenges facing richer economies range from debt-reduction plans in Japan and the U.S. to improving banks’ balance sheets in Europe, where investors fear there won’t be the political support to reduce deficits and secure funding for countries such as Greece.

Sovereign Defaults

IMF chief economist Olivier Blanchard at a press conference in Sao Paulo said today that a failure to agree on measures or funding for countries at the “periphery” of the euro region could lead to a sovereign defaults and derail the world recovery.

As European officials discuss how to provide additional funding for Greece and get the private sector involved without triggering a default, the IMF is “hopeful” that an agreement can be found, said Jose Vinals, the agency’s head of the monetary and capital markets department.

“The fund is ready to help but for that there are some conditions that need to be met,” Vinals said. These conditions are for the Greek authorities to endorse measures attached to the loan and assurances from Europe that Greece’s program will be fully financed, he said.

Deficit Forecast

In a separate report today, the IMF narrowed its deficit forecast for the U.S. this year to 9.9 percent of gross domestic product, from an April estimate of 10.8 percent, after tax revenue was higher and spending lower than expected. It’s now set to be the second-largest shortfall of major mature economies after Japan.

Still, “for the U.S., it is critical to immediately address the debt ceiling and launch a deficit reduction plan that includes entitlement reform and revenue-raising tax reform,” the IMF said.

The recommendation comes as U.S. lawmakers wrangle over spending cuts and budget reforms as they seek an agreement to increase the $14.3 trillion debt limit before Aug. 2, the date on which the Treasury Department said it will have exhausted all its borrowing authority.

Economists surveyed by Bloomberg News from June 1 to June 8 also expect U.S. expansion of 2.5 percent, according to the median of 68 forecasts.

Advanced Economies

Developing nations will grow 6.6 percent this year and 6.4 percent in 2012, while advanced economies will expand 2.2 percent in 2011 and 2.6 percent next year, the IMF said.

Risks from higher commodity prices have eased compared with April, according to the agency. It now assumes oil at $106.30 a barrel in 2011, based on the average prices of U.K. Brent, Dubai and West Texas Intermediate crudes, compared with $107.16 in April.

Crude oil for July delivery dropped $1.30, or 1.4 percent, to $93.65 a barrel on the New York Mercantile Exchange today.

Still, global inflation has accelerated and pressures “have become increasingly broad-based” in developing economies, the IMF said, “reflecting a higher share of food and fuel in consumption as well as accelerating demand pressure.”

Within Group of Seven countries, the IMF cut its 2011 forecast for Japan after the March earthquake and tsunami, now expecting a contraction of 0.7 percent this year and growth of 2.9 percent next year. That compares with predictions of expansion of 1.4 percent and 2.1 percent two months ago.

Euro Area

It now also expects 1 percent growth in Italy this year, 0.1 percentage point less than in April. Still, expansion in the 17-nation euro area is expected to reach 2 percent, 0.4 percentage point more than two months ago thanks to higher-than- expected growth in Germany and France.

The supply chain disruption from the Japanese disaster has also contributed to lower U.S. growth and investors are worried about a recent slowdown in activity, according to the report.

“Market concerns about possible setbacks to the U.S. recovery have also surfaced,” the IMF wrote. “If these risks materialize, they will reverberate across the rest of the world -- possibly seriously impairing funding conditions for banks and corporations in advanced economies and undercutting capital flows to emerging economies.”

The IMF sees recent U.S. figures as “more of a bump in the road than something more worrisome,” Blanchard said today. He said that he expects consumer spending and investment spending to continue “at a decent rate.” Even growth is too weak to cut unemployment quickly, it is strong enough “to avoid any chance of a double-dip” recession, he said.

Emerging Markets

Among major emerging markets, the fastest growth will be in China, which will expand 9.6 percent in 2011 and 9.5 percent next year, unchanged from April projections. The IMF cut growth forecast for Brazil to 4.1 percent this year, 0.4 percentage point less than before, and 3.6 percent in 2012. Forecasts for India were unchanged at 8.2 percent and 7.8 percent respectively.

These fast-growing countries should use exchange rate flexibility and tools that can include capital controls “to help contain risks of boom-bust cycles,” the IMF said.

--Editors: Kevin Costelloe, Vince Golle

To contact the reporter on this story: Sandrine Rastello in Washington at srastello@bloomberg.net

To contact the editor responsible for this story: Christopher Wellisz at cwellisz@bloomberg.net


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