Hamish McRae: Even amid the gloomy IMF outlook, there are still reasons to be cheerful

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The Independent Online

It is official. Anyone with any sense knew that the United States was facing a couple of years of minimal growth. Anyone with any sense knew that the overhang of the property bubble would depress not just the US, but other developed economies including – maybe especially – Britain. Anyone with any sense knew that the main countervailing force in this slowdown would be the still-strong growth of the BRICs: Brazil, Russia, India, China.

Nevertheless, it is still stark stuff for the International Monetary Fund to come out with a forecast that the US will grow by only half a percentage point this year and next; or that house prices in the UK will fall by 10 per cent; and that all this will happen in a world where China continues to boom. The new World Economic Outlook from the IMF may simply clarify what we already knew but the fact that it says so means that governments have to confront reality.

There was an example of that yesterday. Our Chancellor was confronted on the Today programme with the forecast that the UK economy would grow by 1.6 per cent this year, not the 2 per cent he had announced in the Budget last month. He mumbled something about the cuts in the forecast for Britain being smaller than those for other developed countries, which is perfectly true. That does not, however, help the Budget sums, already under huge strain from the imprudent policies of his predecessor.

Actually, I have some sympathy with Alistair Darling and not just because he was handed a lousy legacy. Take the forecast. The Treasury gives a range for growth this year, which is 1.75 to 2.25 per cent. So the mid-point is indeed 2 per cent. But actually the bottom of the range is within a whisker of the IMF number so all the Fund is saying is that the economy will grow towards the bottom of official expectations, not the top. Nor should we write off that 2 per cent number. The National Institute does a running calculation for the rate of growth of our economy and it thinks that it has been growing at an annual rate of 2 per cent for the past three months. The latest manufacturing production figures are good, too, up nearly 2 per cent year on year. Sterling has fallen over the past six months by as much as it fell after Black Wednesday, which will eventually curb imports and boost exports. And, presumably, we will get another quarter point off interest rates today – if not, we will certainly get it next month.

Where the IMF projections are more of an eye-opener are the numbers for the US: only 0.5 per cent this year and even more grim, only 0.6 per cent in 2009. At that sort of level the chances are strong that growth will dip below zero for two successive quarters, the technical definition of recession. You can see these projections in the big bar chart on the bottom right. On the left are the G7 countries, on the right the BRICs. It is an extraordinary contrast, isn't it, to see the little stumps on the left and the great towers on the right? The next couple of years will see the biggest divergence between the performance of the old developed world and the new emerging one that has ever occurred. True, there is some slowing among the BRICs but nothing like what the Fund expects for the G7.

The reason, of course, is the toxic combination of the pricking of the housing bubble and the consequential pressure on the West's financial institutions. One chapter in the Outlook examines in detail the global housing markets. The top chart on the left shows the extent to which house prices have risen beyond what can be explained by normal supply/demand considerations. The IMF has constructed an economic model that seeks to explain what you might have expected to happen to prices during the latest boom and then compared that with what actually happened. The gap, as you can see, is largest for Ireland, with the Netherlands and the UK just behind, whereas the gap in the US is much smaller.

Does that mean that we are in for an even more damaging collapse in prices than the US? Well, not necessarily because, as the IMF explains, there are special circumstances in the US that do not apply to the rest of the world. One of those is the extreme ease of getting a mortgage there. The Fund has calculated how easy it is to get a mortgage in different countries and also how large mortgage debt is in relation to GDP. As you can see from the graph just below, it is far easier to get a mortgage in the US than anywhere else. Or rather, it was far easier because standards have now tightened up. The UK, while carrying a huge debt burden, has been more restrictive in its loan terms, which is a relief. There is a clear relationship between the two variables: the easier it is to get a mortgage the higher the level of mortgage debt. That is kind of obvious but it raises an important policy dilemma. Do you want a society where it is easy for people to borrow to buy a home? Sure. But do you want a society where people carry a huge burden of debt? Er, perhaps not. But you can't have both.

The other recent work of the IMF, also published this week, was on financial stability. This Global Financial Stability Report was pretty scathing. It said that the effects of the credit crunch are likely to be "broader, deeper and more protracted" than in previous downturns, due to the "degree of securitisation and leverage in the financial system". The headline number for banking losses was $945bn, scary stuff indeed.

My main reaction to this is: cheer up, for two reasons. One is that if the high-ups are scared that is great because they are paid to do the worrying for the rest of us. These reports were prepared for the forthcoming spring meetings of the IMF this weekend, and something, maybe just words, will come out of this. But at least the world's finance ministers and central bankers are on the case. There is a general feeling, reflected in the markets, that while there is further bad news in store, the financial fall-out is containable.

The other reason to be cheerful is that these numbers, while enormous, are not too bad in the context of the world economy. Some calculations by Capital Economics suggests that the total banking losses, when expressed as a proportion of US and EU GDP, are much smaller than that of the US Savings & Loans losses expressed in terms of US GDP at the time, and a tiny fraction of the losses in the Japanese crisis or the East Asian crisis, when also calculated against the relevant GDP measures. My own quick calculation suggests that it is much smaller, relative to GDP, than our own fringe banking crisis of the 1970s.

To be clear: there will be a sharp slowdown in the developed world. The housing bubbles will be deflated and the only issue is whether that adjustment takes place gradually or suddenly, gradual change being much better for the real economy. And as far as the UK is concerned I remain more concerned about 2009 than 2008. But, a big but, even on these pretty gloomy IMF projections, this downturn will not be any more serious than previous post-war dips and that is a comfort of sorts.