IMF warns of threatening downward spiral as EU crisis goes critical

The first week of autumn opens with the IMF warning the US and EU to abandon its austerity measures and switch back to stimulus or face a ‘threatening downward spiral’ in the global economy.

It is probably too late anyhow. Factory orders contracted all over the world last month. The slowdown has been months in the making and will take longer to unwind, even if emergency measures can be enacted.

No political will

But the body politic shows no interest in removing austerity packages that have taken time to put together and take effect. Indeed, what we are seeing now is the first part of the intended slowdown. The gamble is that this will sort out the deficits and debts without pulling the whole house of cards down.

The IMF used to be an institution known for its tough economic packages. Think back to what it demanded in the Asian Financial Crisis a little over a decade ago. Now that its own core member countries are in trouble it is going soft.

However, there is little to suggest that backtracking on austerity now would do anything much to help, except to postpone, perhaps, the inevitable shake-out and market implosion.

Economic management is not about directing economies into a pattern of continuous expansion. It is about guiding them onto a secure and stable base and smoothing out some of the ups and downs. It is about avoiding the massive booms that produce the inevitable busts.

Global central banks have failed on the second account. They have kept the money spiggots open for too long. They should have dampened credit many years ago to prevent this bubble. It is too late to do it now.

Downward spiral

What we have coming is therefore the ‘downward spiral’ that the IMF correctly if belatedly identifies. One country Greece will go bankrupt and be unable to pay its debt. Others like Italy will follow. There will be huge contractions as one market after another takes the pain. Greek GDP is already down more than six per cent.

Germany seems singularly unwilling to bailout the Greeks for a third time, and Italy is another matter. Italy has to roll over $21 billion this week, $88 billion this month, and more than $240 billion by the end of December. It cannot be done.

The endgame in the eurozone will soon be upon us and markets are already beginning to anticipate it. September and October are going to be interesting months as financial markets will have to discount the very worse scenarios and overshoot to the downside.