World Bank chief David Malpass said that the world economy was in danger.
The multilateral institution’s boss made his sentiments known in the foreword of this year’s edition of the Global Economic Prospects report. The document published annually by the World Bank takes stock of the developments in the global economy and uses them to predict the future.
The world economy had been dealt a mortal blow by the advent and onset of the COVID pandemic two years ago. This time, the World Bank warns that the global economy is threatened by stagflation.
- World Bank expects global economic growth to decline sharply in 2022, according to its head David Malpass
- Malpass, who is the head of the multilateral institution, made his sentiments known in a World Bank publication called Global Economic Prospects 2022
- The global economy has been adversely affected by shocks which include rising inflation, rising interest rates, and low growth. This has resulted in stagflation
This is an economic phenomenon characterized by high inflation and low growth. Malpass stated in the document, “Even if a global recession is averted, the pain of stagflation could persist for several years— unless major supply increases are set in motion.”
The head of the World Bank’s assessment and prognosis are highly prescient. It is not likely that the world economy will avert a global recession. The world’s leading economic powers, like the United States and China, have recorded slowing economic growth in their respective domains. Large parts of Europe and the United Kingdom have also recorded slowing economic growth on a quarterly basis.
The outlook is that most of the world’s leading countries will record either slowed or reduced GDP growth. It is not unreasonable to expect that a global recession is likely. Economic developments, metrics, and statistics certainly point to a global recession on the horizon. Some countries in the world have been outliers, like India. It has managed to register double-digit growth in its GDP on a quarterly basis.
The Asian country has managed to do this largely because of the strength of its domestic economy. This is in contrast to a large number of economies that rely on global trade for their economic growth.
The head of the World Bank cites a potential solution to the stagflation problem. These are what he calls “major supply increases”. This is because the inflationary pressure prevailing in the global economy is driven by supply-side constraints and increases in the prices of food and energy costs. This is a reference to the Euro 65 billion energy plan announced by German Chancellor Olaf Scholz to intervene and cushion German citizens from rising energy costs. Other European countries have announced similar packages.
This demonstrates that manipulating interest rates alone will not be enough to deal with inflationary pressures. Governments will need to follow Germany’s lead and design packages to provide assistance to households and firms in their respective countries. The German package has been announced against a background of a looming winter and inflation, which rose to 8%. The package will subsidize energy costs and essentials that households and firms spend on.
- World Bank, through its head Malpass advises that the solution to ending stagflation and restoring non-inflationary growth will be to remove supply constraints to the access to energy and food.
- The current stagflation environment is similar to the 1970s episode of the same phenomenon. The fundamentals this time around, according to Malpass and the World Bank, are much direr in the sense that the rate of economic deceleration currently is double the rate of a slowdown in the 1970s.
- Critical distinctions between this period of stagflation include that oil prices are not as high on an inflation-adjusted basis today as they were in the 1970s, and governments are better prepared today than they were to deal with stagflation through the right policies, the World Bank says.
Due to globalization, countries worldwide are increasingly interdependent. This is why a conflict between two countries in Europe will cause ripple effects that the rest of the world feels. The World Bank projects that economic growth in 2022 will slump on this basis. Not slow down but slump. The choice of words is intentional.
Malpass now believes that the world is in for several years of above-average inflation and below-average growth. This projection will most likely lead to destabilizing consequences for low- and middle-income economies. These low- and middle-income countries are largely on the African continent. Stagflation which the world last saw in the 1970s, will have a devastating effect on countries in Africa. Most countries in the continent do not have the resources like Germany to muster multibillion Euro or multi-billion United States dollar packages to subsidize the economic plight of their citizens.
World Bank forecasts a sharp downgrade of its global economic outlook and anticipates a sharp contraction in the economy. The global economy is expected to slow down from the GDP growth rate achieved in 2021 of 5.7% to 2.9% in 2022. The downgrade from the multilateral institution is because of the war in Ukraine, which has triggered food and energy increases as well as supply and trade disruptions.
COVID undermined the multilateral institution’s efforts to poverty reduction and income growth in developing economies. The war in Ukraine has further undermined these efforts. The World Bank predicts that because of the adverse effects of the war and the legacy of the pandemic, real per capita income in developing economies in 2023 will remain below pre-COVID levels. At least 40% of developing economies will experience this in 2023. This means that for developing economies avoiding a recession will be especially difficult.
The solution to breaking out of stagflation and restoring noninflationary growth lies in the supply side interventions similar to what Germany has announced. Stagflation is not a desirable economic environment to have, especially for developing economies. This is because the last time that the world experienced this inflationary environment was in the 1970s.
Back then, the interest rate increases that were implemented to rein in inflation were so severe that, according to the World Bank, they set off a global recession which is reminiscent of the kind that the prevalent today and in developing countries, causing a string of debt crises resulting in a lost decade. The multilateral financial institution said. The World Bank publication also offers strong warnings on the dangers of stagflation. The danger of stagflation in today’s context is much direr than it was in the 1970s. The World Bank projects that between 2021 and 2024, global economic growth will slow down by 2.7 percentage points.
This slowdown is twice as much as the deceleration in economic growth experienced in the years 1976 to 1979. It is likely that the adverse effects of stagflation this time around will be much direr, especially considering that external public debt in developing economies is at historic highs. Much of this debt is owed to private creditors. Making matters worse, this debt is not denominated in the local currencies of the respective borrowers. The debt is denominated in hard currency.
One of the shocks to developing economies has been the strengthening of the United States dollar relative to the currencies of developing economies. This shock will make it difficult for the same countries to service their obligations, especially when interest rates are rising. As global financing conditions tighten and currencies depreciate, debt distress, according to the World Bank, which had previously been confined to the developing economies, will seep into middle-income economies. Despite the similarities between now and the 1970s, critical differences could mitigate the impact of stagflation in the worst-case scenario and limit its impact.
The World Bank advises that the critical differences are that the United States dollar is currently strong, whereas, in the 1970s, it was weak. Secondly, the 1970s were characterized by rising oil prices which quadrupled in the mid-1970s and doubled in the late 1970s to the early 1980s.
Currently, oil prices, when adjusted for inflation, are a fraction of what they were in the early 1980s. Financial institutions today have much stronger balance sheets than they did in the 1970s, which would make them better positioned to handle a default and credit risk shocks.
Lastly, the World bank makes an important distinction between now and the 1970s by saying that economies now are much more flexible than they were in 1970. The structural rigidities in terms of wages and the labour market are largely gone. Perhaps most importantly governments are better placed to institute and implement policies to mitigate the economic headwinds.