21 September 2018
Janet Yellen (left) and Christine Lagarde share a concern about a slow global economic recovery. Photo: Reuters
Janet Yellen (left) and Christine Lagarde share a concern about a slow global economic recovery. Photo: Reuters

Why global economy may experience double-dip recession

The US Federal Reserve did not kick off a series of interest rate hikes at its September meeting as some expected.

The decision has been criticized by Fed staff and market participants for sending a confusing message about the US central bank’s policy direction.

Fed chairwoman Janet Yellen said she and other Fed officials still believe there is a good chance of liftoff before the end of the year.

Will liftoff come this year?

If so, what about the pace of the rate hikes?

In late October last year, the Fed announced the unwinding of its quantitative easing program, ending the six-year-long bond purchasing scheme.

US monetary policy is set to normalize, and it is only a matter of time.

Whether Fed liftoff will arrive this year is not the key question.

Rather, whether we might see a double-dip recession given slower global economic growth is more worrying.

Christine Lagarde, president of the International Monetary Fund, said Sept. 22 that the global economy is facing three sources of risks — low commodity prices, China’s slowdown in economic growth and rising US interest rates.

[Editor's note: On Tuesday, the IMF trimmed down its global economic growth forecast for 2015 to 3.1 percent from 3.3 percent.]

The reason behind a delayed Fed liftoff includes moderating economic growth in China, which has been a major engine for global economic growth over the years.

Also, the economic recovery in the United States is not that solid, and China’s slowdown could affect the US economy.

As a liberal economist, Yellen cares a lot about the well-being of the underprivileged.

The US economy has shown a slow recovery, and the unemployment rate dropped to 5.1 percent in August.

However, the jobless rate among the young and poor remains quite high.

This has been largely neglected by the media.

That means the job market situation may not be that optimistic, despite some improvement.

In fact, the decision of the Fed liftoff largely depends on the fight between dovish and hawkish Fed members, who have divided views over the outlook for inflation.

Yellen is obviously in the dovish camp.

The hawkish camp has become less powerful within the Fed after Dallas Federal Reserve Bank president Richard Fisher and Philadelphia Federal Reserve Bank president Charles Plosser left the Federal Open Market Committee.

The Fed is tilting toward a more dovish stance.

I will not be surprised to see no liftoff this year.

And even if it occurs this year, the pace could be very restricted, to avoid a negative effect on the improving job market for the underprivileged.

The modest rate hike may not affect the real economy.

The overnight federal funds rate is around 0.25 percent, and I believe the Fed might raise the rate to 0.375 percent if it decides to make its move this year.

Some say the Fed’s liftoff might accelerate capital outflows from emerging markets.

However, I don’t see that as a key factor affecting global economic growth.

Rather, liftoff will show that the US government is quite confident in the economic recovery and that it needs to hike interest rates to curb inflation, which only happens when there is full employment.

In this case, it would be a good thing for emerging economies, which could export more to the US.

However, the US economic recovery may not be that solid, and it remains unclear whether the Fed is comfortable enough to raise interest rates to curb rising inflation amid a prolonged slump in commodity prices.

China is grappling with a significant slowdown in economic growth, while European economic recovery might be dragged down by the influx of a great number of refugees.

From a holistic point of view, the global economy might see a double-dip recession, which will have a much more severe impact than a US rate hike.

This article appeared in the Hong Kong Economic Journal on Oct. 6.

Translation by Julie Zhu

[Chinese version中文版]

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Professor, Department of Economics, HKUST Business School; former senior research economist and advisor, Federal Reserve Bank of Dallas

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