UK: Another Lukewarm Country Assessment From The IMF

Nearly all the International Monetary Fund (IMF) assessments of large, developed economies read the same now. The agency calls them “Statements of Mission.” They are released once the IMF staff has taken several months to examine a country’s financial status and forecast its future.

The reports begin with a statement that the general economy of the nation has begun to improve as it emerges from the recession and credit crisis.  Then it provides the IMF’s outlook and risks to recovery. That is followed by a discussion of what may cause a country to suffer financially again and what the IMF says the country in question must do to prevent future trouble.

The IMF prescriptions are nearly always the same. Deficits must be cut, but not enough to eliminate essential stimulus programs. Financial reform must be put in place to prevent future systemic credit problems. Monetary policy must be set to help economic recovery.

The UK got the same review as most large nations, except China, now that the recession is over, or at least in its late stages. The advice is contradictory. The IMF knows full well that austerity and higher taxes are hard to couple with ongoing stimulus. The agency nonetheless recommends that path again and again.

The IMF report on the UK, which was issued yesterday, says:

Fiscal tightening will dampen short-term growth but not stop it as other sectors of the economy emerge as drivers of recovery, supported by continued monetary stimulus. Upside and downside risks around this central scenario of moderate growth and gradually falling inflation are balanced.

However, downside risks are also sizeable, given the continued fragility of confidence, still-strained balance sheets among households and banks, signs of renewed housing market weakness, and the possibility that headwinds from fiscal consolidation could turn out to be more powerful than expected. Although it is unlikely and not unique to the UK, an adverse scenario where major new shocks—arising from either external forces or domestic ones—trigger another extended contraction in output cannot be ruled out.

And, to make matters potentially more unsettled:

The ongoing adjustment of bank balance sheets needs to continue, as public support schemes taper off and regulatory requirements tighten. Meanwhile, uncertainty about the sustainability of bank profits and the quality of their assets, especially some banks’ exposure to commercial real estate, remains significant. Faced with such uncertainty, banks have stayed cautious about extending new credit. Tight credit supply, in turn, could curb the pace of recovery once credit demand, which is currently weak, picks up.

Taken in balance, these are the same issues that politicians argue about incessantly, especially as the midterm elections near in the US. Very few candidates argue that the federal government should bolster bank balance sheets, which is expensive, or should begin a second stimulus. Most, however, even if they have little or no economic sense, realize that the economy has lagged so badly that unemployment could stand near 10% for another year or more.

There is no “natural” recovery of jobs ahead – the kind that accompanied the recoveries following the other recessions after 1960. This recession is different, almost everyone will agree. It requires different solutions although there is no consensus on what those should be.

So, the by-product of unsatisfactory debate is to dither. The UK and several other nations have decided to take matters in hand through sharp budget cuts. US politicians cannot bear to do the same and damage their prospects with voters. The IMF, in whatever wisdom it possesses, cannot come up with any solutions other than “things may get better slowly, but headwinds may arrest the improvement.”  The agency should refrain from country reviews until it has something meaningful to say.

Douglas A. McIntyre