INVESTMENT MANAGEMENT

Investment Management

Investment Management

Macro-economic situation in the world today

The recovery from the deepest recession in decades is becoming more broadly based. Global growth has picked up since the soft patch in the middle of last year and activity is driven increasingly by strengthening private final demand. However, progress remains uneven across economies. In the near term, the adverse supply-side shocks from high commodity prices and the earthquake in Japan and its aftermath are damping activity somewhat and pushing up headline inflation. Such effects should fade from the latter half of this year, provided commodity prices stabilise and inflation expectations do not become unanchored. Financial conditions continue to improve and monetary policy remains accommodative in the OECD economies, though increasingly less so in emerging market economies where spare capacity has been largely absorbed. This should allow the recovery to strengthen, despite increasingly widespread fiscal consolidation. Global output growth is expected to be close to 4¼ per cent this year and 4½ per cent in 2012.

On this basis, labour market conditions would continue to improve slowly, though at 7% by the end of 2012, the OECD reforms that offer comparatively strong short-term employment gains and facilitate fiscal consolidation. These include measures that help to ensure that job losers and other vulnerable groups remain attached to labour markets and quickly return to employment, reforms that increase productivity in the public sector, and measures to improve product market competition. In conjunction with fiscal consolidation in OECD countries, a well-designed package of structural reforms to reduce product market regulations in sheltered sectors of countries with an external surplus, and deepen financial markets and improve social welfare systems in non-OECD countries, would also help to narrow global imbalances over time.

Against this background, the macroeconomic and financial policy requirements at present and in the longer term are as follows:

Given the precarious state of public finances in many OECD countries, particularly in the United States and Japan, the priority has to be to either establish credible and growth-friendly medium-term consolidation plans if they do not already exist, or to develop existing plans more fully. In some countries this will require unblocking political stalemate that makes fiscal policy unpredictable over both short and long horizons. More generally, the pace of consolidation and the choice of policy instruments will have to reflect the urgency of ensuring sustainable public debt dynamics, the strength of the recovery, the enactment of growth-friendly structural reforms and the scope for monetary policy to offset the adverse effects of fiscal tightening. In countries that have unsustainable fiscal positions, an early consolidation “downpayment” would help to give credibility to medium-term plans.

The monetary authorities must judge how to react to higher headline inflation and risks to the anchoring of expectations at a time when sizable, but increasingly uncertain, slack remains in most OECD economies, underlying inflation remains low and fiscal consolidation is underway, albeit at a sometimes uncertain pace. Overall, these factors imply that policy rates should remain accommodative through the projection ...