IMF’s forecast: probability of soft landing is increasing, it is important not to start lowering interest rates too soon

“A unified institutional response to the shock caused by the russian war is bearing fruit: compared to spring forecasts, the likelihood of a “soft landing” of the global economy has increased. Headline inflation is falling rapidly from the peak, but it will still take longer to get it down to the euro area’s final target of 2% in price growth over the medium term. That is why decision-makers must remain patient and maintain a sufficiently tight monetary policy: a further slowdown in inflation will contribute to strengthening household purchasing power and sustainable economic growth,” says Gediminas Šimkus.

At the same time, he stressed the need to return to the structural reform agenda: IMF projections signal the need for Europe to boost its growth potential and improve its long-term economic outlook.

Today, the IMF published a new global economic forecast, which has been significantly improved for Lithuania this year. Compared to the IMF’s June forecast, Lithuania’s GDP will shrink by only -0.2% this year (upward revision of 1.2 percentage points) and grow by 2.7% next year (downward revision of 0.2 percentage points due to the base effect). The IMF also predicts that average annual inflation will go down significantly from 9.3% this year to 3.9% in 2024.

The IMF foresees that the global economy will expand by 3% this year and by 2.9% next year. This is slower than usual: the annual average in 2000-2019 stood at 3.8%. The US economy will grow faster than expected in the summer (by 2.1% this year and 1.5% next year), while China’s will grow slower (by 5% and 4.2% respectively). The forecast for the euro area economy was also slightly revised downwards, with a 0.7% growth this year (revised downward by 0.2 percentage points) and 1.2% in 2024 (revised downwards by 0.3 percentage points).

The pandemic and russia’s war against Ukraine cause major shocks to the global economy and developing countries in particular. This year, global GDP will be 3% lower than predicted before the pandemic and 6% lower in low-income countries. Developed countries were more resilient to these shocks: euro area GDP is lower by 2%, while in the US it is even slightly higher than expected before the pandemic.

Headline inflation is declining rapidly, but core inflation, i.e. excluding the contribution of energy and food prices, is somewhat slower. In most countries, inflation will return to a level consistent with the central bank target in 2025. Average annual euro area inflation will amount to 5.6% this year and 3.3% next year. After assessing inflation developments, the IMF markedly softened the tone of monetary policy recommendations, with a significant reduction in cases where further monetary policy tightening was warranted. However, the IMF recommends maintaining the current level of interest rates and warns that it is important not to start lowering interest rates too early. Only on the basis of a consistent slowdown in core inflation could interest rates be gradually reduced to levels where they neither stimulate nor limit the economy.

The balance of risks improved over the six months, especially following the end of the turmoil in the US and Swiss banking sectors this spring. However, the balance of risks remains negative. One of the main downside risks is the volatility of commodity and energy prices: against the backdrop of climate change and geopolitical tensions, price shocks may become more common, which would prolong the period of high inflation. The latest example is the renewed rise in oil prices following the escalation of the Israeli-Hamas conflict. Another new risk is a slowdown in China’s economy due to stagnating real estate sector and particularly high youth unemployment.

This week, Gediminas Šimkus, Chairman of the Board of the Bank of Lithuania, will participate in the external Annual Meetings of the IMF in Morocco. Regular meetings will be held with the Nordic and Baltic counterparts and governors of the central banks of the Baltic countries. Bilateral meetings with Alfred Kammer, Director of the IMF’s European Department, Vladyslav Rashkovan, representative of Ukraine on the IMF Executive Board, as well as with the heads of the Mission to Ukraine will also be planned to discuss the implementation of the IMF programme for Ukraine.

The IMF is an organisation that unites 190 countries and works to achieve sustainable economic growth and prosperity for all its members. Lithuania has been a member of the IMF since 1992 and it is represented by the head of the central bank.

Economic analysis and projections, Financial stability, Monetary policy, International relations, GDP, Inflation