U.S. economy to see ‘fairly well-behaved transition’ to slower growth: IMF chief economist

IMF Chief Economist Gita Gopinath joins Yahoo Finance Live to discuss IMF's global and U.S. growth projections, market expectations, interest rates, the labor force participation rate, and how inflation and Omicron will dent world growth in 2022.

Video transcript

- This morning, the IMF lowered its global growth estimate to 4.4% from 5.9%. A host of concerns. Let's talk more about the move with IMF chief economist Gita Gopinath. Yahoo Finance's Brian Cheung is here, as well. Gita, what was the biggest factor behind this move?

GITA GOPINATH: So we downgraded growth for this year. We had it at 4.9%, and we brought it down to 4.4%. And that's explained, to an important extent, by sizable downgrades for the US and for China. Now, for the US, it's because we don't have the Build Back Better fiscal package anymore in our baseline. And we're of course expecting interest rates to go up, and so the monetary tightening gets-- is in that, too. And we have supply disruptions that have lasted longer.

In the case of China, I think there are two big factors. One is slowing real estate sector. That's been weaker than we've expected. And the fact that the recovery in private consumption, again, is not strong enough. So both of those factors are leading to the downgrade.

BRIAN CHEUNG: Hey, Gita. Brian Cheung here. It's great to have you on the program. I want to zoom in a little bit more on the United States. What is interesting is this is also coming at a time when the Federal Reserve is posturing for a possible tightening of policy. How do you see that weighing on the global growth prospects for the country?

GITA GOPINATH: Well, in the case of the US, the recovery has been very strong and very fast. So the US is back to a pre-pandemic trend GDP. Really, the output gap is zero, and employment has recovered strongly. Even though there's been a decline in labor force participation, the unemployment rate is under 4%. So it is a strong recovery. And inflation ended at 7% at the end of last year.

So you know, it is to be expected that interest rates should go up. Given what-- the expectation of the path of interest rates, that would still keep real interest rates quite accommodative. So, you know, our expectation is that growth will slow, as it should to prevent the economy from overheating anymore. But there should be-- it should be a fairly well-behaved transition down.

BRIAN CHEUNG: Can we zoom in a little bit on inflation? Because it's not just a US phenomenon, it is a global phenomenon. But what is interesting is that the report did note that the kind of threat of a wage/price spiral might be more pronounced because there's more broad-based inflation in the US than in other jurisdictions. How does the world economic outlook look at inflation from that perspective? Is that also a big reason for the downgrades that we saw in the US and globally?

GITA GOPINATH: So indeed. I mean, if you look at inflation across the world, it's up. Headline inflation is up. And that's because of the increase in energy prices almost everywhere. But on the other hand, if you look at core inflation, that is, you know, six-- there's less trouble there for a bunch of countries than there are for others. In the case of the US, we've seen core inflation go up quite substantially. The inflation has been broad-based.

But nominal wages have grown, they've grown most for workers who work in sectors like leisure and hospitality than for the others. We so far do not see a wage/price spiral in the US. But indeed, when you have very tight labor markets, you still have a lot of pent-up demand, especially for services. We should expect to see those forces putting pressure on prices, which is why it makes absolute sense to start raising interest rates.

- Gita, it's Julie here. Does the biggest core unknown remain the path of the pandemic? It seems like that we are, at least here in the United States, seeing numbers peak and start to come down. But of course, there could be other variants, so we don't know what this year is going to look like. Is that the biggest sort of unknown, and therefore maybe biggest risk?

GITA GOPINATH: It is one of the biggest risks indeed that we remain in the grip of the pandemic. While omicron is having a big hit on activity in the first quarter, we don't expect it to have a big hit for the year as a whole. But again, there are many risks that still exist. For instance, if there are more lockdowns, more shutdowns in China because of the zero COVID policy, then that can have important implications for global supply chains. That has consequences for inflation.

So there is tremendous uncertainty, I would say, that remains highly elevated. And of course also, in terms of the US monetary policy reaction, what that will look like, and whether that could then generate-- for instance, if there's a very sharp increase in borrowing costs around the world, then that, of course, has negative implications, too. So just tremendous amount of uncertainty. And I would expect that there would be some turbulence, as we're seeing these days.

BRIAN CHEUNG: Gita, something that thematically we've been talking about on the many times that you've hopped on our program here over the course of this pandemic has been the diverging recoveries in different economies. And what's interesting was that, within the context of monetary policy, we've already seen tightening in those emerging market economies, where they may not have recovered as fast as the US, where we haven't even started that process yet. How does the IMF kind of look at where the recoveries are now as we head into a period of time when all the advanced economies are going to start to tighten, but maybe the recovery has already full stopped in some of these emerging markets?

GITA GOPINATH: Yes, Brian, unfortunately, the divergent recoveries just persist. We have advanced economies back to pre-pandemic trend this year, and for many emerging and developing economies, we have significant losses into the medium term, like 5%, 6% range. So there is much more scarring that's going on in emerging and developing economies. And several of these countries have indeed raised interest rates sharply to get ahead of price pressures, even though they haven't fully recovered in terms of output or employment.

So they have a higher challenge. Their debt levels are also high, and they are more susceptible to increases in global interest rates. So that is something that we are being very watchful of. I mean, I will-- just to be clear, it's not that all emerging markets can be painted with the same brush. There are several that have large amounts of foreign exchange reserves.

They don't really rely on dollar borrowing from the rest of the world. They are in a better shape. But there are others that actually do borrow a lot, short-term borrowing in dollars, have large external financing needs. And you know, if there were sharp increases in borrowing costs, of course that would be particularly problematic for them.

BRIAN CHEUNG: Yeah, and of course differentials in interest rates can make for interesting capital flows, as well. But Gita, last question here, I just kind of want to ask about you. It is important to note that this will be your last report, world economic outlook report as the chief economist of the IMF. You'll be transitioning over to-- or you already have transitioned, I think, over to the first deputy managing director role at the IMF. Can you tell us a little bit more about that job switch, and kind of how your responsibilities are going to change? Because obviously, that's a big shift over there.

GITA GOPINATH: It is a big shift. I'm very honored to have been given this opportunity. I go from being economic counselor and director of one department, which is the research department, to overseeing multiple departments and working with a very broad swath of colleagues in different areas. I think what's been very gratifying for me these past few years is the ability to combine rigorous analytical work with public policy, and to see the difference it can make in the world, along with my colleagues. And I hope to continue that.

- Well, good luck in the new role. IMF chief economist Gita Gopinath, always nice to see you. Yahoo Finance's Brian Cheung, thanks so much.