IMF Slashes 2012 Global Growth Forecast To 4%

The International Monetary Fund Tuesday slashed its 2012 global growth forecast to 4%, warning of "severe repercussions" to the world economy without swift policy actions by euro zone and U.S. governments.


The IMF said U.S. and European economies are likely to suffer deep recessions, creating a "lost decade" of growth without concerted efforts from governments around the globe. It issued the stark assessment in its World Economic Outlook. In June, the fund forecast the global economy to grow 4.5% next year.

The IMF hopes its dire review will prod finance ministers and central bankers meeting here later this week at the IMF and Group of 20 nations conferences into crafting a cooperative action plan. G-20 watchers hold out little hope.

"Strong policies are urgently needed to improve the outlook and reduce the risks," said IMF chief economist Olivier Blanchard.

European policy-makers must ratify a July 21 agreement that strengthens its EUR500 billion bailout facilities. Authorities there also need to ensure fragile banks boost their capital buffers to protect against the elevated risk of sovereign debt failures. If weak banks can't raise enough capital privately, the IMF said authorities should inject public or bailout cash into them. Otherwise, they should "be restructured or closed."

Euro zone leaders, however, aren't moving fast enough to contain the sovereign debt wildfire threatening their major economies. Germany, for example, continues to delay ratification of the July pact in the face of strong political opposition. Both of Italy's recent budget plans have largely been declared insufficient by economists and markets. Late Monday night, Standard & Poor's downgraded Italy, leaving open the possibility of further rating cuts.

"This marks a further new stage of the euro area crisis, where we're getting close to a systemic collapse of the euro," said Domenico Lombardi, a Brookings Institution economist and former representative for Italy to the IMF.

Europe has also resisted calls for mandatory recapitalization of its weak banks.

To tide Europe over until sufficient policy bulwarks are built, its central bank "must continue to intervene strongly to maintain orderly conditions in sovereign debt markets," fund staff said.

Deep political divisions in Washington are also raising great uncertainty about growth prospects, the IMF said.

"Bold political commitment to put in place a medium-term debt reduction plan is imperative to avoid a sudden collapse in market confidence that could seriously disrupt global stability," the fund said. The U.S. must raise taxes while dramatically reducing the future cost of entitlements such as social security, it added.

The struggle over the budget rattled markets earlier this year. Only an eleventh-hour deal prevented the U.S. from defaulting on its debt obligations.

The IMF said that while politicians must draft credible medium-term plans to reduce the deficit, the government and Federal Reserve should keep trying to jumpstart anemic U.S. growth with more short-term stimulus.

The fund cut its 2012 growth forecast for the U.S. to 1.8%, from 2.7% in its June report. A weak housing market, the risk of a rapid increase in household savings and deteriorating financial conditions might also damage growth.

The IMF estimates that if either Europe or the U.S. is unable to successfully tackle their respective crises, it could chop 300 basis points off their growth prospects and send them into another recession that would reverberate around the world.

Commodity prices, global trade and capital flows would likely abruptly decline, dragging down growth in emerging and developing economies, the IMF said.