Economic View: Sleeping giants may save us

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The Chancellor's Budget maths depend on there being a decent world recovery next year and beyond. So what's the likelihood of that?

The Chancellor's Budget maths depend on there being a decent world recovery next year and beyond. So what's the likelihood of that?

It was obvious to all, looking at those Budget forecasts, that the only way of reconciling the numbers was to assume that there would not only be no recession, or even a period of slowish growth, but that we would soon be into another boom. It is conceivable, of course, that this might prove right but whether it is likely depends not so much on what we do here but what happens to the rest of the world. In the short run, the thing that determines growth is domestic consumption, which accounts for nearly 70 per cent of GDP. But in the longer term this has to be supported by export demand. An economy driven entirely by home consumers is liable to become unbalanced, as arguably ours has done. Those imbalances may be manageable – the UK current account deficit last year was only about 0.8 per cent of GDP – but eventually we have to pay our way in the world.

You can see the way the Treasury growth forecasts are out of kilter with those of other people in the first graph. The Treasury gives a range rather than a number, but even the bottom end of the 2004 range is higher than the forecast of the Bank of England's monetary committee and a typical City forecast from Barclays Capital.

Still, if there is indeed a solid world recovery next year – I don't think anybody has high hopes for this year – the Treasury could be proved right.

The International Monetary Fund has just released its new forecasts ahead of this weekend's finance ministers' meeting in Washington. It reckons that global growth next year will be more than 4 per cent, with the US growing by 3.6 per cent. But even this positive view for the world has UK growth only at 2.5 per cent. The trouble with all official forecasts, though, is that they cannot sensibly stray too far from the perception in the various national finance ministries, which are inclined by their very nature to be optimistic.

Within the financial markets the general expectation is for a gradual recovery next year but a slow and uncertain one by historical standards. You can see this sketched in the second graph, from JP Morgan, which looks at world growth, not just that of the developed countries. Three things stand out.

One is that, looked at globally, there has not been an overall decline in output during the last three decades. Even when the developed world was in recession, the developing countries were growing fast enough to pull the rest of the show along.

A second is the way the long-term trend of global growth is nudging downwards. It is a pretty jagged line, to be sure, but each peak seems to be lower than the last.

And the third is the projected upwards slope on the right-hand side: not steep at all. This middle-of-the-road commercial bank perception could be summed up as, no, there will not be a recession but the next growth phase will be unusually weak.

The problem really is that when you look around the world it is quite hard to see where growth will come from. The table on the right-hand side above comes from HSBC, which has had a good forecasting record in recent years. It has just trimmed its growth forecasts still further, cutting its forecast for the US this year to 1.7 per cent, and only 2 per cent next. The eurozone is expected to grow by only 1.0 per cent this year.

This year's forecasts are all more or less in tune with officialdom. The European Commission, the European Central Bank and the various national governments have been acknowledging the deterioration in their prospects in the last couple of weeks. What is at issue is next year. Look at the last column: Germany at just 1.1 per cent, the UK at – what, only 1.5 per cent? A forecast is only a forecast but if this one turns out to be right, the Treasury will be very wrong and Gordon Brown, or more likely his successor, will be warning of higher taxes and public spending cuts.

The best hope, actually, may not be the developed world at all but the "emerging" economies. I have picked four biggies. Russia is not brilliant but still should be growing – though Russian GDP is very strongly determined by world energy prices. India, in economic terms something of a sleeping giant, has been clocking up a reliable 5-6 per cent growth for several years. China, if you believe the figures, will continue to do 6-7 per cent growth. And Brazil, South America's largest economy, is expected to pick up a bit.

Put all this together and the broad picture that emerges would seem to be something like this.

One: there will be a recovery next year but it will be halting and disappointing.

Two: growth will be led by the emerging economies, not by the established ones.

Three: within the developed world, the key is the US. Do not expect much of a recovery in the eurozone, nor indeed in Japan. (By the way, the Nikkei-Dow index was at a 20-year low on Friday.) But the US is still an open question.

Four: the UK will continue to do OK by European standards but that is no great shakes.

To this sensible person's outlook I would add two risks.

One is that there are more shocks in store. Shocks by definition are unpredictable and can be huge in effect. For example, the Sars virus may do more damage to global output than the Iraq war. The other risk is that the central banks may mismanage the transition from a world of inflation to one of price stability and we may slip into global deflation as a result.

Barring such shocks, though, there should indeed be a sort of recovery next year – just not a strong enough one to make Gordon's dodgy sums add up.