Chapter II. The World Economy

In the ‘overall outlook’ section we focus on the influence of the Group of Five (G5) ‘accord’ on exchange-rate prospects, and compare the expected impact of an appreciating currency on growth prospects in Japan and Germany. The short-term forecast is then discussed in more detail in sections covering the six major economies, commodity prices and trade. In the second half of the chapter we examine economic prospects in the world economy over the next five years, focusing particularly on the outlook for current balances. In our central medium-term forecast exchange rates move sufficiently to bring about a large, if not total, reduction in the present level of trade imbalance. Our forecast for a substantial fall in the US deficit is unusual, and we examine the key issues involved as well as looking at associated changes in the Federal budget deficit. Finally, we present two simulations which represent alternative routes to removing current account disequilibrium. The first involves substantial, and as yet unannounced, fiscal reflation in Japan and Germany, which is sufficient to broadly maintain current exchange-rate parities. By contrast, a second simulation illustrates a collapse in the dollar, and the consequences of exchange-rate overshooting.