Outlook for the World Economy

Transcription

1 Outlook for the World Economy The global economy is undergoing profound transformation. Increased flows of goods, services, capital and people are making it ever more interconnected, and technological progress is facilitating the transformation and raising productive capacity. The coming decades will see the centre of economic gravity continue to shift, as China and India join the United States and European Union as a "Big Four" of economies, and international trade flows triple in the next quarter of a century. The demand for natural resources will rise accordingly, bringing economic growth to commodity producers, but also placing strains on the global environment. I. Key drivers of change Trade and financial integration Trade and investment are growing significantly as a proportion of the global economy. International trade accounts for nearly 30% of world output, up from 20% in 1980, while foreign direct investment (FDI) stocks have more than tripled their share during this period, and South-South capital flows have risen particularly fast in the last decade. A greater global division of labour has accompanied this increased integration, with emerging markets accounting for a greater share of manufacturing production, and advanced economies becoming increasingly focused on the services sector. In the UK, services now account for 70% of GDP, compared to 50% in Technological advances Innovations in transport, telecommunications and logistics have enabled production processes to be reorganised into supply chains stretching across a number of countries. In return, globalisation has brought new opportunities for trade in innovative goods and services, as well as increased competition. Private sector growth in internet and mobile communications has been dramatic. In June 2006, there were 123 million internet users in China up 20 million on the year before. Mobile telephone connections have reached 135 million in Africa, far outstripping landline services. The range of applications for information and communications technologies is vast, including analysis of new medical treatments, credit assessment, stock market prediction, fault detection in engineering, and much more. This has contributed significantly to productivity growth in the private sector, and is starting to transform the delivery of public services also. Migration and demography Increasing inequality between countries, accompanied by ageing, shrinking populations in Northern countries and youthful, growing populations in the developing world, are increasing the incentives for economic migration. Networks of existing migrants, and the natural instinct to reunite families and friends, will support the tendency for migration rates to rise. Immigration to OECD countries has indeed surged in recent years; current estimates are that 11.4% of residents in developed countries are foreign-born, compared to 6.2% in While barriers to migration remain far higher than in the first era of globalisation, and migration rates are correspondingly lower, this is nonetheless a significant social and economic phenomenon. The UN forecasts that the net number of migrants to developed countries will more or less offset the natural population decline.

2 II. Growth predictions The world economy today is dominated by the US and EU, with Japan a distant third. This will change significantly over the next few decades, as growth in the BRICs (Brazil, Russia, India and China) outpaces growth in the OECD. According to Foreign Office predictions based on demographic change and technical progress, China will overtake Japan in absolute GDP by Looking further ahead, the US, EU, China and India are likely to form a Big Four of economic powers, with China overtaking the US as the world s leading economy around the year Emerging markets share of the global economy (Source: FCO predictions. BRICs = Brazil, Russia, India and China) Rest of World 27% Rest of World 28% BRICS 11% G7 62% BRICS 23% G7 49% This rapid growth will in turn cause the emergence of what the World Bank describes as a "global middle class" of 1.2 billion people. These are people who will participate actively in the global marketplace, demand world-class products and aspire to international standards of higher education. They will purchase cars, consumer durables, and travel abroad. However, it should be noted that their incomes will typically remain below those in the advanced economies. Despite the rise in the aggregate GDPs of China and India, the per capita income in those countries will remain far behind the equivalent incomes in the US and EU. It is predicted that even in 2050, when China will be the world s largest economy, its GDP per capita will only be one-third of US levels, due to its much larger population. Conversely, it is expected that Russia will grow at rates above 5% in the near term, but not that its absolute income will approach that of the Big Four economies, due to its sharply falling population. GDP, major world economies, US$bn, ,000 18,000 16,000 US EU25 China India 14,000 12,000 10,000 8,000 6,000 4,000 2, ,000 50,000 40,000 30,000 20,000 10,000 0 GDP per capita, major economies, US$ US EU25 China India

3 Caveats: Uncertainties in projecting growth over several decades are huge. There is no guarantee that emerging markets will continue to pursue growth-promoting polices of macroeconomic stability, openness, and so on. There are likely to be periods of turbulence as they integrate into the global economy (although, barring catastrophic events, these should be smoothed out in the long term). However, the FCO believes that these projections are reasonable as a base scenario. Work by Goldman Sachs, PricewaterhouseCoopers and the World Bank has produced similar findings and, although the growth predictions may look dramatic, they are less spectacular than some economies actually achieved in recent decades. For example, in Japan, between 1955 and 1985, real GDP increased nearly eight-fold, and between 1970 and 1995 the yen appreciated 300%. III. Predictions about trade and finance Trade: In virtually every growing economy the importance of trade measured by the ratio of trade to GDP is set to rise. According to World Bank predictions, total exports will more than triple from $9 trillion in 2005 to over $27 trillion in 2030, even without further rounds of trade liberalisation. Exports from developing countries will increase from about $3 trillion to over $12 trillion. Increasingly, this growth will be powered by trade in services. Much of this new production for export will occur in China. This will increase the competitive pressure already felt by other exporting countries, both developing and developed. However, China is also a growing import market; over the past decade, Chinese imports have grown by nearly 500%. This trend is set to continue, helping to fuel growth in other countries. The importance of trade is growing while services grow particularly fast. Source: World Bank, Global Economic Prospects 2007

4 Global imbalances: The US s current account deficit has grown steadily over recent years, enabling the country to finance its consumption by borrowing from the rest of the world. US public debt has risen to around 65% of GDP, financed mainly by the major oil producers (Russia and the Middle East) and the Asian economies, as shown below. To date, the US has been repeatedly able to run these deficits because investor appetite for dollar-denominated assets has been high. However there are some concerns amongst investors that the rate of debt accumulation is unsustainable. The US currently consumes 106% of its GDP, and there are signs that its economy may be slowing Global imbalances are rising, current account $bn United States Japan China Other emerging/developing Top 10 oil exporters Other advanced It is highly uncertain how this situation will evolve. A sudden loss in investor confidence could lead to a rapid withdrawal of overseas financing for US debt. This would lead to a crisis similar to those that hit emerging markets in the 1990s, the difference being that a slow-down in US growth would harm the entire global economy. Alternatively, a soft landing would see the oil-exporters and Asian economies diversifying gradually away from dollars and allowing their own currencies to appreciate. There are some signs that this may occur; China allowed the renminbi to appreciate by 2% in 2005, and has started to peg against a basket of currencies, instead of against the dollar alone. As China has accumulated over $1 trillion of dollar reserves, it would be against its interests for the dollar to fall precipitously. However these adjustments are small compared to the magnitude of the global imbalances, and a hard landing remains possible. The coming savings decline Demographic trends in the next two decades are expected to lead to a decline in global savings. As the baby boom generation in developed countries retires and begins to spend its savings, these countries' savings rates (and therefore the world's, given their relative financial strength) are expected to decrease. This will be reinforced in two or three decades by rising dependency ratios in China, some other parts of East Asia and Latin America. Impacts will be felt at both the national and international levels. Countries whose savings are decreasing will experience a worsening current account - of particular concern in the US, given its high existing deficit. Total global funds available for investment will also decrease, leading to higher interest rates and possibly reduced flows to developing countries, as ageing populations become less inclined to invest in riskier emerging markets.

5 IV. Demand for natural resources Energy The International Energy Agency predicts that, without substantial policy changes, global energy demand will grow by just over 50% between now and Half of this rise will happen in the next decade alone. Over 70% of the increase to 2030 will come from developing countries, and China alone will account for 30%. World primary energy demand by region, projected Globally, fossil fuels will remain the dominant source of energy to Under a business-as-usual scenario, their share of world demand will edge up from 80% to Source: IEA World Energy Outlook %. The share of oil will drop slightly, although it will remain the largest single fuel source. The shares of coal and natural gas will rise correspondingly. Net oil exports by region, projected OECD and developing Asian countries will become increasingly dependent on imports of oil and natural gas, as their own production grows more slowly than demand or even declines. By 2030, the OECD will import two-thirds of its oil needs, much of the additional imports coming from the Middle East. There are some uncertainties in these predictions. Notably, meeting the increased demand for energy will require massive investment in energy-supply infrastructure around $20 trillion between 2005 and Investment is not guaranteed to meet Source: IEA World Energy Outlook 2006 these levels. The opportunities and incentives for investment will be affected by government policies, the situation in the Middle East, changes in production costs and international prices, and technological advances. For example, there are doubts as to whether Russia s gas industry will receive sufficient investment even to maintain current export levels to Europe. Alternative energy sources will rise in significance, although their share of overall energy provision will remain modest. For example, biofuels are predicted to account for 4-7% of road-transport energy needs by 2030, up from today s 1%. The US, the EU and Brazil are the leading producers and consumers of biofuels and will account for most of this increase. However, pressure from rising food demand on arable and pasture land will constrain the potential for biofuels growth - at least using current technologies.

6 Non-fuel commodities Although attention usually focuses on fuel markets (especially oil), the share of nonfuel commodities in world trade is actually twice as high (14% vs. 7%). As many countries are highly dependent on these commodities as a source of export earning for 36 countries, they contribute more than 10% of GDP the trends for these prices are crucial. The long-term trend over the past half-century has been downwards in real terms. However, the globalisation of the manufacturing sector has reduced overall price inflation since the 1990s, leading to stabilisation and then increase in real commodity prices since the end of the last decade. The extent to which these price increases are Commodity prices have risen in recent years permanent is disputed. Some observers argue that the rise of China and other large emerging markets has led to a fundamental change in long-term prices, and that the world has now entered a period of sustained high prices. Certainly, China s impact on metal markets has been dramatic, contributing almost all the increase in the world consumption of nickel and tin, and over half of growth in aluminium, copper and steel. Other commentators believe that speculative forces may have decoupled commodities prices from market fundamentals. It is true that metals prices are expected to retreat over Source: IMF data, cited in IEA World Energy Outlook 2006 the medium term. However, recent IMF analysis suggests that increased investment has mostly occurred in response to the prospect of higher prices not vice versa. As shown in the graph above, rapid growth in emerging market economies has had a less noticeable impact on food and agricultural commodities. These are generally less sensitive to cyclical conditions than metals, as demand for the commodities tends to be more steady and supply responses are significantly faster in this sector. However the long-term decline in real terms of these commodities does appear to have been halted since the late 1990s. Climate change In the absence of policies to combat climate change, CO 2 emissions are likely to rise as the global economy grows. Historically, economic development has been strongly associated with increased energy consumption and hence energy-related CO 2 emissions per head. Consistent with this, developing countries are likely to reduce the gap with developed countries in emissions per capita, due to their more rapid growth and their increasing share of energyintensive industries. This is shown in the figure below. If the annual flow of emissions were to stabilize at today s rate, the stock of greenhouse gases in the atmosphere would reach double pre-industrial levels by The Stern Review estimates that at this level there would be a strong chance (at least 77% and possibly up to 99%) that the average global temperature would rise by more than

7 2 C. Under a business as usual scenario, with growing emissions, there is at least a 50% chance of exceeding a 5 C rise in the early decades of the next century. Global emissions per head, projected Such changes would dramatically alter the physical geography of the world, and the global economy too. The biggest impacts are likely to be felt in some of the poorest countries, which have lower capacity to manage the impacts than wealthier countries. However, as temperatures rise, the consequences will become increasingly negative everywhere. Climate change will affect economic growth, social Source: Holtsmark 2006, cited in Stern Review and political stability, agriculture and food security, water security, health, education, energy production, urban settlements and infrastructure in short, all aspects of human existence. This is perhaps the biggest challenge for the global economy in the coming decades. Case Study: China's influence on Africa Historical links between Asia and Africa date back several centuries, and the People's Republic of China has been economically involved with African countries since the post-colonial era. Since the mid 1990s, however, the volumes of trade and investment between China and Africa have grown at an unprecedented rate. This trend is just one illustration of China's role as a stimulant to global growth. It is also a reflection of the emerging importance of South-South economic relationships. Some key facts and figures: 27% of Africa's exports now go to Asia (10% to China), compared with 32% to the EU and 29% to the US. African exports to China have risen by nearly one-half in each year since Chinese FDI flows to Africa are increasing rapidly. As of mid-2006, the stock was estimated to be $1.18 billion. This is accompanied by a rising number of Chinese expatriates living in Africa. Current estimates suggest that there are 100,000 Chinese workers living in Nigeria alone. Much of the Chinese activity in Africa is related to natural resources. Petroleum, metals and agricultural raw materials account for 85% of Africa's exports to China. Most FDI inflows have been concentrated in extractive industries: oil-exporting Sudan received over $140 million from China in 2004, three times more than the next country, Nigeria. However, in the last few years, FDI has started to flow into other sectors, including apparel, agro-processing, power generation, road construction and telecommunications. Asian investment in Africa enables companies to take advantage of Africa's preferential access to the US and EU markets (via the US African Growth and Opportunity Act and the EU "Everything But Arms" initiative, respectively). China unilaterally liberalised its market to African imports early last year, eliminating tariffs on 190 commodities from 25 African countries. Beijing is clearly committed to its partnerships with African countries. "China's Africa Policy", a white paper published by the Chinese government in January 2006, identified a wide range of economic issues suitable for Sino-African cooperation. Later in the year, the China-Africa Summit held in Beijing demonstrated the strength of this commitment. China's reported ODA to Africa is expected to be in the region of $1.3-$1.4 billion in 2006.

8 Key References FCO (2004) Global Growth Model. HMT (2006) Long-Term Opportunities and Challenges for the UK: Analysis for the 2007 Comprehensive Spending Review International Monetary Fund (2006) World Economic Outlook 2006: Financial Systems and Economic Cycles International Energy Agency (2006) World Energy Outlook 2006 World Bank (2006a) Global Economic Prospects 2007: Managing the Next Wave of Globalization - (2006b) Africa's Silk Road: China and India s New Economic Frontier Stern, N. (2006) The Stern Review on the Economics of Climate Change. Catherine Barber Foreign and Commonwealth Office January 2007 Please note, this paper is based on the thoughts of the presenter and does not constitute a formal opinion of the UK Foreign and Commonwealth Office. Please do not reproduce or quote from this paper without contacting the author.