The Global Financial Crisis and Collapse in World Trade
The global financial crisis has been compounded by an exceptionally sharp drop in world trade, and we are now facing the most widespread global recession in over sixty years. World GDP is expected to record an annual decline this year for the first time since 1946. (1) As the economic crisis has developed, policymakers have stepped in across the globe to help stabilise the world economy. In the absence of fiscal and monetary easing initiated since 2008, world output would have been expected to decline by 1.7 per cent this year, compared to our current forecast decline of 0.5 per cent. However, while policy actions in the banking sector were sufficient to stabilise what appeared to be the imminent collapse of the global financial system last October, there is little concrete evidence that policy initiatives have successfully started to ease lending conditions. The key risks to our forecast hinge on the speed with which financing conditions normalise, the speed with which world trade reverts to equilibrium and the path of inventories.
Recovery from the recession is expected to be gradual. The far-reaching nature of this global recession means that recovery must be primarily driven by renewed strength in domestic demand in some of the larger economies, as the world currently lacks a leader for an export-driven revival. Figure 1 illustrates our quarterly profile for GDP growth in the world, US, Euro Area and Japan. Following the onset of the subprime crisis in the US in August 2007, bank lending conditions tightened, and a large number of economies had already dipped into a mild recession by mid-2008. Financial markets erupted in crisis in September 2008, as major bankruptcies and interventions raised perceptions of risk to levels last seen in the 1930s and, as a consequence, about 55 per cent of OECD economies fell into recession (OECD, 2009). A few economies, such as Greece, Slovakia and several major oil exporters, including Russia and Norway, recorded positive growth in the final quarter of 2008, but exceptionally sharp quarter-on-quarter output declines of more than 3 per cent were recorded in Japan, South Korea, Taiwan, Brazil, Ireland, Slovenia and the Baltic states. Most of these countries recorded exceptionally steep contractions in domestic demand, and on top of this external demand contracted sharply. Global trade in goods and services declined by 6.7 per cent in the final quarter of 2008, the most severe contraction since at least 1965, when quarterly statistics become available. Only a few economies for which data are available recorded an increase in export volumes in the final quarter of 2008, notably India and Norway.
The available information points to quarterly declines in GDP of a similar magnitude in the first quarter of 2009, as illustrated in the figure. While the sharpest declines are believed to be behind us, we expect to see further declines in output for at least another two quarters. Japan's export markets should benefit from an anticipated recovery in the level of world trade, so growth may come sooner there than elsewhere. Our central forecast sees six or seven consecutive quarters of output decline in the US, Japan, the Euro Area and the UK. In figure 2 we illustrate the probability of the recession extending to up to nine consecutive quarters, based on a series of stochastic simulations around our current forecast. While our central forecast sees growth returning to Japan earlier than in the other economies, Japan also faces the greatest risk of a more prolonged recession lasting up to nine consecutive quarters.
[FIGURE 1 OMITTED]
Our forecasts for GDP growth and inflation in the major economies are reported in table 1. The sharpest annual declines in the major economies are anticipated in Japan and Germany this year. Both are sensitive to the car market, which has collapsed, while Japan is also hampered externally by its strong exchange rate. Although the yen has receded from peaks reached in the first quarter of the year, it remains about 15 per cent above its average level in the first three quarters of 2008 in effective terms. …