Statement 3: Economic Outlook
Part II: The outlook for the international economy
The world economy grew by 2.5 per cent in 2001 after recording strong growth of 4.7 per cent in 2000. The United States (US) economy deteriorated early in 2001 and conditions in other economies weakened as the year progressed. The weakness was particularly apparent in Australia's major trading partners (MTPs), where growth is estimated to have slowed to around 1.4 per cent in 2001, well below long-run average growth rates. The events of 11 September 2001 were expected to exacerbate the weakness of the world economy, raising the spectre of a sharper and deeper downturn. However, the downturn has been milder than many expected. More recently, a recovery appears to have commenced and the world economy is expected to slowly gather further momentum over the course of 2002. Against the backdrop of a more settled outlook, world growth is expected to be around 2¾ per cent in 2002, increasing to around 4 per cent in 2003 (Chart 1).
Chart 1: World GDP Growth(a)
(a) World GDP growth rates are calculated using GDP weights based on purchasing power parity.
Source: National statistical publications, International Monetary Fund (IMF) and Treasury.
The global recovery is expected to be broadly based, although Japan is likely to remain weak for some time, moderating the pace of global recovery. The US performed better in the early part of 2002 and is expected to grow moderately in 2002 with a sustained pick up becoming established in the second half of the year. The recovery follows an unwinding of some cyclical imbalances, such as excess inventories and capital investment, and is expected to be underpinned by supportive monetary and fiscal policies. Stronger growth in the US should support the economies of Europe and non-Japan East Asia. Meanwhile, Japan's continuing financial and other structural problems create a significant risk that the economy will continue to underperform even as the rest of the world recovers.
Recovery in East Asia may also be less rapid than in the past due to ongoing corporate and financial sector problems and the expected slow recovery in information and communication technology (ICT) demand in 2002. Faltering ICT demand has been an important factor behind the sharp slowdown in East Asia over the past year and prospects for recovery over the next year depend heavily on the extent of the pick up in ICT demand. With US investment expected to remain weak until the latter part of 2002, and industry groups pointing to a subdued recovery in global ICT demand until later in the year, the pace of recovery in this region may be a little slower than in the past. As a result, and with Japan remaining weak, Australia's MTP growth is expected to remain subdued in 2002 at around 2¼ per cent, rising to 3¾ per cent in 2003 (Table 2). World trade is set to grow more strongly in 2002, although the pace of recovery is expected to be gradual.
Table 2: International GDP growth forecasts(a,b)
(a) Percentage change on previous year.
(b) Growth rates for World and the European Union are calculated using GDP weights based on purchasing power parity, while growth rates for Major Trading Partners and Non-Japan East Asia are calculated using export trade weights.
(c) Total OECD comprises the United States, Japan, Germany, France, Italy, the United Kingdom, Canada, Australia, Austria, Belgium, the Czech Republic, Denmark, Finland, Greece, Hungary, Iceland, Ireland, Korea, Luxembourg, Mexico, the Netherlands, New Zealand, Norway, Poland, Portugal, Slovak Republic, Spain, Sweden, Switzerland and Turkey.
(d) Non-Japan East Asia comprises Korea, Singapore, Taiwan, Hong Kong, China, Indonesia, Malaysia, Thailand and the Philippines.
Source: National statistical publications, IMF and Treasury.
Global inflation is expected to remain low despite the forecast pick up in activity. Significant excess capacity has emerged over the past year and a uniform and gradual return towards full capacity utilisation is unlikely to put pressure on global inflation, which is close to a 30 year low. Strong competitive pressures and ongoing productivity improvements should support low inflation even as world growth strengthens.
World oil prices are assumed to be around $US23 per barrel for the remainder of the forecast period.1 This is towards the bottom of the Organisation of the Petroleum Exporting Countries (OPEC) target band, with global demand for oil expected to recover modestly over the forecast period, in line with the moderate nature of the global economic recovery. World oil prices are currently above this assumed level, with increased tensions in the Middle East significantly increasing prices over recent months. If oil prices are sustained above the assumed level, this would constitute a risk to the global economic activity and inflation outlook.
The US economy grew by 1.2 per cent in 2001, following four consecutive years when growth exceeded 4 per cent per year. Clear signs emerged in early 2001 that a cyclical adjustment was underway, with sharp reductions in business investment and large and sustained reductions in business inventories weighing against growth. The economy entered a mild recession in March 2001 with a broadly-based slowdown in economic activity.
The weakness became more pronounced in some sectors of the US economy following the 11 September 2001 terrorist attacks, when a heightened state of uncertainty and risk aversion led to falls in business and consumer confidence. Investment spending slowed further and the rate of inventory liquidation gathered pace. Consumer spending held up well, however, moderating the weakness, and by early 2002 signs had emerged that the economy had troughed and that a recovery had commenced.
Following the relatively shallow recession, the outlook for the US is for a moderate and uneven recovery in 2002, with further strengthening into 2003. Consumption should remain solid although the pace of growth may be muted in 2002 by weakness in the labour market and elevated debt levels. The absence of pent-up demand may mean consumption growth will be less robust during the recovery phase than would normally occur. Investment may also be a drag on recovery, with uncertainty over the prospects for a sustained recovery in profits, excess capacity and high levels of corporate debt likely to continue to inhibit spending during the first half of 2002. On the other hand, a modest pick up in demand is likely to see the rate of inventory liquidation taper off over the first half of 2002. Increased government expenditures and gathering export demand should also support recovery. More generally, the continuing strength of productivity growth, which occurred even during the slowdown, should underpin stronger profits and incomes growth once recovery takes hold.
Japan's economy contracted by 0.4 per cent in 2001, entering its third recession in a decade in the June quarter, after two years of weak economic growth. Japan was affected by weak domestic spending, the ICT sector slump and slowing external demand more generally over the course of 2001. These developments caused a further deterioration in the economy that was already languishing under the weight of persistent deflation and ongoing structural problems in the corporate and financial sectors. Despite an expected global recovery, including a modest pick up in ICT demand, the economy is expected to remain weak in 2002. Increasing unemployment, ongoing deflation and low levels of consumer confidence are expected to limit the prospects for a recovery in consumption spending, while corporate balance sheet problems and weak profitability are likely to limit any recovery in investment spending. While a muted cyclical rebound is in prospect, Japan's growth potential will remain seriously constrained. Demographic changes are also likely to be a long-term constraint on growth in the absence of policy change.
Non-Japan East Asia economies slowed sharply in 2001, with several economies entering recession. Non-Japan East Asian output is highly dependent on the global manufacturing cycle and growth slowed dramatically as US activity and global demand for ICT products slowed. The region grew by around 1.9 per cent in 2001, well down on the growth rate of around 8 per cent in 2000. Growth prospects for Non-Japan East Asia in 2002 have picked up in recent months with evidence of stronger activity towards the end of 2001 and partial data underscoring the impetus of improved conditions in the US. The outlook for 2002, while still below trend, is for growth of around 4¼ per cent. Stronger growth in the US and Europe and a recovery, albeit subdued, in world ICT demand should see stronger growth in Non-Japan East Asia as 2002 progresses. Recovery should also be underpinned by supportive monetary and fiscal policies. In contrast to other countries in the region, which tend to be heavily dependent on external trade, the Chinese economy continued to grow at a solid pace through the current global slowdown and is expected to grow strongly over the coming year.
Economic growth across the European Union slowed during the course of 2001, with Germany entering recession from mid year and growth in the other major economies stalling. National fiscal policies remain constrained by the agreements reached in support of monetary union. However, monetary policy has been more responsive and should help underpin a modest recovery once external demand starts to recover. The United Kingdom held up better than most European economies throughout 2001, although growth slowed in line with other European economies towards the end of the year. With the US likely to strengthen through 2002, growth in the region is expected to pick up from mid year.
1 World oil prices are measured by the world trade weighted oil price. This price is the average of the contract price of different types of oil, weighted by their share of the world oil trade.
