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Tuesday, June 8, 2010

World Economic Situation and Prospects

World Economic Situation and Prospects (WESP) is a joint product of the Department of Economic and Social Affairs, the United Nations Conference on Trade and Development and the five United Nations regional commissions. It provides an overview of recent global economic performance and short-term prospects for the world economy and of some key global economic policy and development issues. One of its purposes is to serve as a point of reference for discussions on economic, social and related issues taking place in various United Nations entities during the year.

The World Economic Situation and Prospects update as of mid-2010 highlights that while the world economy continued to improve in the first half of 2010, leading to a slight upward revision in the United Nations outlook for global growth, the pace of the recovery is too weak to close the global output gap left by the crisis. It also points out that the recovery is uneven across countries, with encouraging growth prospects for some developing countries, but lacklustre economic activity in developed economies and below potential growth elsewhere in the developing world. The Report argues that important weaknesses in the global economy remain, and draws attention to some of the policy challenges that need to be addressed to solidify and broaden the recovery.

World Economic Situation and Prospects 2010

The world economy is on the mend. After a sharp, broad and synchronized global downturn in late 2008 and early 2009, an increasing number of countries have registered positive quarterly growth of gross domestic product (GDP), along with a notable recovery in international trade and global industrial production. World equity markets have also rebounded and risk premiums on borrowing have fallen.

World gross product (WGP) is estimated to fall by 2.2 per cent for 2009, the first actual contraction since the Second World War. Premised on a continued supportive policy stance worldwide, a mild growth of 2.4 per cent is forecast in the baseline scenario for 2010. According to this scenario, the level of world economic activity will be 7 per cent below where it might have been had pre-crisis growth continued.

The report cautions that despite these more encouraging headline figures, the recovery is uneven and conditions for sustained growth remain fragile. Credit conditions are still tight in major developed economies, where many major financial institutions need to continue the process of deleveraging and cleansing their balance-sheets. The rebound in domestic demand remains tentative at best in many economies and is far from self-sustaining. Much of the rebound in the real economy is due to the strong fiscal stimulus provided by Governments in a large number of developed and developing countries and to the restocking of inventories by industries worldwide. Consumption and investment demand remain weak, however, as unemployment and underemployment rates continue to rise and output gaps remain wide in most countries. In the outlook, the global economic recovery is expected to remain sluggish, employment prospects will remain bleak and inflation will stay low.

The report also highlights a number of risks and uncertainties to the outlook, including a premature exit from the stimulus measures and a hard landing of the dollar due to the renewed widening of the global imbalances. In terms of policy measures, the report recommends continued fiscal stimulus measures in the short run, a continued focus on the rebalancing of economic growth in a number of respects, better policy coordination, strengthened global governance and more decisive reforms of the global financial system.

Current Inflation Rate

The current inflation rates across the world, as of April 2009, were low due to the global recession that peaked in September 2008. The recessionary pressures felt across the globe resulted in a massive decline in the supply of money. This, in turn, affected commodity prices, resulted in low inflation rates. Current inflation is measured by the International Monetary Fund.

Current Inflation Trends in the World

According to an IMF report, headline inflation in the developed nations is expected to decline from 3.5% in 2008 to a record low of 0.25% in 2009. It is expected to recover to 0.75% in 2010. In the emerging economies, inflation is expected to fall to 5.75% in 2009 and 5% in 2010, from 9.5% in 2008. For the quarter ended March 31, 2009, the current inflation rates of major nations are listed in the table given below:


Current Inflation (%)

New Zealand












Calculation of Current Inflation Rates

Current inflation rates are calculated for different timeframes - from as short a period as a week to as long as a year. Short-term inflation rates facilitate the analysis of the sudden effects of economic, political and social changes on current inflation. Long-term rates are a better measure, as they reflect the economic situation in a more comprehensive way by rounding off the effects of sudden price movements.

The current inflation rates released by the IMF and various national governmental bodies are calculated on an annual basis. The weekly and monthly figures announced by these organizations are annualized figures.

Current Inflation and Unemployment

According to an ILO report, the world unemployment rate is projected to reach 7.1% in 2009 if the sluggish economic performance continues. This is estimated to increase worldwide unemployment by 50 million. According to the Bureau of Labor Statistics, 651,000 jobs were lost in February 2009 in the US alone.

The IMF has projected world economic growth at 0.5% for 2009, a record low since World War II. However, given the constant efforts to ease credit strains by implementing expansionary fiscal and monetary policies, the world economy is expected to recover by 2010.

Deflation, Inflation vs Deflation

Deflation refers to a sustained decline in the price level of goods and services. It occurs when the annual inflation rate falls below zero percent (a negative inflation rate), resulting in an increase in the real value of money. The vicious cycle of declining demand and rising unemployment often leads to an economic depression.

Causes of Deflation

Deflation in an economy can be attributed to more than one factor, including:

· When the risk adjusted return on assets becomes negative, buyers andinvestors start to hoard currency instead of investing it.

· Sustained decline in the velocity of money or a decline in the number of money transactions.

· Higher interest rates initiated by the country’s central bank to control inflation.

Effect of Deflation on the Economy

A fall in the price of goods and services increases the purchasing power of the people. This might present a positive picture in the short run. However, if this effect extends, it leads to deflation, adversely impacting the economy. With deflation, prices and wages begin to fall. Consequently, the supply of money shrinks, resulting in even lower prices and wages. This creates a vicious 'deflationary spiral' of negatives, including declining profits, closing factories, shrinking incomes and employment and a rise in defaults on loans by individuals and companies. Deflation creates a liquidity trap in the economy when lower interest rates fail to stimulate spending. Deflation usually occurs during recessionary times and tends to aggravate its negative effects.

Inflation vs Deflation

Inflation is the opposite of deflation and refers to a rise in the general level of the prices of goods and services. Deflation is considered as negative inflation because it increases the real value in money, whereas inflation has the reverse effect. Deflation causes a burden on borrowersand holders of various illiquid assets and is favorable for savers and holders of liquid assets and currency. On the other hand, inflation favors short-term consumption and borrowers and is a burden on currency holders and savers.

Both inflation and deflation can negatively impact the economy. However, most economists consider the effects of moderate long-term inflation to be less damaging than deflation.

Inflation Rate, Inflation Rates, Rate of Inflation

The inflation rate is the percentage by which prices of goods and services rise beyond their average levels. It is the rate by which the purchasing power of the people in a particular geography has declined in a specified period. The rate of inflation may be calculated weekly, monthly or annually. However, it is always expressed as an annualized figure.

Inflation Rate: Indices

The inflation rate can be calculated for different price indices. For the national inflation rate, the consumer price index (CPI) is considered. This index measures the actual prices of goods and services needed by the common man. The inflation rate can also be measured by the following indices:

· Cost-of-living index (COLI): This is used to adjust income scales so that the real value of earnings remains the same.

· Producer price index (earlier Wholesale Price Index): This measures the average change in prices that domestic producers receive for their products. This index measures the growing pressure on producers due to changes in the costs of their raw materials. This pressure might get passed on to consumers, absorbed by profits or offset by a rise in productivity.

· Commodity price index: This measures the prices of a selected group of commodities.

· Core price index: This removes the volatile components (primarily food and oil) from broader indices, like the CPI. Short term changes in demand and supply conditions do not significantly affect such indices. Central banks use it to assess the need for adjusting the monetary policy.

Methods of Calculating the Inflation Rate

The two main methods used to calculate the inflation rate are:

· Base period: This method is the more common of the two and assigns a relative weight to each element while making calculations.

· Chained measurements: In this method, the contents of the ‘commodity bundle’ are adjusted, along with the prices. Besides, individual time periods in which the price levels fluctuate are also taken into account.

· Any undesired change in the rate of inflation can affect the economy and national development at large. The appropriate estimation of inflation rates is necessary to get an overview of the national economy.

Inflation Rate: The Formula

The equation to calculate the inflation rate is:

Inflation Rate = (Po- P-1)* 100 / P-1,


Po = the present average price

P-1 = the price that existed last year.

The inflation rate is always stated as a percentage. Another way of calculating the inflation rate is to apply the log rule. The inflation rate is important, since it is subtracted from various economic rates in order to eliminate the impact of inflation. The real increase in wages is also counted by taking into account the prevailing inflation rate.

World Economy

The world economy grew 5.2% in 2007 powered by growth in China (11%), India (9%) and Russia (8%). The global economy faces a real risk of 1970s style stagflation however, with resource constraints tighter than ever before.

Things could scarcely have looked rosier for the world economy at the start of 2007. The Emerging Markets, led by the giants of China, India, Russia and Brazil (the BRIC countries) had been posting 7%-10% grow rates for years. Property and stock market booms had brought consistent growth in North America and Europe. Investment was bringing economic development to much of the Middle East and Africa, and even Japan was recovering from its deflationary 'Lost Years'.

Economic conditions within these countries play a major role in setting the economic atmosphere of less well-to-do nations and their economies. In many aspects, developing and less developed economies depend on the developed countries for their economic wellbeing.

Theories were even circulating that thanks to the growth of the developing world, we might enjoy years of unfettered growth, as new markets would go through successive growth spurts and counter the effects of slowing growth elsewhere. It was suggested that Asia was 'decoupling' from the US and able to grow under its own steam thanks to its two 'Awakening Giants'.

What a difference a year makes.

The global economy has been hit by a rapid one-two punch that may be setting the stage for stagflation to make a come-back.

It started with the sub-prime crisis in the US, caused by loans to risky or 'sub-prime' mortgagees who did not have strong credit histories. While house prices were rising there wasn't a problem. But as house prices slowed and then crashed to earth, default rates started to rise.

To add fuel to the fire, sub-prime loans had been packaged and re-packaged in a range of derivative financial instruments such as Collateralized Debt Obligations (CDOs). It was not always clear what the contents CDOs consisted of, as they were combined, sliced and re-sold between financial institutions and funds, and which in some cases allowed risky debt such as sub-prime loans to be packaged as part of low-risk instruments.

Vast swathes of CDO investments had to be written off, and banksbecame suspicious of investment, borrowing and lending, since it was not always clear what the underlying security was. Once banks stopped lending the Credit Crunch hit.

We then witnessed extraordinary scenes of government regulators in US and UK having to help save collapsing banks in order to avert a meltdown of the financial system, and to Sovereign Wealth Funds (SWFs) from the developing world taking large stakes in venerable western banks like Citibank and UBS in return for keeping them liquid.

With house prices having fallen more than 20% in many areas of the United States, even prime mortgage holders now find themselves with negative equity. The federal government has been forced to step in and assume responsibility for both Fannie Mae and Freddie Mac, who between them back over half of all American mortgages.

World Map Showing Nominal and Purchasing Power Parity GDP, 2007 estimates from CIA World Factbook

The second part of the one-two punch has involved the rise of commodity prices. Just before the dawn of the 21st century, oil average $16 a barrel. By July 2008, less than 10 years later, oil hit a high of $146 a barrel - a stunning rise of more than 800%. From early 2007 to mid 2008 alone the price has risen more than threefold from the mid $40s.

During the Oil Crisis of the 1970s, oil spiked at a nominal peak of $38. In today's prices (adjusted for inflation), that is $106, a figure that we blew past in early 2008.

The price of food has also started spiraling. Rice and other grain prices have doubled from 2007 - 2008, leading to food riots in a score of developing markets. Most agricultural and farm produce prices have been going through the roof. In fact almost allcommodities, including those used for energy, construction and consumption, have been rising rapidly.

Price rises have been fueled by the demands of the emerging markets, particularly the BRIC nations, who together account for nearly 3 billion people. In order to maintain their high rates of growth and help lift more of their populace out of poverty, they require more and more commodities.

A bigger worry for economists, however, is whether the natural resources exist to meet these burgeoning demands.

A similar crisis was faced in the 1970s. After a period of strong global economic growth, when the world economy was averaging 5% a year GDP increases, the world hit supply constraints in oil and food. For the next fifteen years, global GDP growth slowed to an average of 3.2% per year.

This became known as the stagflation era. Growth opportunities were limited, but prices continued to rise with a continued lack of supply.

A great debate ensued as to whether we had reached the limits of the earth's ability to support our growth. In 1972 the Club of Rome famously argued exactly that, saying that the global economy would collapse.

And yet the opposite happened. According to Jeffrey D. Sachs, Director of the Earth Institute at Columbia University, world crude oil production grew from 21 million barrels per day in 1960 to 56 mbd in 1973, a growth of 166%. The stagflation crisis also brought about a 'Green Revolution' through fertilizer and irrigation development, and through the development of stronger seed strains. This led to much higher agricultural productivity levels.

Since 1970 however, crude oil production has only grown 30% worldwide. More worrying still is that crude oil production in the Middle East has peaked at 21 mbd in 1974 and remained stagnant, while mature fields in the North Sea, Norway and Alaska are all in decline.

In fact there is a growing school of thought known as 'Peak Oil' that believes we have - or will soon - reach peak oil production capabilities. In the 1950s Dr M. King Hubbert correctly predicted peak oil and decline rates for the mainland US oil industry. His model came to be known as The Hubbert Peak Theory. It predicts that world peak oil production will be reached sometime between 2000 and 2010, and will decline thereafter.

This impending crisis has also helped to raise the price of food, since increasing amounts of land are being devoted to biodiesel crop development, and since higher oil prices raise the cost of fertilizer (for which petroleum is a key ingredient) and food transportation.

It seems increasingly likely that a massive investment in renewable energy sources will be needed in order to avert another stagflationary period in the world economy, or even a global recession. The jury is still out as to how quickly oil supplies will decline or how fast alternative energy sources can be brought online.

World Economic Statistics at a Glance

World GDP (PPP): $65 trillion
GDP Growth Rate: 5.2%
Growth Rate of Industrial Production: 5%
GDP By Sector: Services- 64% Industry- 32% Agriculture- 4%
GDP Per Capita (PPP): $9,774
Population: 6.65 billion
The Poor (Income below $2 per day): 3.25 billion (approximately 50%)
Millionaires: 9 million (approximately 0.15%)
Labor Force: 3.13 billion
Exports: $13.87 trillion
Imports: $13.81 trillion
Inflation Rate - Developed Countries: 1% - 4%
Inflation Rate - Developing Countries: 5% - 20%
Unemployment - Developed Countries: 4% - 12%
Unemployment & Underemployment - Developing Countries: 20% - 40%

Current Indian Economy Overview

India, an emerging economy, has witnessed unprecedented levels of economic expansion, along with countries like China, Russia, Mexico and Brazil. India, being a cost effective and labor intensive economy, has benefited immensely from outsourcing of work from developed countries, and a strong manufacturing and export oriented industrial framework. With the economic pace picking up, global commodity prices have staged a comeback from their lows and global trade has also seen healthy growth over the last two years.

Economic Prospects for 2010

The global economy seems to be recovering after the recent economic shock. The Indian economy, however, was hit in the latter part of the global recession and the real economic growth witnessed a sharp fall, followed by lower exports, lower capital outflow and corporate restructuring. It is expected that the global economies will continue to sustain in the short-term, as the effect of stimulus programs is yet to bear fruit and tax cuts are working their way through the system in 2010. Due to the strong position of liquidity in the market, large corporations now have access to capital in the corporate credit markets.

India’s Economic Outlook Projection





GDP Growth










Indian Economy 2010

In order to sustain economic growth during the time of the worst recession, government authorities in India have announced the stimulus packages to prop up economic growth. To finance the stimulus packages, the Indian government has raised over $100 billion over the last four quarters in a way to finance the stimulus package. The country’s public debt, according to the RBI, has surged to over 50% of the total GDP and the RBI has started printing new currency notes.

Central Government Debt

in Rs. Crores (10 Million)

Q3 2008

Q3 2009

% of GDP

Public Debt (Sum of 1 and 2)




1. External Debt



2. Internal Debt