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Chapter 1 Current State of the World Economy

[Contents]

<Summary of Chapter 1>

(Overview of the world economy)

   Although there are several destabilizing factors, such as surge in crude oil prices and a weak euro, the world economy is in a better condition than it was in 1998, when it was hard hit by the Asian currency and financial crisis (July 1997).

(The U.S. and Latin America)

   In April 2000, the U.S. economy entered its 10th year of expansion. Although prices have been stable amid fast economic expansion, concerns about acceleration inflation remain, as exemplified by tight labor market and a sharp rise in crude oil prices.

   In Latin America, the Mexican economy continued its expansion buoyed by the brisk U.S. economy and strong domestic demand. The Brazilian economy recovered at a pace faster than had been expected.

(Europe)

   Economic activities in the euro area began expanding as a pickup in the world economy and the depreciation of the euro boosted exports, and fixed investment and private consumption have been increasing from the summer of 1999 onward.

   The Russian economy is expanding thanks to the recovery in exports due to higher crude oil prices on the international market.

(Asia)

   East Asian economies are in a transition from a rapid post-crisis recovery to a sustainable growth, on the strength of a sharp increase in exports buoyed by worldwide demand for IT-related equipment and an increase in private consumption.

(International finance and commodity markets)

   The flow of money from Europe to the U.S., which has been increasing, is pointed out as a factor causing depreciation of the euro beside the other factors such as the cyclical divergence between Europe and the U.S. and slow structural reform in Europe.

   Crude oil prices are moving at a high level, as the demand has recovered while the OPEC members follow their cutback agreement.


Section 1: Overview of the World Economy

(World economy keeping sound condition)

   Although there are several destabilizing factors, such as surge in crude oil prices and a weak euro, the world economy is in a better condition than it was in 1998, when it was hard hit by the Asian currency and financial crisis (July 1997). (See Table 1-1-1) The U.S. economy is continuing its still long-running expansion, although there remain concerns over accelerating inflation. The euro area economies are expanding owing to external demand thanks to the buoyant world economy and depreciation of euro, and increasing private consumption and fixed investment. Unemployment rates are falling in the euro area. In East Asia, economies are in transition from a rapid recovery after the Asian currency and financial crisis to a sustainable growth, supported by worldwide demand for IT-related equipment and expansion of domestic demand. Economies in Latin America, Central and Eastern Europe, and Russia are expanding in general, after overcoming the aftermath of the Russian crisis in 1998 and the devaluation of the Brazilian real in early 1999.

   Reflecting the good economic conditions in each region, the real GDP of the world (according to IMF statistics) rose 3.4% in 1999, after posting a year-on-year gain of 2.6% in 1998. The IMF forecasts the real GDP of the world will grow at 4.7% in 2000, the highest growth rate since 1988 (4.7%).

(World trade)

   The volume of the world trade in goods and services increased 5.1% in 1999, after posting an increase of 4.3% in 1998. The IMF forecasts the volume will rise 10.0% in 2000. The world trade development in 1999 can be characterized as follows.

(1) The expansion of the U.S. economy contributed much to the world trade.

(2) Worldwide demand for IT-related equipment rose and exports from Asia recovered.

(3) Exports from oil-producing countries increased due to a rise in crude oil prices.

(International finance and commodity markets)

   The flow of money from Europe to the U.S., which has been increasing, is pointed out as a factor causing depreciation of the euro beside the other factors such as the cyclical divergence between Europe and the U.S. and slow structural reform in Europe.

   Crude oil prices are moving at a high level, as the demand has recovered while the OPEC members follow their cutback agreement.

Table 1-1-1. World Economy -Overview-


Section 2: U.S. Economy Continuing its Longest Expansion on Record

1. U.S.: Overheated economy avoided

(Economic trend in the past year)

   The U.S. current economic expansion, which began in March 1991, overdrove the former record of the longest survived expansion in February 2000 and entered its 10th year in April. Looking back on the past year, there were some signs of overheating from late 1999 to early 2000 caused by fast economic growth, but it receded in the middle of 2000 as economic activities slowed down. In late 1999, personal consumption, particularly on durable goods, was very brisk, accompanying a long-lived investment boom. After the turn of the year, demand expanded briskly as personal consumption, buoyed by higher stock prices, increased further and prompted active capital and residential investment in the private sector, heightening concerns about accelerating inflation amid the tight labor market. However, consumption on durable goods and housing starts began to moderate in the middle of 2000, reflecting the monetary tightening by the Fed and the correction of stock prices, and then the slowdown in residential investment became evident and production growth also moderated. (See Figure 1-2-1, 1-2-2, 1-2-4)

(Curbing inflation risks and a prospect of soft landing)

   In the current economic expansion, although the labor market remains tight under the strong economic growth, prices are stable thanks to structural factors, such as restrained pressure on wages in the flexible labor market, strong productivity growth, and intensified price competition brought about by an increase in imports. The rise in labor productivity growth that began to be observed since the latter half of 1990s has curbed a rise in prices, by increasing supply capacity and lowering unit labor costs. Moreover, the increased flexibility of the labor market has lowered NAIRU (non-accelerating inflation rate of unemployment) and thus made both low unemployment rates and low inflation rates possible to coexist. In addition, that it has become difficult for firms to pass the rising costs through is also curbing inflation.

   Meanwhile, the strong growth in demand from late 1999 to early 2000 amplified inflationary risks. Although the economic growth has slowed down, it is necessary to keep a close watch for inflationary pressures, as the labor market remains as tight as ever and the impact of higher crude oil prices has begun to be felt in core indications of prices. (See Figure 1-2-9)

   To cope with increasing inflationary risks, the authorities have raised interest rates in stages. And disciplined fiscal policies have pushed long-term interest rates lower and thus propped up private-sector investment and consumption. They have also lowered expected inflation rates and thus contributed to the stable economic growth.

   Realizing sustainable growth of the U.S. economy is also important for the world economy. It is, therefore, essential to curb inflation. It is necessary to keep vigilant over coming development, including policy action of the monetary and the fiscal authorities, to ascertain whether the real economy slows down to the extent it will ease the tight labor market and whether the U.S. economy can eventually maintain a pace of sustainable economic expansion.

2. Canada: Economy expanding steadily mainly on domestic demand

   The Canadian economy has been expanding since 1997, mainly on domestic demand, such as personal consumption and private investment. The quarter-to-quarter real GDP growth at annual rate posted 5.1% rise in the January-March 2000 and 4.7% rise in the April-June. Prices are stable in general, with the rate of inflation, excluding energy prices, standing around 1.5%. The unemployment rate has declined as a result of increased employment brought about by economic expansion and currently stands at its lowest level since 1976.

3. Latin America: Mexican economy expanding even in presidential election year

   In Mexico, there had been an economic crisis every time in presidential election years. Exceptionally this year, it is likely that there will be a transition of power without causing economic crisis. The country's trustworthiness in the international financial market has improved with the falling of gross external public debts to 19.1% of GDP and Moody's upgrading the sovereign rating to an investment grade. The growth rate of GDP slackened to 3.7% in 1999 suffering from the currency crisis in Brazil, but it rose to 7.9% year-on-year in the January-March quarter of this year and 7.6% in the April-June quarter. (See Figure 1-2-22)

   In Brazil, it had been forecast that GDP would suffer a sizable minus growth in 1999 due to the currency devaluation in January of that year. However, the GDP posted a gain of 1.1% in that year. It recovered steadily to grow at a rate of 3.8% year-on-year in the January-March quarter of 2000 and 3.9% in the April-June quarter.

   In Argentina, GDP posted a negative growth of 3.2% in 1999 as exports decreased because of the currency devaluation in Brazil in January of that year. The growth rate turned upward since then, posting a 0.9% rise year-on-year in the January-March quarter of 2000, the first positive growth in six quarters, and a 0.8% rise in the April-June quarter. However, since the country has adopted a fiscal retrenchment policy with the support of the IMF, the economic recovery is slow.

Figure 1-2-1 U.S.: Retail sales, consumer confidence and stock prices   Figure 1-2-2 NAHB Index and single-family housing starts   Figure 1-2-4 Consumer price index and producer price index

Figure 1-2-9 U.S.: Pool of available workers (ratio to the total population of people aged 16 or older)   Figure 1-2-22 Latin America : GDP growth rate


Section 3: European Economy Expanding

   On January 1, 1999, 11 of the 15 EU member countries introduced a single currency, the euro. The euro area covers a population of about 290 million and its nominal GDP is about 6.5 trillion dollars, bigger than that of Japan and comparable to that of the U.S. At present, the euro is used for noncash payment. From January 1, 2002, euro banknotes and coins begin to circulate.

   In June 2000, the European Council formally decided on Greece's participation in the euro and the country will become the 12th euro member country effective January 1, 2001.

(Economic performance of the euro area)

   Economic activities in the euro area slowed down in the first half of 1999 due to a decrease in exports that began in the second half of 1998 following the Asian currency and financial crisis. From the summer of 1999 onward, the economy began expanding as a pickup in the world economy and the depreciation of the euro boosted exports, and fixed investment and private consumption increased. Prices were stable at low levels of inflation during 1998 and 1999, reflecting worldwide disinflation. But import prices began rising in late 1999 in tandem with a rise in crude oil prices, putting an upward pressure on consumer prices (See Figure 1-3-2) .

(Euro kept depreciating)

   The euro, a single currency, now in its second year since its inauguration in January 1999, fluctuated mainly influenced by the cyclical divergence between the U.S. and the euro area, and it followed in general a downward trend. In October 2000, the euro depreciated about 30% against the dollar from January 1999 and depreciated about 33% against the Japanese yen in the same period (See Figure 1-3-6). Reflecting the moderation in the U.S. economy and expansion of the economies of thte euro area countries, the real GDP growth rates in the U.S. and the euro area came closer, narrowing the interest spread between the two. Nevertheless, the euro hit all-time lows against the dollar over again and monetary authorities in the euro area began to point out that there is a misalignment between the two currencies, with the euro undervalued.

   Another structural factor that has contributed to the depreciation of the euro is a flow of money out of the euro area. The direct investment balance and portfolio investment balance of the euro area have been in the deficits for a long time. In particular, mergers and acquisitions of U.S. firms by the euro area companies have been on the increase both in terms of value and number (See Figure 1-3-9). That funds keep flowing into the U.S. seems to reflect investors' concerns about the structural vulnerability of the euro and the euro area economy.

(Economic performance of major EU countries)

   In Germany, the economy is expanding as fixed investment and private consumption increased led by an increase in exports on the buoyant world economy and the euro's all-time low rate since its inception. "Tax Reform 2000," which is designed to enhance Germany's international competitiveness through a drastic cut in corporate and income taxes, was approved in July 2000 and is expected to go into effect in January 2001.

   In France, the economy is expanding as private consumption remains steady and fixed investment is increasing. In February 2000, "the 35-hour working week" was adopted to reduce weekly working hours from 39 hours to 35 hours at companies with a workforce of 20 or more. In August 2000, the French government announced that it would implement large-scale tax cuts in 2001 through 2003.

   In the United Kingdom, the economy is expanding as private consumption and capital investment remain steady, although production in the manufacturing industry slackened from late 1999 to early 2000. The British government decided not to participate in the third phase of European Monetary Union, which started in January 1999. The government said it would conduct a plebiscite on whether or not to participate in the euro area as soon as economic conditions allow doing so. However, since the anti-euro sentiment among the British people is stiff and the issue has become more of a political concern than an economic matter, no progress has been made recently toward the U.K.'s participation in the euro.

(Economic performance of Central and Eastern Europe, and Russia)

   In the three major countries of Central and Eastern Europe, Poland, Hungary and the Czech Republic, the economies have been expanding since the second half of 1999. With the influence of the Kosovo conflict and the Russian financial crisis receding, the brisk EU economy and the depreciation of their currencies after the Russian financial crisis have fueled the economic expansion.

   The Russian economy is expanding thanks to the import substitution geared by the devaluation of the ruble since August 1998 and a recovery in exports due to higher crude oil prices on the international market. President Putin, who took the post in May 2000, has decided on new economic programs and is actively promoting structural reforms of the Russian economy.

Figure 1-3-2 Economic trends in the euro area

Figure 1-3-6 Movements of the euro exchange rates

Figure 1-3-9 Acquisition between euro area and U.S.


Section 4: Economy Expanding in Asia Pacific

(East Asian economies shifting from a rapid post-crisis recovery to a sustainable growth)

   East Asian economies, which once plunged into a recession hard hit by the currency and financial crisis, staged a rapid recovery in 1999 on the strength of a sharp increase in exports of electric and electronic equipment buoyed by worldwide demand for IT-related equipment and an increase in private consumption. With domestic private demand expected to increase in 2000, along with exports, East Asian economies are in a transition from a rapid post-crisis recovery to a sustainable growth.

   Increase in public demand and net exports supported the rapid recovery that was seen shortly after the crisis. Though the unemployment rates still remain higher compared with the pre-crisis levels , it is on a downward trend as productive activity has begun to pick up. This might have contributed to the increase in private consumption. Inventory adjustment run its course in the beginning of 1999 and signs of a buildup of inventories have appeared. Capital investment is increasing, except in some economies, and the upward trend in production is continuing. For the moves toward the expansion of domestic demand to develop into a sustainable growth, it is important to push steadily ahead with structural reform, which is under way in many sectors, including the financial sector.

(Economic performance of China, Korea and Australia)

   The growth rate of the Chinese economy fell for seven consecutive years from 1993 and a deflationary trend became tangible in 1999 due to a fall in prices and sluggish consumption. The Chinese government has adopted a positive fiscal policy to prevent the slowdown in economic growth and is increasing public investment through increased issuance of government bonds. In 2000, the pace of economic growth has slightly increased with real GDP posting a year-on-year gain of 8.1% in the January-March quarter, 8.3% in the April-June quarter and 8.2% in the July-September quarter.

   The Korean economy recovered sharply in 1999 thanks to the effect of economic stimulus measures, such as the easing of fiscal and monetary policies, and the continued growth of exports (in real terms). The economy is continuing its expansion in 2000 on the strength of a sharp increase in domestic demand and brisk exports. Real GDP growth rate was 12.8% year on year (7.2% quarter to quarter at annual rate) in the January-March quarter of 2000, and 9.6% (4.6% quarter to quarter at annual rate) in the April-June quarter.

   In Australia, the economy has been continuing its expansion since fiscal 1991 (July 1991~June 1992) and GDP growth rate for fiscal 1999 was 4.4%.

Figure 1-4-3 Robust economic growth rates   Figure 1-4-13 Australia: Read GDP and unemployment rate


Section 5: International finance/commodity markets

(Foreign exchange trends)

   The U.S. dollar, which had been on a downward trend against the Japanese yen since July 1999, turned upward in late 1999, buoyed by a rise in high-tech issues on the stock markets and high growth of the U.S. economy. The dollar has been on an upward trend against the euro, reflecting the cyclical divergence between Europe and the U.S. and the continued outflow of capital from the euro area, and as of October 2000 it stood about 30% higher than it was when the euro was inaugurated in January 1999. (See Figure 1-5-1). The Indonesian rupiah, the Thai baht and the Philippine peso have been losing ground against the dollar since late 1999, reflecting political confusion in these countries.

(Bond market trends)

   Long-term interest rates in the U.S. had been on an upward trend since 1999, reflecting concerns about accelerating inflation caused by signs of overheating in the economy and tightened labor market. But they turned lower after the Treasury Department announced Treasury's buyback program. Long-term interest rates in Germany and the U.K., which had been rising since 1999, also turned lower after the turn of the year, reflecting lower stock prices.

(Stock market trends)

   Major European and U.S. stock indices hit all-time highs in late 1999 to March 2000, reflecting lower interest rates and solid corporate earnings. However, stock prices have been fluctuating indecisively since then. Meanwhile, the Nasdaq Composite Index, a technology-laden stock index, plunged after rising above 5,000 points and hitting an all-time high in March 2000. European high-tech stock indices also fell sharply. (See Figure 1-5-2) The plunge can partly be attributed to the fact that investors have begun to have misgivings about the future of some high-tech companies. Major Asian stock indices rose sharply in 1999 on the improvement of corporate earnings brought about by economic recovery. But, stock prices turned lower in many of the Asian economies in 2000, reflecting a global adjustment of stock prices.

(Commodities/crude oil prices)

   The CRB (Commodity Research Bureau) commodity futures price index (1967 = 100), which reflects the prices of 17 primary commodity futures, fell below 183 points at the end of February 1999, the lowest level in nearly a quarter of a century, but moved up from the second half of 1999, reflecting an expansion of the world economy, and stood at 228 points (monthly average) as of September 2000.

   Crude oil prices (North Sea Brent, spot prices) fell below 10 dollars per barrel at the beginning of 1999, but turned higher as OPEC members agreed on additional production cuts at their general meeting in March 1999. Thereafter, crude oil prices kept rising thanks to OPEC members' adherence to the cutback agreement, non-OPEC oil producing countries' explicit cooperation, and a pickup in demand in Asia, and rose above 30 dollars per barrel in March 2000 for the first time since the Gulf crisis. As of October 2000, crude oil prices hovered around 30 dollars per barrel, mainly due to concerns about a tightness of the supply/demand balance in the future (See Figure 1-5-20). The recent rise in crude oil prices can be attributed to a tightening in supply-demand situation and a rise in prices of petroleum products in a short-term; and a sharp fall in the number of active rigs and slower consumption of alternate energies than consumption of crude oil in a medium-term.

(Impact of a rise in crude oil prices on the world economy)

   The recent rise in crude oil prices is not likely to have a major impact on the world economy, as both its margin of increase from the level before declining and its real price level are lower than in three rises in the past. However, if the prices stay at a high level, it may raise the rates of inflation and thus have a negative effect on the economy.

   The effect of the fluctuation of crude oil prices on consumer prices has been declining as prices of other commodities have been stable and the economy has become less dependent on petroleum. Given the fact that the basic unit for crude oil (oil consumption per real GDP) is sharply lower than in the past phases of price rises in major industrialized countries, the impact of a rise in crude oil prices on the real economy of the major countries may has been weakened considerably (See Table 1-5-26). Still, careful attention should be turned to the trend of crude oil prices in view of the facts that, in Europe, a rise in consumer prices is relatively large due to the effect of a weaker euro and a high percentage of tax in retail prices of gasoline and that, in some of the Asian NIEs, the basic unit for crude oil has been rising. Meanwhile, oil-producing countries are believed to be prioritizing the buildup of foreign currency reserves that have depleted during the period of lower crude oil prices and the repayment of bulgy debts. However, there are signs that some of the oil revenues are actively moving toward the asset markets in industrialized countries.

Figure 1-5-1 Trends in value of U.S. dollar   Figure 1-5-2 Trends in European and U.S. high-tech stocks indices

Figure 1-5-20 Trends of commodity prices   Figure 1-5-26 Comparison of basic unit for crude oil in various countries and regions


Section 6: IT and the World Economy

(Reasons why the Internet has been rapidly diffusing in the U.S.)

   The Internet has been rapidly penetrating world-wide since the mid-1990s and the U.S. is in the forefront. This is because the groundwork for the use of the Internet by individuals had already been laid in the U.S. thanks to the following reasons.

(1) The diffusion rate of personal computers was high.

(2) Network externalities, such as enrichment of digital contents in English, were operable.

(3) There was a sharp decline in personal computer prices and lower communication costs.

   In the U.S., many people use the Internet for e-mail and searching for information. They use e-mail to communicate with family members and friends outside the home as well as at home. (See Table 1-6-3) This may have something to do with constraints in terms of location and time even in communicating with family members and friends in modern society, where individuals are busy and do their own thing. Meanwhile, unemployed people actively use the Internet for searching for jobs and studying.

(Diffusion of IT and a rise in labor productivity)

   IT contributed considerably to the labor productivity growth in the U.S. in the latter half of the 1990s. (See Figure 1-6-5) The higher productivity growth brought about by IT is not limited to the industries that manufacture IT-related equipment. It could affect the whole economy through its impact on the supply side.

(IT-related production in Asia)

   IT offers new opportunities to developing countries. Asia has established a position as one of supply centers of IT-related equipment to the world and its exports have increased drastically amid the rapid diffusion of IT worldwide. India's software industry is drawing attention from the world.

(Measures to enhance IT skills)

   Since the revolutionary effect of IT extends to people's lives, their way of learning and work, and even to their involvement with communities and governments, it is important for each nation to promote effective measures to enhance IT skills.

Figure 1-6-3 U.S.: Purpose of use of the Internet   Figure 1-6-5 U.S.: Breakdown of factors behind labor pruductivity growth

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