CHAPTER 1 The Setting: World Economic Developments in FY2000
- International Monetary Fund
- Published Date:
- September 2000
Global economic and financial conditions improved during the financial year,1 as the world economy proved more resilient to the financial crises that erupted in 1997–98 than initially believed (Table 1.1 and Figure 1.1). On average, output growth picked up or remained strong in the advanced economies, the developing countries in Asia, and the countries in transition, but slowed in Africa, the Middle East, and the Western Hemisphere. Core inflation was broadly stable or fell in most regions, but fiscal and external imbalances remained problematic in some countries. Financial flows to emerging markets picked up in 1999 and the cost of finance eased somewhat, but the situation was fragile and impeded recovery in many countries. At the same time, buoyant demand in North America and growing demand in Europe and parts of Asia provided needed export markets for countries emerging from recession.
Other key developments during 1999 and early 2000 included the rise in world oil prices to their highest levels since 1991, with a bottoming out of many other commodity prices; a firming of interest rates in advanced economies, except in Japan; and gains in most equity markets, driven especially by share prices of technology-related firms. Systemic economic or financial problems related to the year 2000 (“Y2K”) computer bug failed to materialize, in part because of the planning and remediation efforts undertaken by the private sector, governments, and international institutions.
The pace of economic activity rebounded in the developing countries as a group in 1999/2000, largely because of the gains made in the crisis-affected countries in Asia, and to a lesser extent in Russia. In Latin America, by contrast, economic output was unchanged on average, but did not decline sharply as was initially feared when a financial crisis struck the region in late 1998 and early 1999. Indeed, industrial production began to recover in the larger countries in the region by mid-1999. Among the advanced economies, divergent output trends remained evident. The expansion continued apace in North America, the United Kingdom, Australia, and some smaller European countries, but slowed modestly in Europe for the year as a whole. The largest countries in the euro area, however, showed increasing momentum in the second half of 1999 and into 2000. The Japanese economy remained weak in 1999, with wide demand fluctuations through the year. This global environment of strong demand and recovery in some areas but weak conditions in others helped to set the stage for developments in commodity and financial markets and a pickup in world trade.
In commodity markets, world oil prices nearly tripled from low levels of about $10 a barrel in late 1998 and early 1999; prices remained in the $25–$30 range through the end of the financial year. This price rise was attributed in part to voluntary supply restraints by some of the major oil producers and to the unexpectedly robust economic recovery in Asia. The increase in oil prices put upward pressure on inflation in 1999 and early 2000 in many countries, but not to the same extent as the oil price increases of the 1970s, and core inflation measures were largely unaffected through early 2000. Higher oil prices helped ease financial conditions in the oil-exporting countries. Other commodity prices staged a modest rebound, and the IMF’s index of nonfuel commodity prices rose by about 3 percent through the financial year, ending a trend decline of some 30 percent since the previous peak in 1996. Price developments varied by product, however, and not all exporters saw their terms of trade improve.
World trade volumes picked up in 1999 and helped improve the external environment for many countries. Imports into the advanced economies grew robustly; this largely reflected the continued strength of domestic demand growth in the United States and the recovery in Europe that began in the second half of 1999.
|Major industrial countries||2.0||1.3||3.0||2.3||3.0||3.1||2.5||2.8|
|Other advanced economies||2.5||1.9||4.5||4.3||3.8||4.2||2.0||4.6|
|Newly industrialized Asian economies||6.0||6.3||7.6||7.3||6.2||5.8||–2.3||7.7|
|Middle East and Europe||6.2||3.5||0.5||3.8||4.6||4.7||2.7||0.7|
|Countries in transition||–14.4||–7.6||–7.6||–1.4||–0.6||1.7||–0.7||2.4|
|Central and eastern Europe||–8.8||–3.8||–2.9||1.7||1.6||2.3||1.8||1.4|
|Excluding Belarus and Ukraine||–5.3||0.2||3.2||5.6||3.7||2.7||2.0||1.5|
|Transcaucasus and central Asia||–14.1||–11.0||–11.5||–5.0||1.3||2.6||2.3||4.4|
|World trade volume (goods and services)||4.7||3.8||9.0||9.1||6.7||9.7||4.2||4.6|
|Countries in transition||–24.7||9.3||4.5||12.3||8.3||7.1||2.9||–5.4|
|Countries in transition||–21.3||9.0||1.3||10.3||5.3||4.9||6.3||3.9|
|In U.S. dollars||–1.7||–11.8||–5.0||7.9||18.4||–5.4||–32.1||38.7|
|Nonfuel (average based on world commodity export weights)|
|In U.S. dollars||0.1||1.8||13.4||8.4||–1.2||–3.3||–14.7||–6.9|
|Countries in transition||788.9||634.3||273.3||133.5||42.4||27.3||21.8||43.7|
|Six-month London interbank offered rate (LIBOR, percent)|
|On U.S. dollar deposits||3.9||3.4||5.1||6.1||5.6||5.9||5.6||5.5|
|On Japanese yen deposits||4.3||3.0||2.4||1.3||0.7||0.7||0.7||0.2|
|On euro deposits||9.8||7.4||5.7||5.7||3.7||3.5||3.7||3.0|
Indonesia, Malaysia, the Philippines, and Thailand.
Simple average of spot prices of U.K. Brent, Dubai, and West Texas Intermediate crude oil.
Indonesia, Malaysia, the Philippines, and Thailand.
Simple average of spot prices of U.K. Brent, Dubai, and West Texas Intermediate crude oil.
Imports of the advanced economies in the Asia and Pacific region were also strong, except for Japan, where domestic demand was largely stagnant. Among developing countries, for which data are preliminary, imports rose in Asia, driven in large part by a post crisis rebound in Thailand and other countries. Demand in China for foreign goods and services also increased robustly, although the reported increase in imports in part reflected a vigorous anti smuggling campaign. In contrast, import volumes fell in other regions. In the Western Hemisphere, needed macroeconomic adjustment led to a fall in imports in all the larger developing countries, except for Mexico. Significant import compression also occurred in Russia and spilled over to dampen export demand in neighboring countries, especially in the first part of the year.
Capital flows to emerging markets remained subdued in 1999. They showed only a slight improvement from the crisis-affected levels in 1998, and remained below decade-average levels. In addition, private financing shifted away from bank lending toward bond and equity finance. The largest increase in financial flows came from equity issues, with almost all of the proceeds going to Asia, where recovery was most advanced. Indeed, the recovery in emerging Asia led to a near doubling of gross private financial flows to this region. Flows into developing countries in the Middle East and Africa also rose, but were about unchanged in the Western Hemisphere, and flows into Europe fell.
Financing costs for emerging markets fluctuated during 1999 and into 2000, but remained high compared with the period before the Asia crisis, reflecting both wide interest rate spreads and a modest upward trend in advanced country interest rates. Early in 1999, the financial crisis in some countries in Latin America caused a spike in bond spreads in some countries (and reduced availability of funds), but the impact dissipated quickly as those affected took corrective policy actions. More generally, interest rate spreads appear to have been more differentiated across emerging markets as lenders took greater account of country-specific risks; this made contagion less of a force than in past episodes of financial market volatility. The failure of some countries to meet their external payment obligations later in the year and into 2000 did not appear to put systemic pressure on secondary market spreads. In the early fall of 1999, debt markets rallied (and emerging market spreads fell) as investors became more confident that Y2K computer problems would be avoided. The rally, greater differentiation, and a broadly more stable financing environment benefited from increasing confidence and had mutually reinforcing effects on the recovery in Asia in 1999 and other regions later in the year.
Figure 1.1World Indicators
Source: IMF, World Economic Outlook (May 2000).
1Volume of goods and services
Dollar-and euro-denominated interest rates generally rose over the period for short-term and longer term maturities, although yield curves tended to flatten in early 2000. Central banks in North America and Europe tightened monetary policies to head off future inflation. In the United States, the Federal Reserve raised interest rates from the middle of 1999 through the end of April 2000. Over the period, the Federal Reserve more than reversed the interest rate cuts made in 1998 when it provided liquidity to markets in the wake of the Russian financial crisis and the near collapse of a major hedge fund that threatened the smooth operation of financial markets. In the euro area—where the economic recovery was on track—policy interest rates were raised in late 1999. In Japan, in contrast, the Bank of Japan has followed a “near zero” interest rate policy since early 1999 as one of the measures undertaken to revive the economy.
In exchange rate markets, the three major world currencies moved significantly. The euro—introduced as the common currency of 11 European countries on January 1, 1999–depreciated through the year against the yen and the U.S. dollar, with the yen appreciating against the dollar in the second half of the year (see Chapter 2). The currencies of the larger emerging market countries were broadly stable in 1999–especially compared with the previous few years—but with a few exceptions. Currencies of the crisis countries in Asia appreciated or remained broadly stable during 1999 and into early 2000, reflecting the economic and financial turnaround in these countries. In Latin America, the Brazilian real depreciated against the U.S. dollar and neighboring currencies when Brazil adopted a floating exchange rate regime in early 1999, but the currency stabilized later in the year; Chile moved to a freely floating exchange rate regime after years of a sliding band system, without a major impact on the currency’s trend value. Other major currencies in the region were broadly stable against the U.S. dollar. Similarly, the Russian ruble became much less volatile, especially later in 1999.
Key Developments in Emerging Market and Advanced Economies
In Asia, the recovery from the 1997–98 financial crisis and subsequent recession was impressive. The recoveries in Korea, Malaysia, and Thailand were supported by expansionary fiscal and monetary policies, which contributed to a turnaround in domestic demand. Buoyant exports within the region and to North America were also a source of growth and allowed imports to rise without a return to the external account deficits seen before the crisis. Thus, the region was a net supplier of financial resources to global capital markets in 1999. A recovery in economic output also began to take hold in Indonesia, which registered positive real GDP growth in 1999, after a severe output contraction in 1998. The expansion in China slowed slightly in 1999, while that in India picked up. The expansion in both countries remained robust enough to continue significant growth in per capita income and to reduce poverty. In China, economic growth was supported and reinforced by improved conditions in other economies in the region—which led to a strong export performance—and by the early effects of a fiscal stimulus package adopted in the second half of 1999. The decline in prices, which had become an increasing policy concern, began to abate from the middle of 1999, but unemployment remained a concern. In India, a pickup in industrial production in 1999 helped offset a slowing in agricultural output in the latter half of the year.
In Latin America, the macroeconomic impact of the 1998–99 financial crisis was less severe than in the earlier crisis in Asia, and activity in most economies in the region was expanding by the end of 1999. The recovery in Brazil started early in the year, led by increases in agricultural and industrial output, with the latter supported by improved competitiveness. In Argentina, domestic demand was weak in 1999, but industrial production began to rise at midyear, pointing to a turnaround in the economy. Similarly, a pickup in industrial production signaled a solid recovery in Chile. Mexico avoided an economic downturn in 1999, owing to the strength of import demand from its largest trading partner, the United States; rising oil prices and related revenue; and gains in domestic demand. Quick recoveries were helped in most of these countries by relatively low rates of inflation, which boosted confidence and allowed scope for some policy response to the weak economies. Colombia, Ecuador, and Venezuela, however, experienced sharper economic contractions.
In Africa, economic growth slowed in 1999, mainly reflecting weakness in several large countries. South Africa was affected directly by the global financial crisis and spillovers into its markets, while the pickup in oil prices during the year helped Nigeria and other oil exporters in the second half of 1999, but had little impact on annual economic indicators. Kenya and several other countries were hurt by weak nonfuel commodity prices, which with higher oil import costs, added to the recent downward trend in their terms of trade. Activity in many sub-Saharan countries was also affected by poor rainfall in 1999, as well as policy slippages in some countries in the region. Encouragingly, average economic growth picked up in the countries in the region with IMF-supported reform programs. Debt relief was provided to some of these countries as part of the first phase of the Initiative for Heavily Indebted Poor Countries (see Chapter 5).
Oil exporters in the Middle East received a boost to national incomes from higher oil prices and the terms of trade effect. The higher oil prices also relieved pressures on external and fiscal accounts brought on by low prices in past years. Output growth was weak in these countries, however, because the rise in global oil prices was caused in part by reduced oil production, which is a large part of economic output. The Egyptian economy benefited from a low inflation environment and was among the strongest in the region. Elsewhere, the Turkish economy contracted sharply in 1999, and an adjustment program was put in place late in the year.
Macroeconomic developments in the transition countries reflected both higher oil prices and the external market for exports. Russia’s economic performance was better than initially expected after its financial crisis in 1998, although in contrast to countries in Asia and Latin America, export volumes did not pick up as sharply and quickly after the exchange rate depreciation. The fiscal and external trade balances in Russia also benefited from higher world oil prices. Countries in central Europe and the Baltic region weathered the recent economic slowdown in the European Union, although output growth slowed for the year.
Divergences in economic performance among the advanced economies continued into 1999. Output and demand growth was robust in the United States during the past year and into 2000, while Japan’s economy was almost stagnant for 1999 as a whole, expanding in the first half of the year and contracting in the second half. In early 2000, however, some signs of recovery became evident, including a pickup in industrial production, a marked rise in machine orders, and a rebound in exports. The recovery remained fragile, however, as demonstrated by the weakness in consumer demand through the year. Economic activity in Europe gained momentum, especially in the second half of 1999. This overall picture masks some differences among countries in Europe, with France growing fastest among the major continental countries, and with vigorous expansions in many of the smaller countries in Europe’s new monetary union.
The current account balance of the industrial countries as a group deteriorated by $170 billion in 1999, but the deterioration was uneven across countries. The increase in the U.S. deficit, to record levels as a percent of GDP, accounted for much of the deterioration, and came at a time when the U.S. dollar was strong and when a rise in national saving was outpaced by a rise in investment spending. Current account surpluses narrowed modestly in Japan and the euro area, partly the result of higher oil prices. In sum, the industrial countries provided a needed demand stimulus to emerging market economies, but at the same time the amount of financing measured by net capital flows to them increased only slightly.