AHIA 2011 Conference presentation by Prof Warwick McKibbin, former Board member, RBA and econmic commentator

1. State of the World Economy
Warwick J. McKibbin
Director, ANU Research School of Economics
Presentation to AHIA, 10 November, 2011

2. Overview
• The last decade – global structural change
combined with poor macroeconomic policy
• Looking Forward
– Growth
– The Euro
– Fiscal Risks
– Inflationary Risks
– Commodity Prices
• Conclusion

3. The drivers
• The world will be dominated by long term
trends from
– The emergence of the BRICS into the global
economy
– Large demographic changes
– Productivity and technical innovation
– Impact and response to environmental problems

4. The 2000’s
• Emergence of China and India has caused a
large structural shock for western economies
• Countries have made the mistake of not
allowing adjustment
• 2001 recession met with loose monetary
policy which led to a misallocation of capital
• Crisis in 2008 met with demand management
policy when the problem was structural
change and capital misallocation

5. Growth

6. World GDP Growth
6
5
4
3
% pa
2
1
0
1980 1984 1988 1992 1996 2000 2004 2008 2012 2016
-1
Source: IMF World Economic Outlook Sept 2011

7. Euro Area – Industrial Production
2005 Average = 100
120 120
Index Index
Germany 110
110 Italy
Euro area
100 100
Portugal
90 90
France
Spain
80 80
Greece
70 70
2005M01 2007M01 2009M01 2011M01 2005M01 2007M01 2009M01 2011M01
Source: Eurostat

8. Fiscal Risks

10. Government Debt to GDP
Source OECD Economic Outlook 88 Database (November 2010)

11. Required change in underlying primary balance to
stabilise debt by 2025 in per cent of potential GDP
Source OECD Economic Outlook 88 Database (November 2010)

12. Two problems in Europe
• Exchange rate in southern Europe need to
depreciate because of productivity differences
• Fiscal positions unsustainble

13. The Euro

15. ECB Lending to Banks*
By national central bank
€b €b
Fixed-rate tenders from
October 2008 onwards Ireland
Spain
120 120
80 80
Greece
40 40
Italy
Portugal
0 0
2007 2008 2009 2010 2011
* Lending provided through monetary policy operations only
Source: central banks

17. Inflation Risks

18. Fed Holdings of Securities
Weekly
US$b  Agency MBS US$b
 Agency debt
 US Treasuries
2 000 2 000
1 500 1 500
1 000 1 000
500 500
l l l l l l l l l l l l
0 0
J S D M J S D M J S D M
2008 2009 2010 2011

21. IMF Food Price Index
SDR, 1995 = 100
Index Level Index
160 160
130 130
100 100
% Year-ended change %
30 30
0 0
-30 -30
1980 1985 1990 1995 2000 2005 2010
Sources: IMF; RBA

23. Consumer Price Inflation
Year-ended
% US Euro area %
6 6
Headline
4 4
2 2
Core
0 0
-2 -2
-4 -4
2005 2007 2009 2011 2007 2009 2011
Source: Thomson Reuters

24. Asia – Policy Interest Rates
% %
12 12
Indonesia
India
9 9
6 6
Philippines
China
South
Korea
3 3
Malaysia
Taiwan
Thailand
l l l l l l l l l l l l l l
0 0
2005 2008 2011 2005 2008 2011

25. Commodity Prices

26. Commodity prices
• Rising because of
– Real growth in emerging economies (Chindia)
– Loose monetary policies raising nominal demand
• The relative price of commodities likely to fall
if
– global supply responds
– Growth in China falls
– Non-commodity prices rise due to inflation

27. Conclusion
• The Emergence of China and India into
the global economy is a major structural
transformation
• US and Europe have not adjusted well but
have tried to use demand policy to handle
the shock

28. Conclusion
• Difficult but important to distinguish
between relative price changes and overall
inflation – the 1970s is an important lesson
• For commodity exporters the terms of
trade increase is likely to reverse but the
overall income gains will be positive as
China becomes wealthier

29. Final thought
• Probability of a Euro crash is very very high