Markets' fall puts pressure on
G7 to stifle the yen
By Joanne Gray and Tony Boyd
The Group of Seven is under pressure to co-ordinate
global action to stem the rise of the yen following a slump
in world equity markets yesterday and a warning from the
International Monetary Fund of a possible hard landing in
the US.
Wall Street fell 2 per cent on Tuesday night after
investors were spooked by renewed strengthening of the
yen, caused by the Bank of Japan's decision to leave
monetary policy unchanged and the release of a record
$US25.2 billion ($37 billion) trade deficit for July.
Japan's benchmark Nikkei 225 stock index then fell 3.4
per cent, led by export-sensitive sectors including cars
and electronics as economists warned that the strong yen,
which has risen 40 per cent against the $US to ¾104.3
over the past year, posed a threat to Japan's emerging
economic revival.
In its annual World Economic Outlook released today,
the IMF said the stability of financial markets was at risk
because of the skewed patterns of growth from the US,
European and Japanese economies.
Those imbalances and the disorder in currency markets
caused by the strength of the yen are expected to be the
subject of intense discussion at this weekend's G7
meeting in Washington.
The IMF said that a hard landing in the US could be
triggered by a pick-up in inflation, and higher interest
rates that would be likely to follow, or if investors, scared
by the huge US trade deficit, decided to dump the US
dollar.
This could cause stock prices to fall, which in turn could
depress US consumer spending and spill over to partner
economies.
Just as the IMF was sounding its warnings, the US
economy and financial markets were playing out its
concerns. The US Commerce Department reported that
the trade deficit for July climbed to another record of
$US25.2 billion, as demand for foreign cars, consumer
goods and equipment blew out imports to a record high.
The latest data has put the US on track for an annual
trade deficit of $US247 billion, way above last year's
record of $US164 billion.
On financial markets, concern about the US trade deficit
and the Japanese Government's refusal to cut rates to
dampen the yen caused the dollar to weaken further,
which in turn triggered the second largest point fall ever
on Wall Street.
Overall, however, the IMF's Outlook was one of its
more upbeat prognoses for the world economy in recent
years. It raised its prediction for world growth in 1999
and 2000 to 3 per cent and 3.5 per cent, from its May
forecasts of 2.3 per cent and 3.4 per cent.
US growth targets also increased, to 3.7 per cent for
1999 from 3.3 per cent in its May forecast, slowing to
2.6 per cent in 2000, up from an earlier prediction of 2.2
per cent.
The IMF retreated from predictions of continuing
recession this year in Japan. It now expects the Japanese
economy to expand by 1 per cent in 1999 and by 1.5
per cent in 2000, but warned that its economy remains
fragile.
But Germany's economy will not grow as fast as the IMF
figured in May. It is now likely to grow by 1.4 per cent in
1999, down from 1.5 per cent earlier, and to 2.5 per
cent in 2000 from 2.2 per cent.
Australia's growth is forecast at 4 per cent this year, up
from an earlier estimate of 3.1 per cent. But in 2000, the
Australian economy will slow to 3 per cent, the IMF
said, down from its earlier forecast of 3.2 per cent.
Inflation is forecast to remain at less than 2 per cent while
the unemployment rate is tipped to fall.
It also warns that Australia and New Zealand are
vulnerable to external shocks through high and rising
foreign indebtedness, which could lead to a reversal in
investor sentiment and substantial exchange-rate
depreciation. But current account deficits are forecast to
decline over the medium term. The organisation notes
that Australia needs to increase national savings.
The IMF has projected that world growth will reach 3
per cent in 1999, up three-quarters of a percentage point
from its forecast in May, and after bottoming out at 2.5
per cent in 1998, the mildest slowdown in three decades,
despite the economic collapses in Asia.
It is also more optimistic about the recoveries in
developing countries, with growth forecasts for most
Asian countries revised upwards, and the slumps in
Russia and Brazil, which followed the Asian crises, likely
to be shallower than expected, the IMF reported.
Developing economies will grow at 3.5 per cent on
average in 1999 and at 4.8 per cent in 2000.
The US has clearly played a critical role in "moderating"
the slowdown amid the Asian economic crises, the IMF
said. The challenge now is to slow the economy enough
to keep a cap on inflation and contain the burgeoning
current account deficit.
The issue is whether the slowdown will be gradual or
abrupt, and the IMF believes a host of factors combine
to make the US economic miracle vulnerable.
"The generously valued stockmarket, the sharp decline in
household saving in recent years into negative territory,
high business capital outlays, the heavy reliance on
foreign saving, and the high exchange value of the dollar
relative to medium-term fundamentals all point to strains
and imbalances that may lead to a more abrupt slowing
of domestic demand."
There was a risk of a "sharp correction" in the dollar
relative to other currencies if stronger growth outside the
US curbed international investor demand for US assets.
But the IMF said the Federal Reserve might have to raise
interest rates further to curb the surging stockmarket
because sharp declines in stock prices could disrupt the
financial and payments system.
Overheating in stock prices might also call for tighter
monetary policy "not only when it threatens an
undesirable increase in product price inflation, but also
when there is strong evidence that asset prices are rising
to more and more unsustainable levels".
This could generate higher risks of a correction.
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