Wednesday, 22 June 2016

The World economic outlook is not great

Paul Sweeney: The outlook for the world economy is not great, with low economic growth, rising inequality and slow demand, according to the OECD, the rich countries’ think tank. It published its Outlook earlier this month.

Catherine Mann, the OECD’s Chief Economist, warns that the world economy is stuck in a low growth trap, with low productivity and rising inequality.  Here is her graph showing how low growth has been in recent years and the forecast (on right of graph and table) which is for continued weak growth.

Mann also warns that there is the lack of demand internationally, and the productivity gains are not being shared with wages lagging productivity.

Source: OECD, June 2016.

Progress in the Euro area has been muted as can bee seen and will remain so, because the economic policies being pursued are too restrictive, as many have argued on Progressive Economy for many years.

Indeed in a update this week, the Euro area forecast for 2016 and 2017 has been increased fractionally to 1.7 and 1.8% which is slightly positive, though it is a forecast.

The OECD is correct to point out that lack of demand - and lagging wages which of course should feed into aggregate demand - is leading to slow economic growth. Mann points out that monetary policy alone is insufficient to raise demand. Less restrictive fiscal policy is also needed especially in Europe.

She points as the labour markets are  “healing only slowly”, with unemployment still too high and employment rates are below what they were before the crash of 2008.

She implies that historically low interest rates are a very good opportunity to relax fiscal policy and to invest more in the economy, particularly through public investment. This is a point that has been made repeatedly by TASC and I will be returning to in my next blog.

Of course, the OECD in advocates what are called “structural reforms -  some of which would be reasonable but others would be contentious. Overall, The OECD report is welcome and indeed is fresh in comparison to much of the commentary closer to home, including from the European Union.

On Ireland, the report says “The Irish economy is projected to continue its robust expansion in 2016 and 2017. Both exports and business investment, which surged due to temporary impetus by multinational enterprises, will moderate but remain solid.”

It predicts that the domestic sector will remain firm and employment will grow steadily. Hopefully for workers, the following prediction is correct: “Wage growth will be strong as the labour market tightens.” Household consumption will be solid, supported by labour earnings growth.

“The government is assumed to remain on track towards its medium-term goal of balancing the budget.” It urges that “Strong revenue growth and low interest costs should be primarily used for a more rapid reduction of still high public debt.” And yet in its global report it calls for the need for greater investment, but neglects this call in Ireland’s case, in favour of fiscal rectitude and accelerated debt repayment, when interest rates are so low and greater investment is needed, as it admits.

Productivity growth has been trending down for some time, in association with a slowdown in knowledge-based capital (KBC) investment. It says the recent surge investment by multinational enterprises will lift productivity growth but it seems critical of our dependence on them saying that “the diffusion of innovation to smaller, national firms is likely to be limited by the weak linkages with multinationals.” Public support to business R&D, which is skewed towards R&D tax credits, should be rebalanced towards more direct support for domestic SMEs. This is a very good point, but may be wasted on many Irish policymakers who always seem to favour tax breaks, as if they were free and directed to achieve desired outcomes. There is however, a recognition of the ineffectiveness and potential high cost of tax breaks by a growing number of policymakers.

Finally, the OECD report says “the economy is expected to expand solidly, but with tightening capacity constraints pushing up inflation.”

Because unemployment is still relatively high at nearly 8%, this demonstrates that there is still plenty of capacity for further expansion. Further, there has been no inflation in Ireland for eight years and a little bit of inflation would be welcome as it would oil the wheels of industry, reduce real debt, and help savers. Thus this comment appears a bit naïve. Nonetheless, this is an interesting report.

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