The international economy.

• Author: Hauskrecht, Andreas

World economic growth for 2004 is projected at 5 percent (measured in terms of real gross domestic product [GDP]), compared to growth rates of 2.1 percent in 2002 and 3 percent in 2003. The International Monetary Fund in Washington forecasts world economic growth for 2005 at 4.3 percent, (1) slightly lower than this year but still significantly above the historical average of 3 percent.

The forecast predicts a slight economic slowdown for most world regions (see Table 1), although the Euro area (2) and Japan will grow at a pace close to their respective potential long-term output growth rates. These re support the U.S. economy in its role as world growth engine.

Like last year, China and India are expected to show robust economic growth in 2005, close to or even above 7 percent. Their resulting demand for energy, particularly Chinese demand for crude oil, has been one key factor explaining its high price. Should the oil price remain at current levels, output growth will be significantly lower for oil-importing economies and the world economy as a whole.

Europe

Recovery in Europe has finally gained momentum in 2004 and economic output is expected to rise by 2.2 percent. While this economic upswing was supported by an increase in domestic demand in countries like Spain and France, in other European countries (such as Germany and Italy), domestic demand is still lackluster. The expected slowdown of world GDP growth will likely hit Germany, by far the biggest economy in Europe, and cause, at best, a stagnation of the current output growth rate. Overall risks appear tilted to the downside, and a high crude oil price will have a significant impact on economic activity. Unemployment is expected to remain relatively high for the entire region. Several factors contribute to this sobering outlook for the Euro area:

* First, while several Asian countries try to limit a devaluation of the dollar against their currencies, the appreciation of the euro caused significant losses in competitiveness for European exports.

* Second, rising inflation limits the scope for the European Central Bank to reduce interest rates.

* Third, the so-called Financial Stability Pact does not allow national governments to use fiscal policy more actively in order to stimulate the economy.

Asia

Japan enjoyed an unexpectedly strong economic upswing in 2004 with a real GDP growth of 4.4 percent. However, while the economy was growing, the price level was further declining by 0.2...