Global Economic Prospects: Executive Summary
Shifting priorities, building for the future
June 2014
The global economy got off to a bumpy start this year buffeted by poor weather in the United States, financial market turbulence and the conflict in Ukraine.
As a result, global growth projections for 2014 have been marked down from 3.2 percent in January to 2.8 percent now. Despite the early weakness, growth is expected to pick up speed as the year progresses and world GDP is projected to expand by 3.4 percent in 2015 and 3.5 percent in 2016 – broadly in line with earlier forecasts.
When expressed in 2010 Purchasing Power Parity terms, global growth is projected to accelerate from 3.1 percent in 2013 to 3.4, 4.0, and 4.2 percent in each of 2014, 2015 and 2016.
High-income country recovery is underway
The bulk of the acceleration will come from high-income countries (notably the United States and the Euro Area). A reduced drag on growth from fiscal consolidation, improving labor market conditions and a steady release of pent-up demand in these countries are projected to overcome first quarter softness and lift high-income GDP growth to 1.9 percent in 2014, from 1.3 percent in 2013, and to 2.4 and 2.5 percent in 2015 and 2016.
Developing country growth to pick up slowly …
The outlook for developing countries is for flat growth in 2014. This marks the third year in a row of sub-5 percent growth and reflects a more challenging post-crisis global economic environment.
The outlook reflects countervailing forces. On the one hand, the high-income acceleration will supply an important tailwind, with their contribution to global growth expected to rise from less than 40 percent in 2013 to nearly 50 percent in 2015.
As a result, high-income import demand is projected to accelerate from 1.9 percent growth last year to 4.2 percent in 2014 and as much as 5.0 percent in 2016, and developing country exports from 3.7 percent last year to 6.6 percent by 2016.
Developing country growth will not be more robust in part because most developing economies are already fully recovered from the crisis and growing at close to potential.
Moreover, in the medium-term, global financial conditions will tighten. However, given substantial further credit easing in the Euro Area, when that tightening will occur has become less certain.
Other factors arguing against a more buoyant acceleration include restructuring in China, a gradual move towards a more neutral policy stance in developing countries and, for commodity exporters, stable or even declining commodity prices.
Regional prospects vary
Supply-side bottlenecks will preclude stronger growth, particularly in East Asia and the Pacific; Latin America and the Caribbean; and Sub-Saharan Africa. Most economies in these regions have already completely recovered from the financial crisis and are growing at close to potential. Growth in East Asia is projected to slow modestly to 7.0 percent by 2016. Most countries in Latin America are operating at full capacity, but strengthening output in Argentina, Brazil and Mexico is projected to lift regional growth from a weak 1.9 percent this year to around 3.5 percent in 2016. In Sub-Saharan Africa GDP growth is projected to gradually firm toward 5.1 percent in 2016 from a broadly flat 4.7 percent in 2014.
In Europe and Central Asia, outturns will be affected by the conflict in Ukraine. Growth for developing countries in the region is projected to drop from 3.6 percent in 2013 to 2.4 percent this year, before firming to 3.7 and 4.0 percent in 2015 and 2016. For the broader geographic region (including high-income countries such as Russia, Poland and other Baltic economies) growth is projected to gradually firm from a low of 1.7 percent in 2014 to 3.2 percent in 2016.
In the Middle East and North Africa, and in South Asia growth is expected to pick up more brusquely. In South Asia the acceleration is expected to be focused in India, as reforms are undertaken to ease supply side constraints, particularly in energy and infrastructure. Regional growth is projected to firm from 4.8 percent in 2013, to 5.3, 5.9 and 6.3 percent in 2014, 2015, and 2016, respectively. In the Middle East, the projected rebound is more gradual, from stagnation last year, to growth of 1.9, 3.6 and 3.5 percent in each of 2014, 2015 and 2016 reflecting rising oil output in Iran and Iraq, and a partial recovery in Egypt and Jordan from the conflict-generated lows of recent years.
Macroeconomic Policies
Further gradual policy tightening would both reduce vulnerabilities and improve resilience
The monetary policy tightening induced by the volatility of the past year generated a welcome tightening in the stance of monetary policy in many developing countries, which, by restraining domestic demand, helped diminish both internal and external imbalances.
Policy tightening contributed to a slowing in the pace of real credit growth in East Asia (Thailand, Indonesia, Malaysia and China) and in Brazil as well as in smaller economies such as Armenia. However, adjustment remains partial and credit continues to expand very rapidly in Turkey, and available data show no significant slowing in South Africa. This trend seems to have reversed in May when a
number of countries, including Turkey, Hungary, Armenia, and Serbia cut policy rates. Overall, and despite what have been some substantial rate hikes in some cases, real interest rates in many developing countries remain very low and even negative in some cases
Tighter policy would help contain stubborn inflation in several middle-income countries
Fiscal adjustment is also required to increase resilience to external shocks
While tightening monetary policy will help lower inflation,
ease the pace of credit growth and reduce the likelihood
of domestic financial crises, fiscal tightening is also
called for in a number of countries.
Overall the fiscal position of developing countries has
deteriorated significantly since 2007 (figure 1.24). Thirty
seven percent of developing countries saw their fiscal
deficits rise by 3 or more percent of GDP between 2007
and 2013. Currently, almost half of developing countries
have a government deficit that exceeds 3 percent of
GDP. Moreover, debt levels have increased almost
across the board with debt-to GDP ratios in more than
half of developing countries having risen by more than
10 percentage points since 2007 (figure 1.25).
Some fiscal tightening has occurred in recent years: the aggregate
cyclically-adjusted budget balance for developing countries
widened by 3.4 percentage points between 2005 and
2009 to -4.2 percent. Since then it has gradually narrowed to -
3.2 percent in 2013, an improvement of nearly a third.
With output gaps having closed and most developing
countries growing in line with potential, this suggests that
more tightening will need to be done if debt-levels are to
be restored to their pre-crisis levels and if fiscal space is
to be created so that countries can respond effectively to
future shocks, should they arrive. Despite some consolidation,
structural fiscal deficits remain large in absolute
terms in several economies in East Asia (Papua New
Guinea, Cambodia, Laos and Mongolia) and also in large
middle-income economies such as Ghana, India, Kenya,
Malaysia, and South Africa.
Among middle-income countries with relatively open
capital markets, a tighter fiscal stance will help take
some of the pressure off monetary policy — while reducing
sovereign vulnerabilities to an eventual increase
in interest rates.With output gaps having closed and most developing
countries growing in line with potential, this suggests that
more tightening will need to be done if debt-levels are to
be restored to their pre-crisis levels and if fiscal space is
to be created so that countries can respond effectively to
future shocks, should they arrive. Despite some consolidation,
structural fiscal deficits remain large in absolute
terms in several economies in East Asia (Papua New
Guinea, Cambodia, Laos and Mongolia) and also in large
middle-income economies such as Ghana, India, Kenya,
Malaysia, and South Africa.
Among middle-income countries with relatively open
capital markets, a tighter fiscal stance will help take
some of the pressure off monetary policy — while reducing
sovereign vulnerabilities to an eventual increase
in interest rates.With output gaps having closed and most developing
countries growing in line with potential, this suggests that
more tightening will need to be done if debt-levels are to
be restored to their pre-crisis levels and if fiscal space is
to be created so that countries can respond effectively to
future shocks, should they arrive. Despite some consolidation,
structural fiscal deficits remain large in absolute
terms in several economies in East Asia (Papua New
Guinea, Cambodia, Laos and Mongolia) and also in large
middle-income economies such as Ghana, India, Kenya,
Malaysia, and South Africa.
Among middle-income countries with relatively open
capital markets, a tighter fiscal stance will help take
some of the pressure off monetary policy — while reducing
sovereign vulnerabilities to an eventual increase
in interest rates.
Structural reforms
Supply side reforms are needed to increase resilience and lift productivity growth
Overall, while the prospects for developing countries are
for solid if not spectacular growth, the path forward is
not assured — as the sub-5 percent growth of the past
few years attests. Many developing countries have privileged
demand stimulus over structural reforms during the
post crisis period. Reforms have stalled in recent years
even as structural bottlenecks in energy and infrastructure (Brazil, India, South Africa), labor markets (India, South
Africa) and business climate (Brazil, India, Russia, South
Africa) have constrained GDP growth and productivity.
Partially as a result, middle-income country growth has
disappointed in the post crisis period.
The structural reform agenda needs to be reinvigorated
in order to sustain rapid income growth. The contribution
to potential output from capital accumulation, which
has declined markedly in the post-crisis period is likely to
ease further as capital costs rise and international liquidity
tightens. Meanwhile, demographics have turned less supportive:
aging populations imply that growth rates in
many middle-income countries will slow as agedependency
ratios catch up to levels in advanced economies
and working age populations grow more slowly
These trends are most advanced in developing Europe
and Central Asia, China and Thailand where demographic
trends have already reached a turning point. Working
age population growth is slowing in the rest of East Asia
and in other developing regions too, with Sub-Saharan
Africa a notable exception.
All this places a greater premium on policy reforms that
raise productivity growth. Policymakers need to push
ahead with reforms on a number of fronts, that include
labor and product market and business regulation reforms
that enhance competition. Financial market reform
is key as well, including reducing the dominance
of state-owned or controlled institutions. The relatively
solid performance of Mexico and Philippines (who have
undertaken recent policy reforms) and earlier reformers
Chile, Poland and Peru during the recent episodes of
global financial volatility reflects the increasing attention
that financial markets are paying to developingcountry
fundamentals.
On the fiscal front, reforms are needed to raise the quality
of public investments in human capital and physical infrastructure.
One potential avenue for creating space for
infrastructure and education spending is through subsidy
reforms. Quantifying the benefits of subsidy reforms is
hard, not least because these can be provided though offbalance
sheet transactions. OECD (2009) suggests that
subsidy reform can improve household welfare in countries
where subsidies are particularly high and generate
large distortions. Moreover, actual fiscal savings, although
differing by countries, can be substantial even after compensating
households for the removal of subsidies.
Global Economic Prospects: South Asia
Shifting priorities, building for the future
June 2014
Recent developments:
Regional GDP in South Asia, measured at market prices, grew an estimated 4.7 percent in 2013, down from 5.0 percent in 2012. Regional growth in 2013 was 2.6 percentage points below average growth in 2003-12, mainly due to subdued manufacturing performance and a sharp slowing of investment growth in India. Pakistan’s growth is estimated to have remained broadly stable notwithstanding fiscal tightening, but remains significantly below the regional average, due in part to energy supply bottlenecks and security uncertainties. India’s exports received a boost from steep currency depreciation during the second half of 2013, after the U.S Federal Reserve’s “taper talk” in late May 2013. A sharp current account adjustment (from a deficit of nearly 5 percent of GDP in Q2 2013 to 0.2 percent of GDP in Q1 2014) was achieved mainly through efforts to curb imports. In the rest of the region, as demand from high-income countries improved, exports in Bangladesh and Sri Lanka grew rapidly. Bangladesh’s export growth, however, slowed in Q1 2014, partly due to the lagged effect of political unrest. Pakistan’s exports slowed more sharply, reflecting in part pervasive electricity and natural gas shortages.
Inflation in the first quarter of 2014 was above 7 percent (y/y) in Bangladesh, Pakistan, India and Nepal, reflecting structural capacity constraints and persistence of food inflation. Despite some consolidation, fiscal deficits remain high. India’s general government deficit, despite falling, is still more than 2 percentage points of GDP higher than in 2007, indicating that depleted fiscal buffers have yet to be fully restored. In Pakistan, fiscal restraint has reduced the deficit from over 8 percent of GDP in FY2011-12 to an estimated 6 percent of GDP in FY2013-14. However, sustaining fiscal consolidation could prove challenging as revenue mobilization in the region remains weak, while subsidies for fuel, food and fertilizers impose substantial pressure on the expenditure side. Measures to gradually reduce subsidies, and to raise revenues by simplifying the tax system, broadening the tax base, and improving compliance, can help to reduce deficits. Capital flows to the region have grown steadily since the mid-2013 financial turmoil. Growth in remittances slowed in 2013, but remittances continue to provide support to consumption and external balances in most countries in the region.
Outlook:
Firming global growth and a modest pickup in industrial activity should help lift South Asia’s growth to 5.3 percent in 2014. Although growth should improve during the course of 2014, a weak start to the year will weigh on annual growth. Regional growth is projected to rise to 5.9 percent in 2015 and 6.3 percent in 2016 (with most of this acceleration focused on India), supported by a gradual pickup of domestic investment and rising global demand. India’s growth is projected at 5.5 percent in FY2014-15, accelerating to 6.3 percent in 2015-16 and 6.6 percent in 2016-17. Medium-term growth in Pakistan and Nepal is projected at about 4 percent, and in Bangladesh at about 6 percent. In Sri Lanka, annual growth is forecast to remain broadly stable at 7.2 percent in 2014, moderating to 6.7 percent by 2016.
The forecasts assume that reforms are undertaken to ease supply-side constraints (particularly in energy and infrastructure), improve productivity, and strengthen the business environment, which would help to raise the region’s underlying growth potential. Continued fiscal consolidation would create additional space for private investment, while maintaining a credible monetary policy stance (together with a gradual easing of supply-side constraints) would help to reduce inflation. Regional capital flows are forecast to rebound to $115 billion in 2014, and then rise broadly in line with GDP (to 4.5 percent of GDP)—below the level of 5.6 percent of GDP in 2012, mainly reflecting tighter international financial conditions.
Risks:
A key risk to the near-term outlook is weak seasonal monsoon rains, perhaps triggered by El Niño weather conditions. Weaker than average monsoons could reduce regional GDP growth by half a percentage point or more, while stronger El Niño conditions that result in deficient rainfalls or drought can have more significant impacts. Stressed bank loans (including restructured loans in India) exceed 10 percent of loans in Bangladesh, Bhutan, India, and Pakistan. If left unaddressed, these could result in lack of sufficient financing needed for a resumption of the investment cycle. Security uncertainties in Afghanistan and Pakistan and a slow pace of reforms are other risks. External headwinds include escalation of geopolitical tensions in Russia and Ukraine that could cause a disruption in global energy supplies and crude oil prices to spike; a disorderly adjustment of capital flows accompanying monetary policy normalization in the U.S; and a sharp slowing of Chinese growth.
Shifting priorities, building for the future
June 2014
The global economy got off to a bumpy start this year buffeted by poor weather in the United States, financial market turbulence and the conflict in Ukraine.
As a result, global growth projections for 2014 have been marked down from 3.2 percent in January to 2.8 percent now. Despite the early weakness, growth is expected to pick up speed as the year progresses and world GDP is projected to expand by 3.4 percent in 2015 and 3.5 percent in 2016 – broadly in line with earlier forecasts.
When expressed in 2010 Purchasing Power Parity terms, global growth is projected to accelerate from 3.1 percent in 2013 to 3.4, 4.0, and 4.2 percent in each of 2014, 2015 and 2016.
High-income country recovery is underway
The bulk of the acceleration will come from high-income countries (notably the United States and the Euro Area). A reduced drag on growth from fiscal consolidation, improving labor market conditions and a steady release of pent-up demand in these countries are projected to overcome first quarter softness and lift high-income GDP growth to 1.9 percent in 2014, from 1.3 percent in 2013, and to 2.4 and 2.5 percent in 2015 and 2016.
Developing country growth to pick up slowly …
The outlook for developing countries is for flat growth in 2014. This marks the third year in a row of sub-5 percent growth and reflects a more challenging post-crisis global economic environment.
The outlook reflects countervailing forces. On the one hand, the high-income acceleration will supply an important tailwind, with their contribution to global growth expected to rise from less than 40 percent in 2013 to nearly 50 percent in 2015.
As a result, high-income import demand is projected to accelerate from 1.9 percent growth last year to 4.2 percent in 2014 and as much as 5.0 percent in 2016, and developing country exports from 3.7 percent last year to 6.6 percent by 2016.
Developing country growth will not be more robust in part because most developing economies are already fully recovered from the crisis and growing at close to potential.
Moreover, in the medium-term, global financial conditions will tighten. However, given substantial further credit easing in the Euro Area, when that tightening will occur has become less certain.
Other factors arguing against a more buoyant acceleration include restructuring in China, a gradual move towards a more neutral policy stance in developing countries and, for commodity exporters, stable or even declining commodity prices.
Regional prospects vary
Supply-side bottlenecks will preclude stronger growth, particularly in East Asia and the Pacific; Latin America and the Caribbean; and Sub-Saharan Africa. Most economies in these regions have already completely recovered from the financial crisis and are growing at close to potential. Growth in East Asia is projected to slow modestly to 7.0 percent by 2016. Most countries in Latin America are operating at full capacity, but strengthening output in Argentina, Brazil and Mexico is projected to lift regional growth from a weak 1.9 percent this year to around 3.5 percent in 2016. In Sub-Saharan Africa GDP growth is projected to gradually firm toward 5.1 percent in 2016 from a broadly flat 4.7 percent in 2014.
In Europe and Central Asia, outturns will be affected by the conflict in Ukraine. Growth for developing countries in the region is projected to drop from 3.6 percent in 2013 to 2.4 percent this year, before firming to 3.7 and 4.0 percent in 2015 and 2016. For the broader geographic region (including high-income countries such as Russia, Poland and other Baltic economies) growth is projected to gradually firm from a low of 1.7 percent in 2014 to 3.2 percent in 2016.
In the Middle East and North Africa, and in South Asia growth is expected to pick up more brusquely. In South Asia the acceleration is expected to be focused in India, as reforms are undertaken to ease supply side constraints, particularly in energy and infrastructure. Regional growth is projected to firm from 4.8 percent in 2013, to 5.3, 5.9 and 6.3 percent in 2014, 2015, and 2016, respectively. In the Middle East, the projected rebound is more gradual, from stagnation last year, to growth of 1.9, 3.6 and 3.5 percent in each of 2014, 2015 and 2016 reflecting rising oil output in Iran and Iraq, and a partial recovery in Egypt and Jordan from the conflict-generated lows of recent years.
Macroeconomic Policies
Further gradual policy tightening would both reduce vulnerabilities and improve resilience
The monetary policy tightening induced by the volatility of the past year generated a welcome tightening in the stance of monetary policy in many developing countries, which, by restraining domestic demand, helped diminish both internal and external imbalances.
Policy tightening contributed to a slowing in the pace of real credit growth in East Asia (Thailand, Indonesia, Malaysia and China) and in Brazil as well as in smaller economies such as Armenia. However, adjustment remains partial and credit continues to expand very rapidly in Turkey, and available data show no significant slowing in South Africa. This trend seems to have reversed in May when a
number of countries, including Turkey, Hungary, Armenia, and Serbia cut policy rates. Overall, and despite what have been some substantial rate hikes in some cases, real interest rates in many developing countries remain very low and even negative in some cases
Tighter policy would help contain stubborn inflation in several middle-income countries
Fiscal adjustment is also required to increase resilience to external shocks
While tightening monetary policy will help lower inflation,
ease the pace of credit growth and reduce the likelihood
of domestic financial crises, fiscal tightening is also
called for in a number of countries.
Overall the fiscal position of developing countries has
deteriorated significantly since 2007 (figure 1.24). Thirty
seven percent of developing countries saw their fiscal
deficits rise by 3 or more percent of GDP between 2007
and 2013. Currently, almost half of developing countries
have a government deficit that exceeds 3 percent of
GDP. Moreover, debt levels have increased almost
across the board with debt-to GDP ratios in more than
half of developing countries having risen by more than
10 percentage points since 2007 (figure 1.25).
Some fiscal tightening has occurred in recent years: the aggregate
cyclically-adjusted budget balance for developing countries
widened by 3.4 percentage points between 2005 and
2009 to -4.2 percent. Since then it has gradually narrowed to -
3.2 percent in 2013, an improvement of nearly a third.
With output gaps having closed and most developing
countries growing in line with potential, this suggests that
more tightening will need to be done if debt-levels are to
be restored to their pre-crisis levels and if fiscal space is
to be created so that countries can respond effectively to
future shocks, should they arrive. Despite some consolidation,
structural fiscal deficits remain large in absolute
terms in several economies in East Asia (Papua New
Guinea, Cambodia, Laos and Mongolia) and also in large
middle-income economies such as Ghana, India, Kenya,
Malaysia, and South Africa.
Among middle-income countries with relatively open
capital markets, a tighter fiscal stance will help take
some of the pressure off monetary policy — while reducing
sovereign vulnerabilities to an eventual increase
in interest rates.With output gaps having closed and most developing
countries growing in line with potential, this suggests that
more tightening will need to be done if debt-levels are to
be restored to their pre-crisis levels and if fiscal space is
to be created so that countries can respond effectively to
future shocks, should they arrive. Despite some consolidation,
structural fiscal deficits remain large in absolute
terms in several economies in East Asia (Papua New
Guinea, Cambodia, Laos and Mongolia) and also in large
middle-income economies such as Ghana, India, Kenya,
Malaysia, and South Africa.
Among middle-income countries with relatively open
capital markets, a tighter fiscal stance will help take
some of the pressure off monetary policy — while reducing
sovereign vulnerabilities to an eventual increase
in interest rates.With output gaps having closed and most developing
countries growing in line with potential, this suggests that
more tightening will need to be done if debt-levels are to
be restored to their pre-crisis levels and if fiscal space is
to be created so that countries can respond effectively to
future shocks, should they arrive. Despite some consolidation,
structural fiscal deficits remain large in absolute
terms in several economies in East Asia (Papua New
Guinea, Cambodia, Laos and Mongolia) and also in large
middle-income economies such as Ghana, India, Kenya,
Malaysia, and South Africa.
Among middle-income countries with relatively open
capital markets, a tighter fiscal stance will help take
some of the pressure off monetary policy — while reducing
sovereign vulnerabilities to an eventual increase
in interest rates.
Structural reforms
Supply side reforms are needed to increase resilience and lift productivity growth
Overall, while the prospects for developing countries are
for solid if not spectacular growth, the path forward is
not assured — as the sub-5 percent growth of the past
few years attests. Many developing countries have privileged
demand stimulus over structural reforms during the
post crisis period. Reforms have stalled in recent years
even as structural bottlenecks in energy and infrastructure (Brazil, India, South Africa), labor markets (India, South
Africa) and business climate (Brazil, India, Russia, South
Africa) have constrained GDP growth and productivity.
Partially as a result, middle-income country growth has
disappointed in the post crisis period.
The structural reform agenda needs to be reinvigorated
in order to sustain rapid income growth. The contribution
to potential output from capital accumulation, which
has declined markedly in the post-crisis period is likely to
ease further as capital costs rise and international liquidity
tightens. Meanwhile, demographics have turned less supportive:
aging populations imply that growth rates in
many middle-income countries will slow as agedependency
ratios catch up to levels in advanced economies
and working age populations grow more slowly
These trends are most advanced in developing Europe
and Central Asia, China and Thailand where demographic
trends have already reached a turning point. Working
age population growth is slowing in the rest of East Asia
and in other developing regions too, with Sub-Saharan
Africa a notable exception.
All this places a greater premium on policy reforms that
raise productivity growth. Policymakers need to push
ahead with reforms on a number of fronts, that include
labor and product market and business regulation reforms
that enhance competition. Financial market reform
is key as well, including reducing the dominance
of state-owned or controlled institutions. The relatively
solid performance of Mexico and Philippines (who have
undertaken recent policy reforms) and earlier reformers
Chile, Poland and Peru during the recent episodes of
global financial volatility reflects the increasing attention
that financial markets are paying to developingcountry
fundamentals.
On the fiscal front, reforms are needed to raise the quality
of public investments in human capital and physical infrastructure.
One potential avenue for creating space for
infrastructure and education spending is through subsidy
reforms. Quantifying the benefits of subsidy reforms is
hard, not least because these can be provided though offbalance
sheet transactions. OECD (2009) suggests that
subsidy reform can improve household welfare in countries
where subsidies are particularly high and generate
large distortions. Moreover, actual fiscal savings, although
differing by countries, can be substantial even after compensating
households for the removal of subsidies.
Global Economic Prospects: South Asia
Shifting priorities, building for the future
June 2014
Recent developments:
Regional GDP in South Asia, measured at market prices, grew an estimated 4.7 percent in 2013, down from 5.0 percent in 2012. Regional growth in 2013 was 2.6 percentage points below average growth in 2003-12, mainly due to subdued manufacturing performance and a sharp slowing of investment growth in India. Pakistan’s growth is estimated to have remained broadly stable notwithstanding fiscal tightening, but remains significantly below the regional average, due in part to energy supply bottlenecks and security uncertainties. India’s exports received a boost from steep currency depreciation during the second half of 2013, after the U.S Federal Reserve’s “taper talk” in late May 2013. A sharp current account adjustment (from a deficit of nearly 5 percent of GDP in Q2 2013 to 0.2 percent of GDP in Q1 2014) was achieved mainly through efforts to curb imports. In the rest of the region, as demand from high-income countries improved, exports in Bangladesh and Sri Lanka grew rapidly. Bangladesh’s export growth, however, slowed in Q1 2014, partly due to the lagged effect of political unrest. Pakistan’s exports slowed more sharply, reflecting in part pervasive electricity and natural gas shortages.
Inflation in the first quarter of 2014 was above 7 percent (y/y) in Bangladesh, Pakistan, India and Nepal, reflecting structural capacity constraints and persistence of food inflation. Despite some consolidation, fiscal deficits remain high. India’s general government deficit, despite falling, is still more than 2 percentage points of GDP higher than in 2007, indicating that depleted fiscal buffers have yet to be fully restored. In Pakistan, fiscal restraint has reduced the deficit from over 8 percent of GDP in FY2011-12 to an estimated 6 percent of GDP in FY2013-14. However, sustaining fiscal consolidation could prove challenging as revenue mobilization in the region remains weak, while subsidies for fuel, food and fertilizers impose substantial pressure on the expenditure side. Measures to gradually reduce subsidies, and to raise revenues by simplifying the tax system, broadening the tax base, and improving compliance, can help to reduce deficits. Capital flows to the region have grown steadily since the mid-2013 financial turmoil. Growth in remittances slowed in 2013, but remittances continue to provide support to consumption and external balances in most countries in the region.
Outlook:
Firming global growth and a modest pickup in industrial activity should help lift South Asia’s growth to 5.3 percent in 2014. Although growth should improve during the course of 2014, a weak start to the year will weigh on annual growth. Regional growth is projected to rise to 5.9 percent in 2015 and 6.3 percent in 2016 (with most of this acceleration focused on India), supported by a gradual pickup of domestic investment and rising global demand. India’s growth is projected at 5.5 percent in FY2014-15, accelerating to 6.3 percent in 2015-16 and 6.6 percent in 2016-17. Medium-term growth in Pakistan and Nepal is projected at about 4 percent, and in Bangladesh at about 6 percent. In Sri Lanka, annual growth is forecast to remain broadly stable at 7.2 percent in 2014, moderating to 6.7 percent by 2016.
The forecasts assume that reforms are undertaken to ease supply-side constraints (particularly in energy and infrastructure), improve productivity, and strengthen the business environment, which would help to raise the region’s underlying growth potential. Continued fiscal consolidation would create additional space for private investment, while maintaining a credible monetary policy stance (together with a gradual easing of supply-side constraints) would help to reduce inflation. Regional capital flows are forecast to rebound to $115 billion in 2014, and then rise broadly in line with GDP (to 4.5 percent of GDP)—below the level of 5.6 percent of GDP in 2012, mainly reflecting tighter international financial conditions.
Risks:
A key risk to the near-term outlook is weak seasonal monsoon rains, perhaps triggered by El Niño weather conditions. Weaker than average monsoons could reduce regional GDP growth by half a percentage point or more, while stronger El Niño conditions that result in deficient rainfalls or drought can have more significant impacts. Stressed bank loans (including restructured loans in India) exceed 10 percent of loans in Bangladesh, Bhutan, India, and Pakistan. If left unaddressed, these could result in lack of sufficient financing needed for a resumption of the investment cycle. Security uncertainties in Afghanistan and Pakistan and a slow pace of reforms are other risks. External headwinds include escalation of geopolitical tensions in Russia and Ukraine that could cause a disruption in global energy supplies and crude oil prices to spike; a disorderly adjustment of capital flows accompanying monetary policy normalization in the U.S; and a sharp slowing of Chinese growth.
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