Global economy seems headed for recession

Subir Roy
Senior Economic Analyst

The global economy seems headed for a severe recession and parallels are being drawn with the global financial crisis of 2008 and the slowdown brought about in 2020 by the Covid-19 pandemic. A lot of hope that any serious setback can be averted rests on a high degree of fine tuning of policy which may be difficult to deliver. In fact, a majority of bets right now are on a serious slowdown being ahead without any clear indication of how its blow can be softened.

Perhaps, the only silver lining for a country like India and developing countries in general is that the slowdown for them will not be as severe as that for the developed world.

According to the International Monetary Fund’s latest World Economic Outlook, India’s growth rate in 2022 will be down to 6.8 per cent from last year’s 8.7 per cent and projected to go down further to 6.1 per cent next year.

Against this, the US economic growth is likely to fall this year precipitously to 1.6 per cent from 5.7 per cent last year and set to go down further to a mere 1 per cent next year. Absolutely, the worst off is the Euro area and, in particularly, Germany, which is set to see a negative growth, that is its economy will contract by 0.3 per cent next year from the current year’s 1.5 per cent, which itself is down from last year’s 2.6 per cent.

All this will add up to the global economy growing by a mere 3.2 per cent this year, down from last year’s 6 per cent and set to reach a paltry 2.7 per cent in the coming year. Hence, the remark by one set of commentators that the question is not whether a recession will come, but when.

Several factors have contributed to making up this gloomy scenario. The key cause right now is the US Federal Reserve going in for severe monetary tightening since March to bring down the level of inflation, currently at 8.2 per cent. As the Fed has raised interest rates, making the dollar stronger than it has been in two decades, global money has flocked to the US for investment in its government’s securities. Such investment now combines both high returns and the security of the US economy.

While the Fed is pursuing this strategy, the rest of the world’s other central banks have also perforce had to raise their interest rates to stem the outflow of the dollar and the decline in their exchange rates vis-à-vis the dollar. This has meant dearer money and high cost of imported essentials across the world.

What makes things worse is that this global tightening of money comes in the wake the Ukraine war exploding early in the year. This is even as the pandemic was receding, giving rise to global recovery hopes. As if this was not enough, China, a leading global engine of growth and supplier of semiconductors, is going through its own policy-induced lockdowns to get the better of the Covid infection and, thereby, set to reduce its growth rate in the current year to 3.2 per cent from last year’s high of 8.1 per cent.

The immediate future for the world economy lies in the ability of the authorities around the world to correctly calibrate monetary policy so that there is no over-tightening or under-tightening of money. The former will lead to prolonged recession and debt and payments crises in developing economies, as has already started to happen in Sri Lanka and Pakistan. The latter will lead to an inability to bring inflation under control.

This is not all. Even as all eyes are set on getting monetary policy right, fiscal policy cannot be left to go on doing its own thing. It must not increase liquidity, which can well result from efforts to lower taxes to ease the burden of costly essentials on the consumer. Besides, in conditions of price rise, governments in poorer countries need to do something to alleviate the burden on the common man. The only way to do this without excessively loosening the purse strings will be to target financial support to the vulnerable groups.

This has to be accompanied with making credit available to smaller businesses at lower than the prevailing high market rates (resulting from monetary tightening) so that they can remain in business. Such businesses closing down because money has become too costly would lead to the same kind of distress as had happened during the initial stages of the lockdown.

How is India and its central bank RBI doing at this juncture? As far as bringing inflation under control, none too well. For the first time since the monetary policy framework was put in place in 2016, the RBI will submit a special report to the government for its failure to keep retail inflation within 2 per cent plus or minus of 4 per cent. It has been above 6 per cent for three consecutive quarters in the current year.

Retail inflation was 7.4 per cent in September even after the RBI had aggressively raised interest rates in the current year. The repo rate now stands at a three-year high of 5.9 per cent. What is more, despite all the belt tightening, the RBI itself projects retail inflation to remain at 6.7 per cent in the current financial year (2022-23).

Retail inflation remaining persistently above 6 per cent is unacceptable as that affects the poor the foremost. This is happening at a time of K-shaped recovery with the top income strata cornering most of the additional income, accruing in the economy as a result of post-Covid recovery in growth.

Simultaneously, FMCG companies continue to see tepid volume growth in rural areas, as a result of anaemic consumer spending. Those who had dipped into their meagre saving when there was distress as a result of the pandemic are first trying to build up their savings again and going easy on discretionary spending.

Since at this juncture there is no sign of excessive liquidity pushing up demand and prices, the solution lies on the supply side. What the government has to do is take all policy and administrative measures to push up the level of economic activity so that there is a rise in the supply of goods and services. Of special significance is the path being charted by agricultural production. There is still some hope that an erratic monsoon will deliver in the aggregate and help boost supply.

As for the rest of the world, the authorities can only hope that the Ukraine war will not go on for too long and a new Covid variant will not wreak havoc again.