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Monthly Economic Indicators

Special Topic: Global economic outlook

The world economy was not as weak in the first half of 2008 as forecast earlier in the year. However, considerable uncertainty remains and the current outlook is for further weakness in the second half of 2008 as the global economy is hit by the twin shocks of higher commodity prices and a credit crisis. This special topic provides an update on the outlook for the global economy.

Growth forecasts revised down in early 2008

The slowdown in global growth started in the second half of 2007 following the development of the sub-prime mortgage crisis in the United States (US). In early 2008 fears increased that the financial turmoil would have a significant impact on the real economy. In January the International Monetary Fund (IMF) lowered its forecasts for global growth in 2008 from 4.4% to 4.1%, down from 4.9% estimated for 2007. In April the IMF revised its forecast for global growth in 2008 down further to 3.7%. These forecasts included four quarters of negative growth in the US in 2008.

Activity in first half of 2008 above expectation

Economic activity in the US was not as weak as expected in the first half of 2008. Economic growth in the March quarter was 1.0% at an annual rate and the advance estimate of June quarter growth was 1.9%, but growth in the final quarter of 2007 was revised down to -0.2%.

Economic growth in the European Union (EU) in the first quarter of 2008 was strong at 0.7% (quarterly increase), but is expected to be weak – possibly even negative – in the second quarter. Some EU countries have already experienced a contraction in the March quarter. Growth in the United Kingdom (UK) was 0.3% in the March quarter and 0.2% in June. Japan recorded growth of 0.8% in the March quarter and China’s output increased by 10.1% in the year to June, only slightly slower than in the year to March.

Inflation increased sharply in developed economies as increases in commodity prices (particularly for food and oil) flowed through to final consumer prices. Inflation in the US in the year to June 2008 was 5.0%, the EU recorded 4.0% inflation and the UK 3.8%. Japan recorded inflation of 2.0% in the year to June 2008 and in China inflation eased to 7.1% in the year to June as the rate of increase in local food prices eased.

Further turmoil in financial markets

Recent developments in financial markets in the US have shown that the worst of the financial crisis is not over yet. US financial institutions Fannie Mae and Freddie Mac, which guarantee approximately 50% of home loans in the US, suffered a sharp fall in their share prices and were rescued by the US government. At the same time, a large bank, IndyMac, suffered a run on its funds and the Federal Deposit Insurance Corporation took control of it.

Since mid-July, when these events occurred, many firms have reported their second quarter results. For the financial sector these have generally been weak, with many banks reporting large write-downs. Some other firms have also reported poor results, including IT firms and car manufacturers hit by low demand as a result of high petrol prices. These company reports have resulted in a general easing in share values with the S&P 500 index falling 17.3% from 1468 on 1 January to a low of 1215 in mid-July (Figure 9).

Figure 9 - US share prices (S&P 500)

Figure 9 - US share prices (S&P 500) .
Source: Datastream

Latest indicators point to further weakness in the EU and UK

The latest economic indicators point to some recovery in the US in the second half of 2008, but further weakness in the EU and the UK as the effects of the financial crisis and high commodity prices extend to those economies. In the US, there have been some signs of stabilisation in the housing market recently (although it is still weak), consumer confidence surveys have surprised on the positive side and industrial production increased 0.5% in June. However, it is not clear yet that the US economy has turned the corner.

Prospects for the EU and UK, on the other hand, are looking weaker. Industrial production in the Euro zone fell 1.9% in May, its largest monthly fall since 1989, pointing to the possibility of a contraction in economic activity in the June quarter. Higher costs and weakening final demand are placing firms under pressure and the high value of the Euro is curtailing export growth.

Industrial production also fell sharply in the UK in May as firms face large cost increases and weakening demand. High inflation is eroding consumers’ purchasing power, house prices have fallen over the past year and the labour market is showing signs of weakening.

Oil prices have eased from recent peaks

Oil prices reached new highs of more than US$145/barrel in July 2008, but eased towards the end of the month (Figure 10). The peak in prices was due to political tensions in the Middle East, a storm which threatened oil rigs in the Gulf of Mexico and other risks to supply.

Figure 10 - Oil prices (West Texas Intermediate)

Figure 10 - Oil prices (West Texas Intermediate).
Source: Datastream

Prices eased as these threats dissipated and as perceptions of demand changed. It is becoming apparent that the high prices are having an effect on demand (e.g. fuel consumption in the US is down), the economic outlook is weakening and some developing countries reduced their subsidies on fuel recently, exposing consumers to more market-related prices which are likely to curtail demand. However, it is too early to say that oil prices have peaked, but they do seem to be less likely to increase than previously.

Forecasts revised to reflect recent outcomes

Although economic activity was generally stronger in the first half of the year than previously expected, most forecasters still expect a further slowdown in growth. Consensus Forecasts[1] for our top 20 trading partners have fallen from 3.3% and 3.5% in 2008 and 2009 respectively in March to 3.2% and 3.1% respectively in July. The latest forecasts are close to our assumptions in the Budget Update, so do not imply any further weakness than already factored in then.

The IMF has revised up its April forecasts for world economic growth in 2008 from 3.7% to 4.1% to take account of the stronger-than-expected first half of the year, but revised up 2009’s growth only 0.1% point to 3.9%. They acknowledge that economic activity has been stronger so far in 2008 than they previously thought, but they still consider that growth will slow in the second half of 2008 in the US, euro area and Japan before rebounding in 2009. Growth is also expected to decline in emerging and developing economies in 2008 – 2009, but not by as much as in developed economies. In its July Global Financial Stability Report, the IMF also warned of considerable risk to the global economy from the recent financial market turmoil, especially when combined with high inflation.

These latest international forecasts point to a protracted downturn in the world economy. However, the rate of growth expected over the next 1-2 years is similar to our assumption in the Budget Update.


  • [1]A monthly survey of 240 forecasters worldwide.
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