WORLD ECONOMIC OUTLOOK: Cyclical Upswing, Structural Change
WEO, the sluggishness in wages partly reflects continued slack in labor markets, especially a still-elevated share of workers involuntarily working part-time. Changes in the composition of the workforce—new entrants earning relatively lower wages than retiring workers—may also have played a role. The January uptick in US hourly earnings growth was a welcome sign of a firming labor market after a period of strong payroll gains. A sustained acceleration of labor earnings will be needed to push real wage growth above labor productivity gains, raise cost pressures for firms, and support the return of core inflation toward the medium-term target. •• In many emerging market and developing economies, recent currency stability or appreciations against the US dollar have helped keep a lid on core inflation. Core inflation is around historical lows in Brazil and Russia, where demand has been recovering from the deep contractions of 2015–16, while it has picked up in India after falling sharply in the second quarter of 2017 due to one-off factors. In China, core inflation remains broadly stable at about 2 percent. In contrast, other countries—in sub‑Saharan Africa; the Commonwealth of Independent States; and the Middle East, North Africa, Afghanistan, and Pakistan region—continue to grapple with high inflation stemming from the pass-through of earlier exchange rate depreciations.
Financial Conditions—Still Loose Despite equity market turbulence in early February, equity market declines in March, and some increases in bond yields in response to firmer growth and inflation, market sentiment generally appears stronger than in August. Confidence in the strength of the global outlook has gained ground, and financial conditions remain accommodative and supportive of the recovery, as discussed in the April 2018 Global Financial Stability Report (GFSR). Central bank monetary policy moves have been well telegraphed and absorbed smoothly by markets. Withdrawal of monetary support in the United States has continued, with increases in short-term interest rates in December and March amid a firmer labor market and emerging signs of strengthening inflation. Markets are currently pricing in two additional interest rate increases in 2018—a more rapid pace of normalization than expected a few months ago (Figure 1.7). In January 2018, the European Central Bank reduced the monthly 6
International Monetary Fund | April 2018
pace of its asset purchase program from $60 billion to $30 billion, with purchases intended to continue until the end of September 2018, or beyond if necessary. Among other advanced economies, the United Kingdom raised its bank rate to 50 basis points in November and Canada raised its policy rate to 1.25 percent in January. With strengthening economic activity and expectations of more rapid increases in the policy rate in the United States, nominal yields on 10-year US Treasury bonds have risen by over 50 basis points since August (as of end March 2018). This increase reflects primarily a steeper expected path for short-term interest rates. Over the same period, long-term bond yields have risen by some 10 basis points in Germany and 25 basis points in the United Kingdom, while they have remained around zero in Japan. Long term bond yields have remained broadly unchanged in Italy and Spain, as their spreads over German bunds have compressed with the increase in German yields. Despite the early February turbulence and declines in March following the announcements of intended US tariff actions on steel and aluminum and a range of Chinese products, as well as the announcement by China of retaliatory tariffs on imports from the US, equity market valuations remain stronger than in August (Figure 1.7, panel 5). Volatility has subsided but remains higher than the pre-February episode lows, with spillovers beyond equity markets generally contained. Corporate credit spreads are tighter or little changed relative to August (Figure 1.7 panel 6). Despite widening interest rate differentials, the US dollar weakened modestly in real effective terms, by about 1½ percent between August 2017 and endMarch 2018, and is about 4 ½ percent weaker than its 2017 average (Figure 1.8). The euro has appreciated by around 1 percent and stands about 4 percent stronger than its 2017 average. Among other currencies, the Japanese yen has remained broadly stable, while the British pound appreciated 5 ½ percent after the Bank of England raised interest rates in November and as expectations of a Brexit deal rose. In emerging market economies, financial conditions since August have generally remained supportive of a pickup in economic activity. Monetary policy was eased further in Brazil and Russia, while it was tightened in Mexico. Equity markets have strengthened (Figure 1.9) and spreads on the J.P. Morgan Global Emerging Markets Bond Index have declined (Figure 1.10). Long‑term interest rates on local currency bonds have increased modestly in countries growing rapidly, such as in emerg-