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Prospects Weekly: The looming US “fiscal cliff” is one of the main downside risks to the global economy in 2013

Global Macroeconomics Team's picture
The looming US “fiscal cliff” is one of the main downside risks to the global economy in 2013, with Latin America and East Asia and Pacific to be among the most affected if it materializes. Several developing country central banks have eased monetary policy in recent months on concerns about the growth outlook, but they may now pause as growth is expected to pick-up and as they assess the impact of the monetary easing in high-income countries. Precious metal prices have risen sharply on supply concerns, related to labor disputes in South Africa’s platinum mining sector, and on higher investment demand, related to uncertainty about the global outlook and the Federal Reserve‘s quantitative easing QE3.

One of the main downside risks to global growth is the looming US “fiscal cliff”. Automatic tax hikes and spending cuts are set to take effect starting in 2013 if the US Congress fails to agree on an alternative debt-reduction plan. The US’s Congressional Budget Office forecasts that the US fiscal deficit will decline 3.3 percentage points to 4% of GDP in 2013. In the event the full “fiscal cliff” materializes we estimate global growth will be 1 percentage point weaker than our revised 2.6% forecast (which assumes that only about 30% of the fiscal cliff will materialize), as US growth would be 2.2 percentage points lower in 2013 at -0.2%. The Euro area would also fall back into recession, as output is expected to decline by 0.4 percentage points relative to the baseline growth of 0.3%. Growth in developing countries would be 0.6 percentage points lower in 2013 with the more open economies and the ones that have strong economic linkages with the US being the hardest hit. 


Concerns about growth following disappointing outturns in 2012H1 prompted several developing country central banks to ease monetary policy in July-August. Central banks of several developing countries, including Brazil, Colombia, and the Philippines cut policy rates between late-July and August. Brazil’s easing cycle was one of the most aggressive, (500 bps since August 2011), slashing the policy rate to a record low of 7.5% by late-August. In contrast Russia’s central bank raised its policy rates by 25 bps, the first hike in 16 months, on inflation concerns. We expect developing country central banks to remain on hold over the next months, given the expected pick-up in growth in Q4 and as they pause to assess the impact of monetary easing in the US, the Euro Area, and Japan. In China, concerns about growth deceleration in the context of low inflation may prompt further easing. If investors’ appetite for riskier assets intensifies, bringing hot money back to emerging markets, central banks may cut rates further and/or impose capital controls to stem currency appreciation.


Precious metals have risen sharply on rising investment demand and supply concerns. The precious metals prices are up between 15% and 30% from the lows reached in the May-June period. Gold prices rose 15% to $1,770 by mid-September, matching the year-ago all-time highs, while silver and platinum prices rose 30.6% and 22%, respectively. Demand for precious metals by institutional investors (who are increasingly turning to platinum) has increased recently, following the Federal Reserve‘s QE3. In addition, labor disputes in several South African platinum mines that began a month ago and escalated in early September, have pushed platinum prices to 6-month highs.


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