Don't let the IMF get you down

Jeffrey Hutton | 25 Jan 2012Text size

Jeffrey Hutton is a Morningstar contributor.

Big emerging economies have so much fiscal heft and room to relax the cost of borrowing that they might, just might, trigger something we haven't seen in while - an upgrade in the world economic growth forecast.

Brazil, Russia, India and China (BRIC) have all lowered their borrowing rates or the amount of cash their banks need to have on hand to offset loans as the European debt woes sap consumer and business confidence.

"It's the emerging economies versus the developed world," says UBS head of investment strategy and consulting George Boubouras.

"The BRICs have the capacity to ease their interest rates and stimulate their economies. There is the potential for economic upgrades later in 2012."

This week, the International Monetary Fund (IMF) lowered its 2012 forecast for global growth from 4 per cent to 3.25 per cent, before recovering again next year. Earlier, the World Bank cut its growth forecast from 3.6 per cent to 2.5 per cent.

But Boubouras says those institutions are just playing catch up, making official what money managers and pension funds were thinking in October, when credit markets were shocked by Europe's mismanagement of its debt crisis.

UBS lowered its own growth forecast four times over the past 14 months, most recently in November to 2.7 per cent.

While European governments may still fumble the recovery, chances are they will set aside differences enough to avoid the fallout of bank failures and the unravelling of the euro because it would be too bleak to contemplate, Boubouras says.

"The worst of the credit crunch out of Europe is probably behind us," Boubouras says.

"Europe's financial ministers understand their brief enough. They know how cataclysmic the break-up of the euro would be."

Also this week, the Reserve Bank of India lowered its reserve ratio from 6 per cent to 5.5 per cent. That central bank also lowered its economic growth forecast for the year to March from 7.6 per cent late last year to 7 per cent.

Earlier this month, Brazil's central bank cut interest rates for a fourth time from 12.5 per cent late last year to 10.5 per cent, as the economy showed signs of stalling.

Russia last month unexpectedly reduced its benchmark rate. China in November cut the amount of cash that banks must set aside as reserves for the first time since 2008.

But, Europe remains at the core of this dismal state of affairs.

Deloitte Access Economics said this week that Europe was the key to global growth in 2012.

Deloitte Access Economics partner Chris Richardson agreed in his 2012 business outlook report that European leaders will avoid a meltdown and "muddle through".

Richardson suggests if Europe avoids implosion then Australia may do well, thanks to the well-publicised demand for resources such as coal, and out of the sheer relief of businesses and consumers.

"If the world muddles through this crisis, then Australia will grow faster than many think it will," Richardson says.

"Surging resource construction will underwrite a lot of growth, as will a further rebound in coal output.

"Thanks to Reserve Bank rate cuts, this will combine with better news in retail and home building to keep growth relatively rapid in 2012, though it may lose some steam in 2013 as the rebound in coal output runs its course."

Should the wheels come off the European experiment, then Australia's resources sector will only go so far to protect the economy, because consumers and businesses will cut back on spending and exports will suffer from high exchange rates.

"If, however, Europe 'blows', then Australia's outlook tanks," Richardson says.

"Resources sector construction would still surge, leaving us among the fastest-growing economies in the world, but that would be little consolation."

Uneven growth across the developed world, as well as the performance of the big emerging economies, is still wrecking havoc with economic forecasting models, Boubouras says.

Demand for luxury brands demonstrates the resilience of emerging economies, Boubouras says. A Goldman Sachs report this month said Chinese shoppers account for a quarter of luxury industry sales, compared with 21 per cent in Europe. By midway through the next decade, they will make up almost half.

European leaders still have levers they can pull, including an unlimited bond buyback, Boubouras says.

"We're still a long way from that," he says.

"Chances are they will make up, not break up."