Easing inflation rates across major economies are expected to relieve inflationary pressures on developing and emerging markets, allowing these economies to pursue disinflation more effectively, according to IMF Chief Economist Pierre-Olivier Gourinchas.
With major central banks reducing policy rates, emerging market economies will see their currencies strengthen against the US dollar, which will improve financial conditions and reduce imported inflation. "Lower interest rates in major economies will ease the pressure on emerging market economies, with their currencies strengthening against the US dollar and financial conditions improving," Gourinchas stated. This pivot towards monetary easing will provide these nations the macroeconomic breathing room needed amid elevated risks and challenges.
The global economic outlook now requires what Gourinchas termed a "policy triple pivot" to maintain stability. The first pivot, already underway, is monetary policy adjustment. Central banks across advanced economies have begun cutting policy rates, transitioning towards a neutral stance that supports economic activity while maintaining caution against re-emerging inflationary threats, especially within service sectors.
The second pivot is on fiscal policy, focusing on stabilizing debt dynamics and rebuilding fiscal buffers after prolonged periods of loose fiscal policy. Gourinchas emphasized that, despite declining policy rates, this alone would not suffice given that real long-term interest rates remain above pre-pandemic levels. "The path is narrow: delaying consolidation increases the risk of disorderly market-imposed adjustments, while an excessively abrupt turn toward fiscal tightening could be self-defeating and hurt economic activity," said Gourinchas, noting the delicate balance required in fiscal planning.
The third and most challenging pivot is the need for growth-enhancing reforms. To tackle global issues such as aging populations, climate transition, and the need to uplift the vulnerable, structural reforms to boost growth and productivity are crucial. Gourinchas argued that relying solely on industrial and trade policy measures could result in retaliation and may not lead to sustained improvements in standards of living. Instead, the focus must be on fostering innovation, improving competition, and ensuring economic integration. While these reforms face significant social resistance, Gourinchas suggested that building trust between governments and citizens, along with proper compensatory mechanisms, would be essential to ensure the success of these reforms.
The three-pronged approach to policy adjustment reflects the multifaceted challenges facing the global economy. As inflation eases, policymakers are called upon to adopt measured strategies in monetary, fiscal, and growth policy areas to ensure sustainable progress.
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