Vous êtes sur la page 1sur 55





Submitted on:
13th June, 09
Prepared By:
Aditya Agarwal
Kashif Ziad
Kiranpal Singh
Mayank Sharma
Priyanka Nagpal
Saumya Sinha
Section F7

The 1980’s Recession and Recovery...........................................3
The Recession of 1990 – 91.........................................................4
The Recession of 2008 onwards..................................................4
Theoretical Insight..........................................................................6
Case Study 1 – Japan......................................................................8
Case Study 2 – Great Britain........................................................18
Case Study 3 – Vietnam...............................................................22
Case Study 4 – United States of America.....................................28
Case Study 5 – India.....................................................................40

People in industrialized nations are far wealthier than people
living in less developed countries. But still these wealthier nations
suffer most during the slowdown period. There was boom in 2007
and then the slowdown started showing its presence prominently
in the year 2008. Before economies could take it seriously, there
was recession. This is what explained by Business Cycle which
says everything which goes up is bound to come down. All these
activities are studied under macroeconomics which is concerned
with the behavior of economy as a whole. This is not the first time
world economies are facing slowdown, there has been 5
recessions in the last 30 years around the globe which includes
the most remembered “Great Depression”. Inflation, Employment
Cuts, Price hike, low demand etc is all characteristics of slowing
down of the economy. The main problem faced by the countries is
not nuclear threat but high inflation rates.
Before starting with the current slowdown of the world
economies, lets have a look at the scenarios of 1980’s and 1990-
91 recessions. Lets observe the policy mix taken by the
economies like US and Europeans at such situation.

The 1980’s Recession and Recovery

Economic policies in the united states in the early 1980’s,
departed radically from the policies of the previous two decades.
First, tight monetary policy was implemented at the end of 1979
to fight an inflation rate and then, in 1981, an expansionary fiscal
policy was put in place of tax cuts and increased defense
In 1973, the US and rest of the world were hit by first oil shock, in
which the oil exporting countries more than doubled the price of
oil. This led to rising inflation which was extremely unpopular. In
October 1979, the Fed acted, turning monetary policy in a highly
restrictive direction. The monetary squeeze was tightening in the
first half of 1980, at which point the economy went into a mini
recession. The reason for the sharp decline on the activity was
tight money because inflation was still above 10% and money
stock was growing at only 5.1% in 1981, the real money supply
was falling. With a policy mix of easy fiscal and tight monetary
policies, it was found out a rise in interest rate was expected.
With investment subsidies increased, investment increased with
interest rates. This the fiscal expansion of 1984 and 1985 pushed
the recovery of the economy forward.

The Recession of 1990 – 91

The policy mix in early 1980’s featured highly expansionary fiscal
policy and tight money. The tight money succeeded in reducing
the inflation of late 1970’s and very early 1980’s, at the expense
of serious recession. Expansionary fiscal policies then drove a
recovery during which the real interest rates increased sharply.
By middle of 1990 it was clear that the economy was heading for
the recession.
The price of oil jumped and for a time the Fed was faced with the
quandary of deciding whether to keep monetary policy tight while
holding interest rates up, in order to fight inflation, or pursue an
expansionary policy in order to fight the recession. The fiscal
policy was immobilized because the budget deficit was already
large and was expected to rise and thus no one was enthusiastic
about increasing it. From end of 1990, Fed began to cut interest
rates aggressively and the economy showed signs of recovery in
second quarter of 1991 but faltered in fourth quarter.

Thus, Fed cut the interest rate very sharply at the end of 1991. In
retrospect, this was sufficient to ward off a recession.

The Recession of 2008 onwards

The Credit Crisis began in August 2007, when interbank lending
markets in the US, UK and Europe began to seize up. These
markets had rarely received much public attention, and it was not
immediately obvious why this should have happened. But loans
on interbank markets, from overnight to several months, were not
just important in keeping the flow of credit circulating amongst
banks, and hence amongst almost all economic agents in a
market system, they were made without collateral being
necessary, and were increasingly important to the banking model
developing across market economies. That model relied to an
increasing extent on wholesale markets for supplies of capital,
rather than on the deposits of individuals or companies. At the
same time the degree of leveraging on capital was also
increasing. So with larger supplies of credit and greater
leveraging higher profits were possible. As were higher risks, as
banks sought out increasing rates of return to satisfy their
shareholders and those of their employees whose wages and
bonuses were linked to levels of business or profits. But the
increasing levels of risk seemed manageable by the device of
securitisation, which appeared to allow the securitising bank to
simultaneously sell on the risk and replenish its capital. When a
rapidly deflating housing market bubble in the USA exposed
weaknesses in this banking model, and similar bubbles in Ireland,
the UK, Australia and Spain also began deflating, doubts about
the location and value of securitised assets led eventually to an
evaporation of trust between first banks, and then other financial
and non-financial companies.
By the autumn of 2008 the lack of trust in the financial sector
was sufficiently great to almost completely seize up credit flows
and threaten the stability of the world financial system. The
financial system was in effect broken, and by October 2008 a
coordinated action by large numbers of central banks and
countries was needed to stabilise it. This involved giving
widespread promises of state protection to depositors, large
injections of capital to banks, vast liquidity supplies to gummed-
up financial market and increasing guarantees for all sorts of
short term bond issues. Most recently the Crisis moved into the
realm of sovereign default, as countries such Hungary and
Ukraine struggle to refinance foreign currency loans, bringing in
international agencies such as the IMF and the World Bank to
provide assistance. At the same time the Credit Crisis has
spawned an international economic downturn, and in some cases
recession, the depth and severity of which cannot at the moment
be estimated.
All of these responses have public finance consequences – tax
revenues and expenditures – and risk and uncertainty
consequences that are still growing and evolving.

Theoretical Insight
Theoretical insight about the recession and how to tackle
recession can be given by the help of macroeconomic studies.
But before that we should pay attention to what is meant by
“In economics, a recession is a general slowdown in economic
activity over a sustained period of time, or a business cycle
contraction. During recessions, many macroeconomic indicators
vary in a similar way. Production as measured by Gross Domestic
Product (GDP), employment, investment spending, capacity
utilization, household incomes and business profits all fall during
To come out of this slowdown different economies adopt different
policies mainly under the heads of Fiscal Policy and Monetary
Tight Monetary policy affects the economy, first, by affecting the
interest rates and then by affecting the aggregate demand. An
increase in the money supply reduces the interest rate, increases
investment spending and aggregate demand and thus, increases
equilibrium output.
Loose Fiscal policy is implemented by increasing government
spending, cutting taxes etc. A cut in taxes will increases the
consumption of the public and thus increase in demand.
There are again two extreme cases in the operation of monetary
policy and fiscal policy.
First is the Classical Case where the demand for real balances is
independent of the interest rate, monetary policy is highly
effective and any kind of fiscal policy will be ineffective and thus
there will be crowding out of private spending by government.
Second is the case where there is Liquidity Trap, i.e., public is
willing to hold any amount of real balances at the going interest
rates, thus, monetary policy is highly ineffective but fiscal policy
is effective.
In all cases, the main concern of tightening the monetary policy
and easy fiscal policy is to increases consumption and increases
demand in the economy. Thus, consume more and save less. But

in developed countries like Japan saving is encouraged to come
out of the slowdown.
But just by implementing these policies will not help in getting
the desired results. A key component is there which plays an
important role for the success of any policy. This key component
is “Multiplier”.
Multiplier Effect is explained as the changes in the real variables
due to the changes in the exogenous variables. If the multiplier is
greater than 1 , then it indicates that any increases the in
government spending will result in greater change in the
aggregate demand and any decrease in the interest rates will
result in much less money supply. In such economies where
multiplier is greater than 1, expansionary fiscal policies will be
effective and can give very good results and vice versa.
In the current scenario, many economies under economic
slowdowns are implementing a policy mix of monetary and fiscal
measures. Reduction in interest rates, introducing stimulus
packages in different sectors, cutting tax rates and increasing
government spending in buying bonds etc are all measures taken
up by different emerging as well as developed economy to
survive in this recession period.
These measures and how developing economies follow “consume
more and save less” strategy and developed economies follow
“consume less and save more” strategy will be explained further
by the case studies of different countries and steps taken by

Case Study 1 – Japan

History About Japanese Recession

In the decades following World War II, Japan implemented
stringent tariffs and policies to encourage people to save their
income. With more money in banks, loans and credit became
easier to obtain, and with Japan running large trade surpluses,
the yen appreciated against foreign currencies. This allowed local
companies to invest in capital resources much more easily than
their competitors overseas, which reduced the price of Japanese-
made goods and widened the trade surplus further. And, with the
yen appreciating, financial assets became very lucrative.
With so much money readily available for investment, speculation
was inevitable, particularly in the Tokyo Stock Exchange and the
real estate market. The Nikkei stock index hit its all-time high on
December 29, 1989 when it reached an intra-day high of
38,957.44 before closing at 38,915.87. Additionally, banks
granted increasingly risky loans.
With the economy driven by its high rates of reinvestment, this
crash hit particularly hard. Investments were increasingly
directed out of the country, and manufacturing firms lost some
degree of their technological edge. As Japanese products became
less competitive overseas, the low consumption rate began to
bear on the economy, causing a deflationary spiral. The Japanese
Central Bank set interest rates at approximately zero. When that
failed to stop deflation some economists, such as Paul Krugman,
and some Japanese politicians, advocated inflation targeting.

The easily obtainable credit that had helped create and engorge
the real estate bubble continued to be a problem for several
years to come, and as late as 1997, banks were still making loans
that had a low probability of being repaid. Loan Officers and
Investment staff had a hard time finding anything to invest in
that would return a profit. They would sometimes resort to
depositing their block of investment cash, as ordinary deposits, in
a competing bank, which would bring howls of complaint from
that bank's Loan Officers and Investment staff. Correcting the
credit problem became even more difficult as the government
began to subsidize failing banks and businesses, creating many
so-called "zombie businesses". Eventually a carry trade
developed in which money was borrowed from Japan, invested for
returns elsewhere and then the Japanese were paid back, with a
nice profit for the trader.

Economic Policy & Fiscal Policy

➢ Global financial markets remain fraught with instability
The U.S. financial crisis, which was initially triggered in 2007 by
defaults among subprime mortgage borrowers and the resulting
accumulation of bad loans, continued deteriorating to the point
where it had caused an acute credit crunch following the failure
of Lehman Brothers in 2008. With a number of financial
institutions across the world exposed to derivatives based on
such soured assets, the U.S.-initiated financial crisis quickly
spread to other countries. While Japanese financial institutions
are not immune to the crisis, their European counterparts have
felt a much greater impact. The extreme tension in the financial
markets has caused a global credit crunch, a flight to quality

among global investors, and a huge plunge in asset prices. Thus,
global financial markets remain fraught with great instability.
In the United States, the financial crisis has dragged down prices
of subprime-related securitized products, mortgage loans, and
commercial real estate. Not only has this resulted in greater
burdens on financial institutions by increasing the amount of
nonperforming assets to be disposed of, it has also substantially
reduced the value of household assets. Indeed, stocks and real
property held by American households lost 10% of their value in
one year, and the effects of this have rippled throughout the real
economy and caused a steep drop in consumer demand. In the
wake of the sharp decline in consumption, many American
companies have decided to forego or postpone capital
investment projects, and the nation's employment situation has
deteriorated significantly. But the impact is not limited to the U.S.
Many other countries that have been dependent on the
continuous growth of U.S. consumer demand are now suffering
from a big drop in exports to the U.S.
In many countries, shrinking domestic demand and falling asset
prices, both direct results of the credit crunch, have been
compounded by falling external demand caused by the drastic
downturn in the U.S. economy. The combination of these events
has depressed consumption, driven companies to cut back on
production, and begun to have a serious impact on the
employment situation. And that is an outline of the financial crisis
and subsequent economic recession experienced by the world in
2008. But, as the ongoing parade of bad news continues to
spread across the world in a chain reaction, it serves as a
renewed reminder of just how tightly countries are integrated
with each other in both international finance and trade.

➢ Comparison between Japan and the U.S. in terms of policy
The U.S. government has been both quick and bold in its policy
response to the crisis. In addition to providing $700 billion in
public funds for financial institutions to facilitate the disposal of
bad assets, the government has also made emergency bridge
loans available for the three biggest U.S. automobile
manufacturers to help them stave off imminent bankruptcy.
Furthermore, the incoming administration of President-elect
Barack Obama has already laid out plans for large-scale fiscal
expenditures. Meanwhile, in December 2008, the U.S. Federal
Reserve effectively adopted a zero interest rate policy by
lowering its target for the benchmark federal funds rate to 0-
0.25%. The Federal Reserve also announced its decision to
purchase agency debt and mortgage-backed securities, thus
embarking on a quantitative easing of monetary policy.
Although poor in comparison to the bold and rapid steps taken by
U.S. officials, Japanese policymakers are also moving in the same
direction as their U.S. counterparts by easing monetary policy
and pursuing expansionary fiscal policy. The Japanese
government committed to ¥1.8 trillion and ¥4.8 trillion of
expenditures to the first and second supplementary budgets,
respectively, for fiscal 2008 (April 2008 through March 2009). At
the same time, the government decided to re-launch its
emergency share purchase plan with a maximum of ¥20 trillion -
compared to the previous ceiling of ¥2 trillion - set aside for
purchasing shares held by banks. The plan was designed to
prevent financial uncertainty, alleviate the credit crunch, and
increase the amount of public funds available for injections into

For fiscal 2009, the Cabinet has approved a record budget
amount that calls for more than ¥88 trillion in general account
expenditures. Meanwhile, the Bank of Japan lowered the target of
the benchmark uncollateralized overnight call rate from 0.3% to
0.1%. In addition, the central bank decided to proceed with
quantitative easing measures such as increasing its outright
purchases of long-term Japanese government bonds (JGBs) and
commercial paper (CP) from financial institutions.
All these measures taken by the Japanese fiscal and monetary
authorities before the end of 2008 are emergency plans in nature,
designed to put the brakes on the steep downward slide in asset
prices and prevent the economy from receding further. As short-
term measures they are definitely needed, but they do not come
without non-negligible side effects.
In its fiscal policy, the government relies on debt to finance its
aggressive spending plans, which has led to an increase in
government bond issuance to about ¥33 trillion in both fiscal
years 2008 (after the second supplementary budget) and 2009.
The expansionary fiscal measures come with serious side effects,
namely an acutely deteriorating primary balance. Japan's primary
deficit more than doubled from ¥5.2 trillion in the initial budget
for fiscal 2008 to ¥13 trillion in fiscal 2009, with the ratio of
government debt outstanding to gross domestic product (GDP)
reaching 114%.
In its monetary policy, the central bank has begun shouldering
some of the credit risks of private-sector companies, but since
returning to an ultra-low interest rate policy it is once again left
with virtually no room to maneuver in money market operations.
Obviously, the government cannot afford to continue today's
expansionary fiscal and monetary policies forever. However, in
spite of the extraordinary fiscal and monetary steps implemented
or proposed to date, it is hard to expect the credit crunch will
subside and the Japanese economy will emerge from recession in
the coming fiscal year.
➢ Reversing slowing GDP and combating surging
unemployment are top priorities
The current state of the world economy, where recent declines in
energy, resource, and asset prices are occurring simultaneously
with the deepening of the recession, can be defined as the
beginning of a deflationary spiral caused by the credit crunch and
declining demand. It will be a long time before the world
economy recovers from the crash of both financial asset values
and real property prices. And it will take even longer for the
recovery of depressed demand, i.e., consumption and capital
investments. Last year the U.S. economy slipped into negative
growth and its unemployment rate has been rising sharply. For
the Japanese economy, the government is now forecasting zero
growth for fiscal 2009. Meanwhile, BRICs, which had recorded
high growth for years, have also begun making significant
downward revisions to their 2009 growth forecasts.
Unfortunately, as far as this year is concerned, the gloomy
outlook will not be too far off the mark. How soon countries can
stem sharply declining GDP growth and bring down high
unemployment are shaping up to be the biggest challenges in
Japanese fiscal and monetary authorities have little room to take
additional measures. As a result of steering into expansionary
policy, by the time the government finalized its budget bill for
fiscal 2009 it had already destined itself to running a large fiscal
deficit, which may cause profound negative effects for years to
come. Furthermore, even if the situation further deteriorates in
2009, it will be impossible to bring about a sustainable economic
recovery simply by continuing the expansionary policy of the past
several months. In the not-so-distant future, the time will come
for the government to leave things to the market. However,
overcoming today's unprecedented difficulties and transforming
the Japanese economy into one capable of bringing long-term
prosperity to the people are much more demanding than what
can be achieved by small government and market functions. In
this context, the government still has many cards that need to be
As many people may remember, World War II is what finally put
an end to the Great Depression, which had begun in 1929. If the
depression engulfing the world economy today is worse than the
Great Depression, the way out definitely involves a drastic
transformation of social and economic structures. That is, in order
to find an exit from the worldwide depression, radical changes
must take place in the structures of demand, production, fiscal
discipline, and financial rules across the world. And such changes
must come with innovation-driven "creative destruction" of social
➢ A new social infrastructure is needed
In the formulation of further policy measures to respond to the
economic shocks stemming from the ongoing crisis, the Japanese
government needs to develop and incorporate a long-term vision
for drastically changing the nation's economic structure. Such a
vision must be constructed on the basis of innovation and new
rulemaking. If the government irresponsibly continues vast fiscal
expenditures on infrastructure construction and other
conventional public works projects for the sake of economic
stimulus, taxpayers will be forced to bear the costs for many
years to come. Obviously, this will not lead to economic recovery.
To the contrary, it would increase people's anxiety about growing
future tax burdens and could conceivably delay the recovery.
Fiscal expenditures of this kind cannot provide any foundation for
inducing innovation. Instead, the government needs to
(1) promote innovation by creating a social infrastructure and
systems capable of overcoming challenges posed by climate and
other environmental changes
(2) establish a financially sustainable social security system that
can reliably address health and welfare needs arising from the
nation's rapidly aging population and decreasing birthrate
(3) accumulate internationally competitive human resources by
allocating intensive capital resources to the area of human
resource development; and
(4) work to develop global market rules that ensure the proper
evaluation and management of risks related to new financial
instruments such as the subprime and nonrecourse loans that
triggered the current financial crisis.
These proposed measures are fundamentally different from the
short-term, emergency measures formulated and/or implemented
in rapid succession during 2008. The most critical pending policy
issue for overcoming the oncoming depression is the creation of a
new social infrastructure capable of sustaining economic growth
over a long period of time.
No optimism is warranted regarding the possibility that the
Japanese economy will bottom out in 2009. However, if this year
marks the beginning of structural innovation, the recovery will
definitely start earlier than it would have otherwise. The Japanese
economy is not big enough to lead the recovery of the global
economy, and neither does it have the capacity to bear such a
burden. Yet by spearheading innovation and structural changes in
its economy and society, Japan will be able to send out an
effective message - and thus make a great contribution - to
rebuilding the integrated world economy.
Many a Japan economic policy has been adopted by Bank of
Japan in view of effects global financial recession are having on
its economy. These Japan economic policies had been adopted in
last phase of 2008.
Tadao Noda, who is a board member with Bank of Japan, has
reiterated that an effective economic policy of Japan needs to be
hit upon pretty quickly as Japanese economy is at present in a
very bad state.

In January 2009 exports went down at a rate of 45.7 percent

compared to January 2008. This resulted in an unprecedented
amount of trade deficit. Output of factories in Japan has also gone
down in January 2009 by a record 10 percent. Rate of
unemployment in Japan reached a record figure in terms of last
four years. This surely calls for an unfailing economic policy in
Japan so that present weaknesses can be weeded out.

In final quarter of 2008 gross domestic product of Japan went

down at a rate of 12.7 percent for that particular fiscal. An
economic policy at Japan is presently a need of hour if domestic
demand in Japan is to be revived.

Economists have opined that consumer demand in domestic

markets would be on wane as a result of economic uncertainty.
Exports of Japan, which are among its major sources of revenue,
would be on a downward curve as well since economies of other
countries would be recovering from aftereffects of global financial

As per economists, makers of Japan economic policies need to

look at after effects of imposing constraints on financing
opportunities. As part of their Japan economic policy major
opposition parties in Japan are trying to introduce financial
stimulus packages that so that effects of recession could be
allayed to a certain extent.

Democrats, major opposition party in Japan, have announced that

they would be providing an economic stimulus of $587.3 billion.
This amount would be spent for a period of four years and would
be looking to spruce up Japan’s economy. At present every Japan
economic policy is geared towards addressing imbalances across
various sectors of Japanese economy.

National Budget
In the postwar period, the government's fiscal policy centers on
the formulation of the national budget, which is the responsibility
of the Ministry of Finance. The ministry's Budget Bureau prepares
expenditure budgets for each fiscal year based on the requests
from government ministries and affiliated agencies. The
ministry's Tax Bureau is responsible for adjusting the tax
schedules and estimating revenues. The ministry also issues
government bonds, controls government borrowing, and
administers the Fiscal Investment and Loan Program, which is
sometimes referred to as the "second budget."

Three types of budgets are prepared for review by the National
Diet each year. The general account budget includes most of the
basic expenditures for current government operations. Special
account budgets, of which there are about forty, are designed for
special government programs or institutions where close
accounting of revenues and expenditures is essential: for public
enterprises, state pension funds, and public works projects
financed from special taxes. Finally, there are the budgets for the
major affiliated agencies, including public service corporations,
loan and finance institutions, and the special public banks.
Although these budgets are usually approved before the start of
each fiscal year, they are usually revised with supplemental
budgets in the fall. Local jurisdiction budgets depend heavily on
transfers from the central government.
Government fixed investments in infrastructure and loans to
public and private enterprises are about 15 % of GNP. Loans from
the Fiscal Investment and Loan Program, which are outside the
general budget and funded primarily from postal savings,
represent more than 20 % of the general account budget, but
their total effect on economic investment is not completely
accounted for in the national income statistics. Government
spending, representing about 15 % of GNP in 1991, was low
compared with that in other developed economies. Taxes
provided 84.7 % of revenues in 1993. Income taxes are
graduated and progressive. The principal structural feature of the
tax system is the tremendous elasticity of the individual income
tax. Because inheritance and property taxes are low, there is a
slowly increasing concentration of wealth in the upper tax
brackets. In 1989 the government introduced a major tax reform,
including a 3 % consumer tax. This tax has been raised to 5 % by
After the breakdown of the economic bubble in the early 1990s
the country's monetary policy has become a major reform issue.
US economists have called for a reduction in Japan's public
spending, especially on infrastructure projects, to reduce the
budget deficit. To force a reduction of the loan program, partially
financed through postal savings, then-Prime Minister Junichiro
Koizumi aimed to push forward postal privatization. The postal
deposits, by far the largest deposits of any bank in the world,
would help strengthening the private banking sector instead.

Case Study 2 – Great Britain

The first official confirmation that the UK is in recession came on

Friday after figures from the Office for National Statistics showed
gross domestic product fell 1.5pc in the final quarter of 2008.
That followed a 0.6pc contraction in the third quarter and two
quarters of contraction means we're are technically in recession
is here. The number was significantly worse than the 1.2pc
expected by economists, and is the biggest three-month GDP fall
since the second quarter of 1980 when it shrank by 1.8pc. That
means U.K. is already in a recession deeper than that of the early
1990s, when the most the economy shrank in a single quarter
was 1.2pc.
How long this recession stays, and whether it overtakes the
1980s in terms of depth, is less certain. The news that they are a
nation in recession will come as no surprise, but it will do nothing
to quash the uncertainty that is feeding economic decline.
Commenting on the figures, Stephen Gifford, Grant Thornton's
chief economist, said: "The sheer fall in GDP is staggering.
Financial meltdown has probably been averted but the economy
has now entered a recession which is sure to be as bad as the
early 80s."
There are mixed views on how severe the recession will be, and
the goal-posts seem to be shifting on a weekly basis as retailers

go to the wall, company profits plunge, unemployment rises, and
the housing market stands stubbornly still.
Ultimately a crisis that began in the US banking sector and is
characterised by a credit squeeze has filtered through to the
broader UK economy, which contracted 1% between September
and November, the National Institute of Economic and Social
Research (NIESR) has estimated.
This fall followed after a 0.8% drop in the three months to the end
of October, said the think tank.
Indicating that the rate of output decline is "accelerating", the
NIESR now expects a fall of more than 1% in the last three
months of the year. Official data showed that the economy shrank
0.5% from July to September. But it will not be until January that
the Office for National Statistics reports on the final quarter's
GDP. If it reports a decline for the three months to December,
then the UK will be in officially in recession under the generally
accepted definition of two consecutive quarters of decline.
The NIESR says it has a good track record in forecasting GDP
growth in advance of the official figures.

Economic prospects

Despite his revised forecast, Mr Darling has taken a more

optimistic view of the UK economy than many independent
He is expecting the UK economy to recover to a growth rate of
1.5% to 2% by 2010, and to return to its normal growth rate of
2.75% in subsequent years. "Because of the wide-ranging
measures I am announcing today, and the many strengths of the
British economy, I am confident that the slowdown will be
shallower and shorter than would have been the case," Mr
Darling said. But other forecasts suggest that the economic
recovery will not begin until well into 2010, and that the economy
could shrink by as much as 2% next year. If the world economic
recovery is indeed delayed, then even the grim budget forecasts
made by the chancellor could be too optimistic.
Some economists argue that if Mr Darling's stimulus is not
enough to turn around the economy, he will need a further
stimulus package in the Budget.
"The economy still faces powerful contractionary forces in the
shape of widespread recession abroad, and at home falling house
prices and stock markets, blunted monetary policy as banks
constrain lending and rock-bottom business and consumer
confidence," says Andrew Smith, chief economist at KPMG.
"If this package fails to kick-start the economy, further
expansionary measures can be expected in next year's budget

Fiscal squeeze
The government is also planning a sharp cut in the rate of growth
in public spending over the next few years. Public spending is
now expected to grow by just 1.2% per year, less than the growth
rate of the economy as a whole, and a sharp decrease from the
1.8% previously planned. This compares to an annual growth in
public spending of around 3% under the previous Labour
government. In addition, the government has pencilled in £5bn in
efficiency savings by 2011. This spending slowdown is part of the
plan to bring the public finances back into balance by 2015. But it
will not be enough on its own.

Tax rises
The government is also going to implement a very large shift in
the tax burden in years to come. Compared to tax giveaways of
£19bn this year, the government is expecting to raise taxes by
£20bn in four years' time. The largest slice of tax increases will
come from the 0.5% increase in National Insurance contributions,
which will raise £4.7bn. Taxes on the rich, including the 45%
higher rate and restrictions on personal allowances, will add £2bn
in tax revenues. And, if growth is slower than predicted, there
may have to be other tax increases in the pipeline.

Case Study 3 – Vietnam

Overview of Vietnam’s Economy

• Vietnam’s economy has been bogged down in difficulties
since early this year
• Many economic sectors are slowing down
• Causing production stagnancy
• Economic growth has slowed from 8.8% last year to 6.5% in
the third quarter of this year
• The market’s consumption power has declined since the
start of the year. According to Nielson Global Online
Consumer Survey, a global ealding company, showing that
Vietnam’s confidence declined nine points to 97 points
during last four months.
• In 2009, the gov expects the growth to be from 6.0 to 6.5%
• Due to ramping inflation
• The main causes were rigid monetary policies and public
investment ineffectiveness

Status of Vietnam’s Economy

• Vietnam's economy grew by 8.5% last year, but the target
for this year and next has been scaled back to about 6.5%
as the economy has been battered by a widening trade
deficit and double-digit inflation.
• According to IMF, Vietnam's economic growth will drop to
five per cent next year while the government grapples with
a large current-account deficit and weak banking and
corporate sectors.
• Vietnam has announced a stimulus plan worth more than $1
billion to avoid recession as the global economic crisis bites
into its export-led economy
• Prime Minister Nguyen Tan Dung approved a number of
measures to boost production, investment and consumer
spending at a monthly cabinet meeting Tuesday
• Dung said the stimulus would fund public works projects,
including a large irrigation canal in the northern Red River
delta, and help finance rice storage depots for about one
million tons of grain in major farming areas.

A package of measures applied to combat the economic

slowdown and cushion the impact of the global financial crisis
• Measures outlined by PM at a gov meeting last week
– Revving up stagnant domestic production and exports
– Fuelling weakening consumption power,
– Applying flexible monetary and financial policies
– Ensuring social security,
– Care for the poor and speeding up administrative

Actions Taken by MoF & Central Bank

• Draw up proposals on tax cuts,
• Tax exemption
• Delay of tax levies for enterprises
• Further rate cuts and assistance
• Funds

Corporate Income tax cut

• Bringing the corporate income tax dwon from 18 to 25%
• Cutting corporate income tax by 30% for small & medium
sized enterprises
• Postponing the implementation of the personal income Tax
Law to July 2009
• Reducing the basic interest rate from 11 to 10%
The Government’s report, presented by Standing Deputy Prime
Minister Nguyen Sinh Hung at the opening day of the fifth session
of the 12th National Assembly which began on May 20, 2009
outlined main developments of the economy in the first months,
and worked out key solutions to preventing an economic
slowdown, setting it a leading target in the upcoming time.
The report, under the theme “Actively preventing economic
slowdown, stabilizing the macro economy, maintaining
reasonable and sustainable economic growth, ensuring social
welfare”, provides vivid figures which are evidence of the
efficiency of the policies issued by the Party and State, and the
efforts of all levels, sectors, enterprises and the whole people.

Positive changes

According to the report, the country has realized three basic
targets of the 2008 plan, including curbing inflation and
stabilizing the macro economy, continuing to maintain economic
growth and ensure social welfare.
The Government assesses that in the first months of 2009,
despite many difficulties, the economy has seen positive
development and shows signs of recovering from the most
difficult period. “The situation has created conditions and the
ability to achieve better results in the upcoming time,” the report
The positive change in the first quarter was shown in industrial
production increasing by 2.1%, and GDP increasing by 3.1%
compared to the same period last year. The first quarter also saw
the registration of 15,000 new enterprises, a year-on-year
increase of some 22%.
“The Government has strictly followed the situation, promptly
asked for advice from the Politburo, the Party Central Committee
and the National Assembly Standing Committee, in order to issue
synchronous policies and solutions to realize the 2009 targets,
and focusing on drastic measures to bring the economy out of
crisis and better people’s lives,” Deputy Prime Minister Nguyen
Sinh Hung said.
However, the Government noted that the global economic and
financial crisis was still continuing in complexity, and affecting
Vietnam’s economy. “Our difficulties remaining are large,” the
Deputy Prime Minister said. “We cannot be optimistic with results
achieved over the past several months.”

Key management
The Government announced five key management directions to
prevent economic slowdown, maintain growth, and ensure social
welfare. They focus on efficiently realizing stimulus and
consumption packages, preventing economic slowdown, restoring
reasonable growth; increasing production and business,
expanding the domestic market and developing the export
market; shifting the tightening financial and monetary policies to
active, cautious and flexible financial and monetary policies, in
order to stimulate the growth and prevent inflation.
The Government will also remain concerned about people’s lives,
with an increase in job creation and poverty reduction; and
followed with manageable situations that will create a consensus
among society to successfully realize the 2009 targets.

Some main targets adjusted

To implement well key tasks, the Government asked the NA to
prioritize the four main issues. Firstly, the NA was suggested to
decide that the urgent and key task for the 2009 socio-economic
development plan was to mobilize all efforts to prevent an
economic slowdown, maintain the sustainable and reasonable
economic growth, keep the stability of the macro economy,
prevent inflation, ensure social welfare, national defence and
security, maintain political stability and social order, in which,
preventing an economic slowdown should be considered the
leading prioritized task.
Secondly, the Government suggested that the NA should adjust
GDP growth target for 2009 from 6.5% to 5%.
Thirdly, it proposed the issuing of an additional VND 20 trillion in
Governmental bonds, the amendment of some tax policies, under
the jurisdiction of the NA, and some other policies regarding
construction investment and bidding.
Fourthly, based on targets and basic policies, the Government
suggested the NA entrust the NA Standing Committee and the
Government in actively and flexibly operating the policies and

Future Landscape of Vietnam’s Economy

Officials from international agencies including the World Bank,
EuroCham, AmCham, AusCham…all agreed that Vietnam is facing
the toughest-ever challenges and worsening business outlook.
“Vietnam has faced the toughest-ever challenges such as high
inflation, hefty trade deficit, fluctuations in forex rates and the
slumping stock market,” Martin Rama, the World Bank’s Country
Director in Vietnam told the Vietnam Business Forum held Dec 1
on threshold of the Consultative Groups of Donors’ Meeting.
Speaking about the global gloomy outlook, Thomas O’Dore,
chairman of the American Chamber of Commerce (AmCham) said
Vietnam’s economy will be facing with similar problems as
exports, which account for more than half of its GDP value, are
declining due to shrinking purchasing power in the U.S., EU and
Vietnam should boost productivity and cut production costs, and
the government of Vietnam should create favorable conditions for
exporters to borrow loans with appropriate interest rates, Alain
Cany, chairman of EuroCham proposed. Officials at the VBF
proposed the government of Vietnam further boost reforms in
infrastructure developments, intellectual property rights, courts

systems, efficiency of the public administration and high-quality
human resources.

Case Study 4 – United States of America

The United States housing market correction (a possible

consequence of United States housing bubbles) and subprime
mortgage crisis has significantly contributed to a recession. Apart
from that US faced major crisis because of -
• Rising oil prices at $100 a barrel
• Global Inflation
• High unemployment rates
• A declining dollar value
All this slowed down the growth of the economy and as the GDP
growth rate fell to 2%, recession set in.
The 2008/2009 recession is seeing private consumption fall for
the first time in nearly 20 years. This indicates the depth and
severity of the current recession. With consumer confidence so
low, recovery will take a long time. Consumers in the U.S. have
been hard hit by the current recession, with the value of their
houses dropping and their pension savings decimated on the
stock market. Not only have consumers watched their wealth
being eroded – they are now fearing for their jobs as
unemployment rises.
U.S. employers shed 63,000 jobs in February 2008, the most in
five years. Former Federal Reserve chairman Alan Greenspan said
on April 6, 2008 that "There is more than a 50 percent chance the
United States could go into recession." On October 1, the Bureau
of Economic Analysis reported that an additional 156,000 jobs
had been lost in September. On April 29, 2008, nine US states
were declared by Moody's to be in a recession. In November 2008
Employers eliminated 533,000 jobs, the largest single month loss
in 34 years. For 2008, an estimated 2.6 million U.S. jobs were
The unemployment rate of US grew to 8.5 percent in March 2009,
and there have been 5.1 million job losses till March 2009 since
the recession began in December 2007. That is about five million
more people unemployed compared to just a year ago. This has
become largest annual jump in the number of unemployed
persons since the 1940’s.
Although the US Economy grew in the first quarter by 1%, by
June 2008 some analysts stated that due to a protracted credit
crisis and "rampant inflation in commodities such as oil, food and
steel", the country was nonetheless in a recession. The third
quarter of 2008 brought on a GDP retraction of 0.5% the biggest
decline since 2001. The 6.4% decline in spending during Q3 on
non-durable goods, like clothing and food, was the largest since
A Nov 17, 2008 report from the Federal Reserve Bank of
Philadelphia based on the survey of 51 forecasters, suggested
that the recession started in April 2008 and will last 14 months.
They project real GDP declining at an annual rate of 2.9% in the
fourth quarter and 1.1% in the first quarter of 2009. These
forecasts represent significant downward revisions from the
forecasts of three months ago.
A December 1, 2008, report from the National Bureau of
Economic Research stated that the U.S. has been in a recession
since December 2007 (when economic activity peaked), based on
a number of measures including job losses, declines in personal
income, and declines in real GDP.
Recent economy slowdown as we all know started in U.S. last
year in October & initially it was concentrated on U.S. economy
only but as expected & as experts forecasted that it is going to
affect whole world & it did. So now let`s examine some facts &
figure related.
The US Economy has seen an unprecedented growth over the last
decade, which accelerated to over 4% per year over the last four
years. The year 2000 saw this growth at an all-time high of 5.1% -
a figure that is staggering in enormity when one considers that a
1% growth in the US economy is comparable to an 8% growth in
the Chinese Economy. Further, 33% of the global growth is linked
either directly or indirectly to the US economy. With this in mind,
it was a common belief that the American honeymoon would
never end. It was the Industrial Revolution all over again - with
increasing productivity levels, happy days were here to stay. This
growth however, had - and continues to have - a flip side - serious

imbalances are present in the US economy, indicated by the
following factors. A huge current account deficit at US $500billion
- over 5% of the GDP. So far, the current account imbalance,
which has been quite high over the last 4-5 years, has mainly
been sustained by capital inflows from Euroland to the US.
European investors had great confidence in the ability of
American companies to earn greater profits in the future by way
of increases in productivity allegedly taking place in the US
Economy. How much of this perceived productivity increase is
true of all or most of corporate America and not just IT firms is,
however, debatable; extremely high Private Sector borrowing;
gross over-valuation of the asset market and· the fact that the
American consumer, leveraging on notional wealth, is borrowing
more and more, to spend, resulting in a national dis-saving.
Consumption expenditure far outstrips disposable income. It has
been argued that domestic consumption was buoyant on the
basis of strong equity markets and although some of these have
also been corrected more recently, the risks are a currency
collapse or something going wrong in the equity market, thus
rendering the whole system vulnerable.
Of disturbing significance is the fact that each of the above
mentioned factors of imbalance has preceded other recessions of
the past. In fact, the situation today is a close replication of 1998.
Then, the Federal Reserve reduced the interest rates by 75 basis
points, thereby reviving the markets. With dot coms and software
successes waiting to happen, a huge boom took place and
consumption spending came back with a bang. 1998 was a
classic example of the 'markets driving the economy' syndrome,
which continues to be the norm.
What remains to be seen is whether the gamble will pay off this
time around. The soft landing will be brilliant for global markets
and for global economies. On the other hand, however, if Alan
Greenspan, Chairman, Federal Reserve, is not able to revive the
market with interest rate cuts, the current account deficit will
further increase, leading to investors shying off potentially "risky"
US assets. All of this can only result in much larger dis-equilibrium
- and subsequently, a much larger recession, therefore, than what
we are seeing today. It is, however, too early to predict the final
outcome. The current probability of soft vs a hard landing is 2:1.
One can also take heart in the fact that a global recession, which
would be the result of a hard landing of the US Economy, has not
happened in the last 50 years - not even during the 1973 oil
crisis. The most likely possibility, therefore, is a growth recession
or reduction. The after effects will be manifold with over 33% of
global growth linked either directly or indirectly to the US
economy, there is a disproportionate global dependence on the
US Economy. Turmoil in the US, in turn, therefore, causes a
substantial ripple effect on a number of global economies.
So now after having a closer look on U.S. economy we examine
we examine its effects on other parts of globe. ASIA Japan would
be the worst hit, so to say. Before the Euro, everything moved in
linear correlation to the US Dollar. If the US Dollar strengthened,
the deutsche Mark weakened, as did the yen. This time, however,
a fundamental change was witnessed - the Euro strengthened
and the Yen weakened. The Yen, which has come down by 12% in
the last 4 months, seems to be the only currency taking a beating
despite the slowdown in the US economy. The Japanese have
tried everything in the book to revive and stimulate the economy
to its previous glory but to no avail. The Nikkei, which used to be
40,000 at one time, is about 13,000-15,000 now. Further, retail
sales in Japan have been coming down for a straight 44 months.
Japanese exporters talking down their currency has not helped.
The biggest irony is that corporate Japan is doing well but this has
not reflected anywhere in stock market prices, which are once
again down to levels where a number of banks are facing capital
inadequacy problems. If exports to the US decline as a result of
the slowdown and Japan continues with a weak Yen policy, it will
result in some more and graver imbalances. All banks have huge
equity portfolios and anytime the market goes up a little, they
start dumping these and the market comes down. The worrisome
factor is that the banks are now all unsure about investing money
in Japan.
On the other hand, Japanese corporates have huge holdings in
the west, but prefer to leave most of their earnings in US Dollars
and the Euro. Toyota, for example, has just decided to do so with
US$ 26 billion of their earnings. The logic really is that since most
Japanese companies remit their profits to Japan in March, they
would end up remitting more Yen in the current scenario. If more
and more companies begin to do this, the Yen would weaken even
more.Other Asian economies, like Malaysia, Taiwan (where chip
manufacturing companies are already running lower at 85%
capacity), Hong Kong and Singapore would feel the ripple effect
far more than others. In other parts of the world, Canada, Mexico
and Brazil are most certainly way more vulnerable than any other
EUROLAND Sunnier days are ahead as far as the Euro is
concerned as all factors determining the Euro - interest
differentials, oil prices and relative productivities are favourable
to the currency. A 10-year Euro bond today yields about 4.65% as
compared to 5.15% by a 10-year US Treasury bond. This spread is
going to narrow down a bit further with further expected cuts.

The falling oil prices, lower-than-expected productivity levels of
American companies and the fact that oil producing and oil
revenue earning countries have invested in US dollar
denominated assets traditionally and will continue to do so, are
all factors that are Euro positive. According to the experts a base
will be formed around the Euro at 92-93, where it will see a brief
honeymoon. It is, however, too early to predict where it will go
thereafter. What remains clear, however, is that if the US
economy does not revive, more money will flow into Euroland or
else, the Euro will continue to gravitate around these levels.
So these are the after effects of U.S. slowdown on Asia & Europe
the other two most important parts of the world now we can shift
our attention to our own country the India. INDIA It is far too
presumptuous to think that India is going to be hugely and
adversely affected by the US economy slowdown. At 0.6%, India's
share of the global trade is too tiny for this. At the same time,
however, one must always bear in mind the far-reaching impact
of globalisation, which has, in turn, led to the interdependence of
economies, particularly where the US is concerned. 25% of India's
IT exports, for example, are to the US. The value of the Rupee,
however, as far as interest rates are concerned, would depend on
fund flow and valuation dynamics and the Reserve Bank of India's
policy towards this. In the end count, the Rupee still moves the
way the Central Bank wants it to - we are still a closed economy
to that extent. And the RBI tracks currencies other than the US
Dollar - the Euro, Yen, RMB, as also a few other competitor
currencies, whilst deciding the fate of the Rupee.
The wild cards, in this entire play of currency management is the
weakness of the Yen and the RMB. Any significant weakening in
either of these currencies could very well have a domino effect
across the entire region, including India and the Indian currency,
the Rupee. The RMB is closely linked to the US dollar - the latter's
fortunes really determine what the RMB will do. The dollar
weakening against the Euro and other currencies is a huge
breather as far as Chinese exports are concerned. If, however,
the dollar starts appreciating, then the Chinese will want to
kickstart their economy through a possible RMB devaluation. It is
critical to remember, therefore, that despite the over Rs 3,000
crore of investments that came into the Indian market in the first
20 days of January, 2001, (partly, some feel, because of a certain
perceived under-valuation of the Indian markets and the not so
high 'risk', and partly because interest rates have been cut in the
US), there is always a possibility of something going wrong
externally that could affect the Rupee. In the end count: A
decrease in exports as a result of the US Economy slowdown will
be certainly negative from the Indian standpoint but the decrease
in oil prices (from a peak of $35 a barrel to $20-$22) will be
positive for the Indian Rupee and the funds flow, given the US
interest rate cuts, would be positive.
However, the FDI track record will continue to be shoddy, so the
effect would be neutral. The amazing growth of frontline IT
companies at 55-60% is a thing of the past. The global slowdown
will definitely affect these companies. What inevitably needs to
change is to shift our exports focus from being US-centric to
newer markets. The Reserve Bank, however, is far more
concerned with the slowdown in growth rather than inflation,
which will be counter-balanced by the lower oil import bill. Its
focus will, therefore, be on re-igniting the 'feel-good' factor in
order to stimulate consumer spending patterns as a function of
their aggregate net worth rather than disposable income.
Measures to this effect must be set in motion at the earliest, as

2001 is the only year when any fundamental policy changes can
be made. 2002 will be too close to the general elections.
So now we examine why U.S. slowdown is affecting us with
reasons: Firstly the United States is India's largest trade partner,
source of foreign direct investment and external job opportunities
for the Indian middle class. Any slowing of the US economy is
likely to hurt India more today than at any time in the past. The
fact is that the US is not only India's largest trade partner, but
that India has the highest trade surplus with the US and any
slowdown in Indian exports to the US is likely to have a larger
impact on the trade deficit than a slowdown in trade with
European Union or developing Asia. India's trade with the EU and
non-Opec developing Asia, our other two major trade partners, is
more or less balanced with exports to these markets equal to
imports from them. Our huge trade deficit with Opec countries is
largely balanced by the trade surplus we enjoy with the United
States. Recently published data shows that India's trade surplus
with the US has actually increased since India's exports to the US
have continued to grow, while its imports from the US have
declined. Indian exports to the US have been mainly in the area
of consumer durables and these have grown, with the recent
growth of the US economy. Thus, while in the first quarter of
2000-01, Indian exports to the US went up by 26 per cent,
imports from it were down by 18 per cent. This trade data does
not include software exports. The software segment is another
main area of concern. The US has emerged as the biggest market
for Indian software exports. A slowdown of the US economy will
hurt the "new economy" in India since it is still largely export-
dependent and has not yet found a domestic market large
enough to offset any loss in the external market. But analysts and
software CEOs argue that in a slowing economy, jobs are cut and
companies invest in automation, so that the demand for software
services and for IT products is likely to increase as the economy
slows down.
Also, many US firms may offload work to lower-cost countries like
India, especially in the area of data-processing and office
management work, and that this is likely to increase the demand
for new economy services in India rather than hurt them. On the
negative side is the concern that firms tend to put on hold
expansion plans and investment in new projects when there is a
fear of a generalised slow down. This is likely to hurt demand for
Indian IT services and products. The final outcome may be a
combination of both factors. But one must realise that most of
the companies who service the lower rung areas of maintenance
etc., will not really stand to loose. They may face a squeeze on
their margins but the business will continue.
Another area which will be impacted, will be the capital markets.
Today the world markets dance to NASDAQ’s tune. Dr Huang, who
has spend 20 years in US and Taiwan, China, to develop and
implement a method to track accurately daily financial markets,
said at an investment forum early last year that NASDAQ was
overheated, would face a correction upto 2800-3000 and the
Dow, he stated, would be back to 9600. and global markets would
follow US for 20 % correction. His logic was that there is never a
bull market before economic softlanding. The bulls must take 20
% or more correction and consolidation reflecting economic
slowdown impact on consumer demand and corporate earning
decline. Bull markets, according to him, exist under expanding
monetary policy. Expectations of higher profits resulted in an
unbelievable rally in the equity markets over the last five years.
NASDAQ, the technology stock heavy index, rallied from the start
of 1995 and increased by a whooping 5.8 times till March last
year. Capital market rally resulted in the `wealth effect', which
further fueled the economy. Americans saw their investments in
equity markets growing dramatically in value.
However with this wealth effect wearing off and the risk
consciousness rising, we will see a lower deployment of funds to
the world equity markets, which are also in a slump at the
moment. For the Indian markets, the impact is two fold - firstly,
lower funds coming into the market through the FII route and
secondly, companies who had planned NASDAQ listings etc. have
had to put their plans on hold and this will delay their funds
inflow as well as growth plans. So, we in India, will definitely need
to be prepared for some fall out on the slowdown in the US
economy and fine tune our corporate and export strategies as the
picture develops. So here comes the real picture lets now move
our focus to reports published by IMF about this situation last
year when the International Monetary Fund issued its half-yearly
report, the world, in the words of one its leading officials,
appeared to be a much “safer place.” Growth was continuing in
the United States, the European economy was expanding, East
Asia was recovering from the crisis of 1997-98 and there were
even signs that a Japanese “recovery” might finally get under
The picture presented in the latest World Economic Outlook
released is very different. Apart from cutting the world growth
forecast by 1 percentage point, the main feature of the report is
the uncertainty over the future course of the global economy and
the warnings that, notwithstanding the hopes that the situation
could quickly turn around, it could also worsen quite rapidly. In his
press conference releasing the report, IMF director of research
Michael Mussa pointed out that last September in Prague world
growth for 2001 was predicted to be 4.2 percent. This has been
revised down to 3.2 percent. It is clear, he said, that “global
growth is slowing more than was anticipated, or is desirable.”
“For the United States, which has been the mainstay of global
expansion in the past decade, growth this year is forecast to be
only 1.5 percent, down from almost 5 percent last year and from
an earlier forecast of over 3 percent for this year.” The projection
for the year 2002 has been reduced to 2.5 percent, at least one
percentage point below the estimated potential growth rate for
the US economy. In the euro-zone, the IMF estimates the growth
rate will be 2.4 percent, a full percentage below what it forecast
last September. Mussa said the situation in Japan was “even more
worrying” with growth for this year forecast to be barely over 0.5
percent and growth for next year expected to reach only 1.5
percent. Asia will be hit by the slowdown in North America and
Japan and by the global downturn in telecommunications and
high technology with estimates for growth coming in at between
1 and 3 percentage points less than six months ago. Mussa,
however, did not confine his remarks to the details of the report
but delivered a stinging rebuke to the European Central Bank and
its refusal to cut interest rates, following rate cuts in the US and
Japan. After noting that the euro area was not contributing
sufficiently to world economic demand, Mussa continued: “In a
period when general economic slowdown is the main problem
and when inflation is not likely to be a continuing threat, the euro
area, the second largest economic area in the world, needs to
become part of the solution rather than part of the problem of
slowing down world growth.”
Mussa took the opportunity to deliver another broadside when
taking questions from journalists on the briefing. Asked to
comment on whether calls on the ECB to cut interest rates by the
managing director of the IMF and the US treasury secretary could
be regarded as “interference” Mussa replied: “Here in the IMF we
don't call that interference. We call it surveillance. And it is
mandated by the Articles of Agreement.” Global recession In
delivering its pronouncements, and particularly in setting out
policy prescriptions for countries that are considered not to have
measured up, the IMF strives to create the impression that it is
fully in command of the situation, with a deep understanding of
the processes taking place in the global economy. But it seems
the impression is starting to wear a little thin—even among
financial journalists who can usually be relied upon to echo its
analysis without asking too many questions. As one journalist
pointedly commented: “Mr Mussa, it seems that yourself and Wall
Street and every economist has been caught by surprise by this
slowdown. In the last WEO you said the prospects were the best
in a decade. Now you say we'll avoid recession. Given the
situation is so fluid, how can you be so certain that we won't
actually dip into a US recession and possibly a global recession?”
Mussa replied that there was “no certainty in this business” and
offered the reassurance that policy in most countries, which had
policy flexibility, had been adjusted “promptly and reasonably
aggressively to the threat that things might be even somewhat
worse than we have allowed for in the baseline.” The WEO report
itself claims there is a “reasonable prospect that the slowdown
will be short-lived” but warns that “the outlook remains subject to
considerable uncertainty and a deeper and more prolonged
downturn is clearly possible.”
So far, it notes, the effects of the global slowdown have been
most visible in countries which have close trade ties with the US,
including Canada, Mexico, and East Asia. The outlook for the rest
of the year “will depend on how deep and prolonged the
slowdown in the United States proves to be”—an issue which
“remains subject to considerable uncertainty.” The WEO says its
baseline scenario is that the US economy will pick up in the
second half of the year, growth will remain strong in Europe,
while recovery in the Japanese economy will resume in 2002. But
it adds that while this scenario is “plausible” it is far from
“assured” and the “risks of a less favourable outcome are clearly
significant.” One of those risks, it states, is that the “virtuous
‘new economy' circle of rising productivity, rising stock prices,
increased access to funding, and rising technology investment
that contributed to the strong growth in the 1990s could go into
reverse.” Even this is a somewhat optimistic assessment, given
that most observers of the US economy have concluded that,
whatever the immediate outcome of the present downturn,
overcapacity in all sections of industry—and above all in high-
tech investment—means that there is no prospect of the boom of
the latter 1990s returning. The report notes that if the slowdown
does prove to be deeper and more prolonged than anticipated
“this would pose several interlinked risks for the global outlook
that would significantly increase the chance of a more
synchronised and self-reinforcing downturn developing.”
Among those risks is the possibility that what the report calls
“apparent misalignments among the major currencies” could
“unwind in a disorderly fashion.” It points out that current
account deficits of the size presently experienced by the US—
more than $430 billion, equivalent to around 4.5 percent of gross
domestic product—have not been sustained for long and that
“adjustment is generally accompanied by a significant
depreciation [of the currency].” If there were increased economic
growth in Europe and Japan, then it would be possible to reduce
the US imbalances in a “relatively manageable and nondisruptive
fashion.” “However, in an environment where US growth slows
sharply, the portfolio and investment flows that have been
directly financing the US current account deficit could adjust
more abruptly.” In other words, there could be a rapid movement
of capital out of the US and a sharp fall in the value of the dollar.
“This would heighten the risk of a more rapid and disorderly
adjustment, possibly accompanied by financial market turbulence
in both mature and emerging markets. Large swings in exchange
rates could also limit the room for policy manoeuvre.” That is to
say, according to the IMF's latest forecasts, there could arise a
situation in which the US dollar starts to fall and financial markets
are hit by a crisis, under conditions of a deepening slump. The
fact that such a possibility is even being canvassed is a measure
of how far and how fast the world economic situation has moved
in the past six months. So here IMF also clearly specifies the
picture of global slowdown. Lets move to the perception of IMF
about Indian economy.
The US consumer price index inflation is expected to fall to a rate
of 2.4 per cent by end-2001. Both producer and consumer prices
continue to decline in Japan, where consumer prices have fallen
at a rate of 0.6 per cent (annual rate) and a similar decline is
expected for the year as a whole. The decline in asset prices, in
particular, the real estate prices, has generated new gaps in the
adequacy of collateral for bank debts. The decline in growth of
the global economy has been caused by a combination of global
and country-specific factors. One universal cause has been the
persistent rise in the energy prices during 1999-2000. Another
key factor to the reduction in growth has been the sharp and
sudden downturn in hi-tech investment in the second half of
2000. This weakened growth, notably in the US and Europe, while
brutally reducing the export performance of many Asian
countries. This pervasive setback has contributed to the
weakness of manufacturing sector in virtually every industrial
country and driven many Asian economies, including Singapore,
into recession. Particular mention must be made of the rise and
fall of demand for hi-tech equipment. In the US, the output of hi-
tech equipment accelerated at an annual growth rate to 70 per
cent in early 2000, before collapsing. The crisis worsened
because not only was demand falling but the unit price
equipment in the hi- tech sector also collapsed. US investment
spending was sharply reduced, particularly on hi-tech equipment.
The unexpected decline in the demand for hi-tech investment
goods undermined stock prices, reversing the earlier surge in the
value of new economy stocks. One other factor responsible for
straining the earlier growth and subsequent slowdown in the US
has been the tightening of monetary policy. While the tightened
monetary policy did help control inflation, it also contributed to
subsequent economic slowdown.
Both US and Japanese policy-makers have made it clear that they
are prepared to accept a weak yen if that is the result of market
reactions. The devaluation of the yen will not be without impact
on other currencies. It is quite possible that China may react with
the devaluation of yuan, which may well force the various Asia-
specific countries to follow suit. This will have serious
repercussions on the world economy. Incidentally, the fact that oil
prices will remain high indicates further fiscal tightening for the
Government. The oil pool deficit will grow higher. Unpleasant
decisions, which will have serious political repercussions, cannot
be delayed. The sooner they are taken, however, the better it will
be for fiscal health. The Finance Minister and the Prime Minister
have yet another difficult challenge to meet. The decline in the
world's major economies has its repercussions, unpleasant ones,
on India's economy, in particular on its export prospects. The
Government has to take note of this trend and be ready to handle
the adverse consequences of a continuing global economic
slowdown. It cannot be `business as usual'.

Case Study 5 – India

Impact on India of Slowdown

A slowdown in the US economy is bad news for India because:
• Indian companies have major outsourcing deals from the US
• India's exports to the US have also grown substantially over
the years.
• Indian companies with big tickets deals in the US are seeing
their profit margins shrinking.

Anatomy of the economic depression in India

➢ Share Market
• More people have sold the shares in the Indian share
market than they bought in the recent weeks. This has
added to the fall of sensex to lower points.
• Foreign investors have pulled out from stock markets
leading to heavy losses in stocks and mutual funds
• Stock broking houses are laying-off people
• Because of such uncertainty many people have started
saving money in banks rather than investing

➢ IT and Real Estate Sector
• The key challenges faced by the industry now are inflation
and the psychological impact of the US crisis, leading the
companies to hit the panic button.
• Bonuses, perks, lavish parties, and many other benefits
are missing as companies look to cut cost.
• India's IT export growth is also slowing down
• One of the casualties this time are real estate, where
building projects are half-done all over the country and in
this tight liquidity situation developers find it difficult to
raise finances.
➢ Layoffs and Unemployment
• Hundreds of workers have lost jobs in diamond jewellery,
textiles and leather industry.
• Companies in IT industry have stopped hiring and
projected lower manpower need.
• Firms attached to the capital market are laying off people
and large companies are putting their future expansion
plans on hold.
➢ Industrial sector
• Government and other private companies are reluctant in
starting new ventures and starting new projects.
• Projects that are halfway to completion, or companies
that are stuck with cash flow issues on businesses that
are yet to reach break even, will run out of cash.
• Car, bike & truck sales down

• Steel plants are cutting production
• Hospitality and airlines are hit by poor demand

On this issue Mr. Manmohan Singh suggested –

“A coordinated fiscal stimulus by countries that are in a
position to do so would help to mitigate the severity and
duration of the recession”
“It would also send a strong signal to investors around the
world. Resort to fiscal stimulus may be viewed as risky in some
situations, but if we are indeed on the brink of the worst
downturn since the Great Depression (of the 1930’s), the risk
may be worth taking.”

Corrective Steps to Check Recession

• RBI needs to neutralise the outflow of FII money by
unwinding the market stabilisation securities that it had
used to sterilise the inflows when they happened.
• This will mean drawing down the dollar reserves which is
important at this hour.
• In the IT sector, there should be correction in salary offerings
rather than job cutting
• Public should spend wisely and save more
• Taxes including excise duty and custom duty should be
reduced to lighten the adverse effect of economic crunch on
various industries

• In real estate the builders should drop prices, so as to bring
buyers back into the market.
• Also, the government should try and improve liquidity, while
CRR and SLR must be cut further
• Indian Companies have to adopt a multi-pronged strategy,
which includes diversification of the export markets,
improving internal efficiencies to maintain cost
competitiveness in a tight export market situation

Opportunities in India due to recession

• US recession may be a boon for Indian offshore software
• The impact of recession is higher to small and medium sized
(SMEs) enterprises whose bottom lines get squeezed due to
lack of spending by consumers
• SMEs in the US are under severe pressure to increase
profitability and business margins to survive. This will force
them to outsource and even have M&A arrangements with
Indian firms.
• India is going to be a great beneficiary of this trend which
will minimize the impact of the US recession on Indian
• By March 2008, India had received SME outsourcing deals
worth $7 billion from the US as against $6.2 billion in the
previous year

A Ray Of Hope
Experts see a ray of hope in the fiscal stimulus I package of Rs
10,000 crore which is expected to boost demand for the capital
goods sector and the infrastructure industries which primarily
include power, cement, coal, crude oil and petroleum.
India’s growth is based essentially on investing its own savings,
and so is relatively insulated from global finance and fashions.
India’s savings rate has shot up from 23.5% in 2001-02 to 37.4%
today, a phenomenal achievement.
High savings constitute a structural change that is here to stay.
This will suffice to finance an investment rate of at least 36% of
GDP. So, given that output in India rises at roughly a quarter the
rate of investment, a realistic GDP growth of 9% should be
If the world economy recovers in the next six months, a 7%
growth looks feasible. This will mean little deceleration from the
current year and hence, little additional pain. This scenario
depends on a resumption of global growth early in the next fiscal
Assocham President, S. Jindal hopes that money will flow into the
system to support the projects that have been put on hold.
The Prime Minster who holds the Finance portfolio also, is
confident that the country will be able to maintain the growth
rate around 8 percent in the current fiscal. The most pessimistic
estimates put it at 7 percent.
It is important now is that the industry and other sectors of
economy respond to government initiatives in full measure and
pass on the benefit of price cuts to the consumers. They need to
realize that in the current global crisis when international demand
is shrinking, it is only the domestic demand that can keep the
business going.
Fortunately, India with its 1.1 billion population has a huge
potential of keeping demand afloat. All they need is the
purchasing power which the Government is trying to do by
pumping in funds into the system.
A silver lining has been the consistently falling inflation rate
which has now come down to around 6 percent. With the fall in
petrol and diesel prices, the general price line is bound to fall
further as petrol prices constitute an important ingredient of
transport costs. We may thus witness a more comfortable
inflation rate much too soon.
Industry sector has welcomed the measures though it expects
more to defuse the situation. FICCI described the measures as “a
good start in the right direction”.
While a number of banks have already announced lower lending
and deposit rates with effect from January 1, 2009, a further
softening in interest rates seem to be in the offing.
FICCI secretary general Amit Mitra said: “The steps should
hopefully give big boost to the slowing economy,” adding that he
expected “business confidence would be restored”.
The bond market quickly reacted to the rate cuts. The yield on
the bond dropped to 5.07%, from the previous close of 5.29%.
Industry is hoping that its lending costs, too, will drop.
Interest rates are expected to come down further with a lag as
banks will first align their deposit rates.

The funding of the purchase of buses under JNNURM would help
increase capacity utilization. This is crucial at a time when plant
shutdowns and temp layoffs are becoming routine.
The business environment of the future will be intensely
competitive. Countries will want their own interests to be
safeguarded. As tariffs tumble, non-tariff barriers will be
adopted. New consumer demands and expectations coupled with
new techniques in the market will add a new dimension. E-
commerce will unleash new possibilities. This will demand a new
mindset to eliminate wastes, delays, and avoidable transaction
costs. Effective entrepreneur-friendly institutional support will
need to be extended by the Government, business and umbrella
Experts, who earlier predicted easing of trade credit by December
2008, are now hoping that it would be achieved by June 2009.
The world economy continued to contract at a near-record pace in
December 2008, but the rate of contraction has slowed.
There was a marked improvement in the services sector, with the
Global Services Purchasing Managers Index (PMI) at 40 in
December, well above the 36.1 level it plummeted to in
November 2008.
India does not have a PMI for the services sector yet, but looking
at the global pattern, it’s very likely that in India too the rate of
contraction of services will be less than that of the manufacturing
sector. And since services account for 60% of India’s economy,
any resilience there will provide a big cushion for the downturn.


The global economy is in a tough spot, caught between sharply

slowing demand in many advanced economies and rising inflation
everywhere, notably in emerging and developing economies.
Global growth is expected to decelerate significantly in the
second half of 2008, before recovering gradually in 2009. At the
same time, rising energy and commodity prices have boosted
inflationary pressure, particularly in emerging and developing
economies. Against this background, the top priority for
policymakers is to head off rising inflationary pressure, while
keeping sight of risks to growth. In many emerging economies,
tighter monetary policy and greater fiscal restraint are required,
combined in some cases with more flexible exchange rate
management. In the major advanced economies, the case for
monetary tightening is less compelling, given that inflation
expectations and labor costs are projected to remain well
anchored while growth weakens noticeably, but inflationary
pressures need to be monitored carefully.
Now countries needed to put their energies into restoring credit
flows since economic stimulus plans would otherwise struggle to
work.Monetary policy "should be capable of taking more into
account ... the accumulation of risks that it had left a bit to one
side before." If governments adopted the right policy mix and
stimulus programmes were accompanied by the restoration of a
functioning financial system, it was possible for the world
economy to begin its recovery early next year.


• Dornbusch and Fisher – Macro Economics
Web Links
• http://crisistalk.worldbank.org/2009
• http://economictimes.indiatimes.com/archive.cmswww.scrib
• www.wikipedia.com
• www.livemint.com
• http://economictimes.indiatimes.com/articleshow/3928470.c
• http://economictimes.indiatimes.com/News/Economy/Policy/
• http://economictimes.indiatimes.com/articleshow/3929007.c
• http://economictimes.indiatimes.com/articleshow/3929043.c
• http://www.rediff.com/money/2008/dec/07bcrisis-govt-