IMF warns on eurozone crisis risks
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Despite the turmoil that has already engulfed the eurozone, most of the potential economic shock to the rest of the world has not yet hit, the IMF said.
If a big shock did unfold, then it would cost the eurozone more than 5 per cent of economic output, the UK would suffer almost as badly, and the US could lose 2 per cent of output. The peak cost to Japanese output could be more than 1 per cent.
Given slow growth in advanced economies, such losses would plunge most of them back into recession. The figures underline the stakes for the global economy in solving the eurozone crisis.
It is the second time that the IMF has published a Spillover Report. They were created after the financial crisis to try to improve understanding of how vulnerability in one region could threaten the rest of the world economy.
Ranjit Teja, a deputy director in the IMF’s strategy, policy and review department, said that since last year, stresses in the eurozone had spread right across the currency area, but as yet there had not been a lot of contagion to other asset prices.
The shock the IMF has modelled “is intended to be a shock similar to Lehman but of a potentially longer duration,” said Mr Teja. “You probably should view these as lower bounds in a real crisis,” he said, because of feedback loops and other non-linear shifts.
The IMF’s eurozone crisis scenario used a jump in sovereign and private bond yields across the currency area, lower private demand because of confidence effects, and changes in asset prices based on correlations in late 2011.
“In the euro area, the situation calls for a policy game changer, with urgent steps to banking union (now finally moving ahead), fiscal integration, phased fiscal consolidation and monetary accommodation,” says the report.
If the US falls of the fiscal cliff – a set of tax rises and spending cuts built into current law for the end of this year – then it could cost between 1 and 5 per cent of economic output, depending on confidence effects and whether any of it could be offset by the Federal Reserve.
The biggest spillovers would hit neighbours of the US through trade channels. A 6 to 12 per cent fall in commodity prices would hit exporters of those goods.
“In the United States, the priority must be to remove the threat of too sharp fiscal adjustment in 2013, and adopting a credible plan for medium-term adjustment,” says the report. “The recovery can be supported with action on housing and monetary accommodation.”
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