Vol 9 (2012) - Issue 5

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The Growth Outlook and the Legacy of the Crisis

Recent Developments
The global economy remains on a 3.5% growth trajectory that is considerably slower than the 4-5% growth trend seen in pre-crisis years. Most of the growth stems from emerging markets (EM), even if growth has decelerated in that space as well. It is a major shift from past years, when advanced and emerging economies contributed about equally to global growth. August data on Purchasing Managers for the manufacturing sector suggest the continuation of this trend. Some of these dynamics stem from the weakness in the Euro area having negatively affected global trade. In the US, growth is subpar and uneven. Disappointing forward-looking investment and manufacturing activity metrics are juxtaposed with encouraging labour market data. That said, the labour market recovery remains anaemic by historical standards and, of the 8.8 million jobs lost in the crisis, only 4 million have been recouped thus far.

Why?
The legacy of the 2007-2008 Great Recession is still being felt through sector de-leveraging. The crisis brought a massive retrenchment in the US private sector’s financial balance, from a deficit of close to 4% of GDP in 2007-08 to a surplus of 10% in 2009. Such an abrupt shift is extremely deflationary, were it not for policy intervention. The sharp rise in government spending (along with very accommodative monetary policy) helped mitigate the downturn (Exhibit 1). Since then, the US financial and household sectors remain on balance-sheet-repair mode. The household sector has made great progress in trimming aggressively their mortgage liabilities. And while consumer credit growth has picked up, it is concentrated on auto loans (supporting the rebound in auto sales) and student loans. At the same time, fiscal policy has turned more restrictive, i.e., public sector dis-saving is smaller.