America First, Inflation Shocks, Trade War Risks: IMF Highlights

(Bloomberg) -- Enjoy it while it lasts. That’s the overarching message of the IMF’s latest World Economic Outlook.

The world economy is growing at the fastest pace since 2011, and the International Monetary Fund expects that to continue this year and next, according to the latest global forecasts by the Washington-based fund. But it predicts growth will taper as the central banks tighten monetary policy and the benefits of U.S. tax cuts wear off.

The IMF is urging policy makers to take steps now to insulate their economies against the next downturn by making structural reforms and tax changes that raise potential output.

Here are some of the other highlights in the report:

The U.S. Locomotive

Last year, the expansion covered two-thirds of countries, the broadest upswing since 2010, when the world was coming out of the financial crisis.

But there are signs the synchronized recovery may be becoming a little more uneven, at least in the short term, with the U.S. charging ahead, fueled by tax cuts and government spending. The IMF bumped up its projection for U.S. growth both this year and next. It raised its forecast by 0.2 percentage point each, to 2.9 percent in 2018 and 2.7 percent in 2019.

After the fiscal stimulus comes the hangover. The fund also cut its projections for U.S. growth after 2022, when some of the tax cuts will have expired and Washington will be grappling with a bigger budget deficit.

Another side effect will be higher borrowing costs. The IMF now projects the U.S. Federal Reserve will raise its policy rate target, currently in a range of 1.5 percent to 1.75 percent, to about 2.5 percent by the end of 2018 and about 3.5 percent by the end of next year.

Trade Tensions

The fund listed increased protectionism as a risk to its global outlook. An increase in trade barriers could “harm market sentiment, disrupt global supply chains, and slow the spread of new technologies, reducing global productivity and investment,” the IMF said.

The fund compared tariffs and other trade barriers around the world. It found that advanced countries in the Group of 20 generally have more open economies than emerging markets. However, it found that emerging markets have liberalized faster over the past two decades, especially from the mid-1990s to mid-2000s. Since the financial crisis, emerging economies within the G-20 have put up more barriers, according to the fund.

Emerging Markets Healing

The crash in oil prices in 2014 drove a “wedge” between emerging markets that export and import commodities. But the IMF says prospects are improving for commodity exporters after three tough years. Emerging Asia is also seeing stronger expansion, contributing to a solid growth pickup in the developing world, according to the fund.

Beyond 2019, the IMF sees growth in emerging markets and developing economies stabilizing at about 5 percent a year, well below the pace before the global financial crisis in 2008.

That means many countries won’t see their incomes catch up with rich nations. More than one-quarter of emerging markets and developing countries won’t see their incomes converge with the advanced world, according to the IMF. While convergence will continue in China, India and East Asia, incomes will barely exceed advanced-nation growth or even lag in regions such as sub-Saharan Africa, Latin America and the Caribbean.

Inflation Shock

The IMF noted headline inflation has picked up with the gains in oil prices. But core inflation, which excludes food and fuel prices, “generally remains soft.”

Still, with U.S. inflation edging up, the fund analyzed how the world would be affected by a spike in American consumer prices. The IMF looked at the impact of a 50 basis-point increase in term premiums both this year and next. The term premium refers to the excess yield investors demand to hold long-term bonds.

Under such a scenario, output across advanced economies would drop by three-quarters of a percent by 2020. The IMF notes that the euro area and Japan have limited room to cut interest rates, meaning they might have to resort again to unconventional monetary policy to cushion the blow.

©2018 Bloomberg L.P.