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World economy: Traversing uncertainty

March 30, 2017 Columbia University (by Jan Svejnar)  For the last five years the global economy has grown at a disappointingly slow rate of about 3 percent. Every year the rate of growth fell below expectations and this gradually resulted in lower future output expectations and reduction in spending and potential GDP growth.

Global economic activity is now projected by many institutions to accelerate in the next few years. There is considerable uncertainty about the actual outcome, however, given the fragile political and economic situation in Europe and the as yet not fully defined policies of the new U.S. administration.

There are both upside and downside risks to economic growth. In particular, global growth will accelerate if Europe finally enters an extended period of substantial economic boom and the US and China policy stimulus turns out to be sizable. On the negative side one observes growing uncertainty a tendency toward inward-looking policy orientation and protectionism in the US, possible tightening in global financial conditions, increased geopolitical tensions, and a possible economic growth slowdown in China below the expected 6.5percent.

Europe is showing signs of broader economic recovery, but the situation is fragile with Brexit, potential Frexit, precarious situation of Italian banks, and rotation at the helm of the European Central Bank. China’s economic policies have been effective. The risk to China’s growth comes primarily from potentially weak external demand, shocks to international trade, and slower private investment. In the US, the question arises about the size and composition of the fiscal stimulus, the actions of the FED, and the response of the business and household sectors. What is crucial is whether the US stimulus package will bring about dynamic effects in terms of rising productivity or just greater indebtedness of the economy.

The following are key developments to watch out for as we move forward:

Will there be a turn to protectionism in trade, FDI and technology transfer policies, which would have a negative effect on growth?

Will we observe a continuation of the slowdown in investment growth in emerging market economies, where it fell from double digits to less than 4 percent in recent years?

In Europe, will Brexit and other centrifugal tendencies lead to a greater risk of disintegration of the Eurozone or the EU?

In the US, will the FED persevere in meeting its targets of creating full employment and getting inflation to 2 percent; will the upcoming policy changes result in acceleration of domestic business investment?

Will financial vulnerabilities in a number of key countries translate into economic crises?

Will emerging market economies, especially China and India, play a bigger role in sustaining a co-operative global order?

Will the interplay between economics and geopolitics become a defining feature of global economic growth and stability?

Overall, the world economy has great strengths and considerable potential for growth. The risks and uncertainties are mostly brought about by potential policy steps rather than external shocks. It is up to the key global policy makers to realize or waste the opportunity for further advancement.