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19/01/2006 | World Executive Summary - What Could Derail the Current Expansion?

WMRC Staff

The world economy is expected to enjoy a growth rate of at least 3% in both 2006 and 2007. The primary engines of growth are likely to be U.S. consumer spending and Chinese investment spending, as they have been the past two years.

 

However, there is no shortage of risks that could potentially undermine global economic prospects. These include higher oil prices, the possible bursting of housing and real estate bubbles, the ever-worsening global imbalances, and the bird flu. Each of these risks, on their own, might do only limited damage; if two or more were to happen simultaneously, however, they could derail the current economic expansion.

Of the many risks facing the global economy, high oil prices still pose the greatest threat, because of their potential impact on inflation and interest rates. This risk was discussed in some depth in last month's World Executive Summary, and will not be discussed in any detail this month.

The other major threat to growth in some of the world's economies is the possible bursting of real estate bubbles. Over the past 10 years, many countries have seen a sharp rise in housing and real estate prices. The primary driver of this trend has been the fall in global long-term interest rates. Most of these bubbles have occurred in major metropolitan areas such as London, Sydney, Shanghai, New York, and Los Angeles. Recently, there has been growing evidence that the housing bubbles in the United Kingdom, Australia, and the United States are beginning to deflate. Global Insight has estimated that even in the worst-case scenario, where house prices fall by 10% nationally (a very rare event in industrialized economies, other than Japan), real GDP growth would only be reduced by 1 percentage point.

While there has been a lot of discussion in recent years about the so-called global imbalances and, more specifically, the large and growing U.S. current-account deficit, Global Insight does not believe that these imbalances will lead to a "hard landing" of the U.S. dollar or a financial crisis, because of the reserve status of the dollar and the role of the U.S. economy as the primary locomotive of world growth. Nevertheless, it is true that growth is too domestic-led in the United States and too export-led in the many other parts of the world, including Europe and Asia. Unless domestic demand growth in the rest of the world accelerates, the pressure on the U.S. dollar will remain downward for the next few years.

Finally, there are rising concerns that the avian flu virus could mutate into a form that spreads from person to person. If this happens, estimates of possible deaths range from a few thousand to a few million. In such a scenario, the impact on economic growth would be very similar (or more pronounced, depending on the extent of the epidemic) to what happened with SARS. The countries most affected by SARS (Hong Kong, Singapore, China, and Canada) did see a temporary reduction in economic growth, because of adverse impacts on tourism, retail trade, entertainment, etc. An avian flu epidemic (or pandemic) would likely have a bigger—but also temporary—impact on growth.

The bottom line is that global economic growth over the next two years will likely be sustained at a relatively high rate. However, if there is a convergence of two or more of the risks discussed above, then the world economy could be pushed into recession. Fortunately, while such a scenario is possible, it is not very probable.

Author: Nariman Behravesh

Contact: Raul Dary

24 Hartwell Ave.
Lexington, MA 02421, USA
Tel: 781.301.9314
Cel: 857.222.0556
Fax: 781.301.9416
raul.dary@globalinsight.com

http://www.globalinsight.com/ and http://www.wmrc.com/

WMRC (Reino Unido)

 



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