US fiscal, trade policies create risks to global economy, warns IMF

The loosening of the purse strings in Washington raises the risk of an “inflation surprise” for markets, the IMF warned

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Washington: US tax cuts and public-spending hikes are increasing risks to the global economy by boosting debt, potentially stoking inflation and pushing the dollar higher, the International Monetary Fund has warned.

Fiscal stimulus backed by the Trump administration and the Republican-controlled Congress will give a short-term boost to the US and many of its trading partners, the IMF staff said in a statement Thursday on its annual checkup of the U.S. economy. However, adding fiscal measures at a time when the economy is growing “will elevate the risks to the US and the global economy,” said the Washington-based fund.

The loosening of the purse strings in Washington raises the risk of an “inflation surprise” for markets, the IMF warned, adding a rapid rise in price pressures would force the Federal Reserve to hike interest rates faster than expected.

Meanwhile, the punitive import duties the US has imposed and threatened could harm the world economic recovery by “catalyzing a cycle of retaliatory responses” and interrupting global supply chains, the report said.

On the eve of an expected White House announcement of the list of perhaps $50 billion in Chinese goods that will be hit with 25% tariffs, IMF Managing Director Christine Lagarde said trade wars had no winners. If there is tit-for-tat retaliation from US trading partners, which they have threatened, there will be “losers on both sides,” Lagarde told reporters.

And that outcome would have a “serious” economic impact on the US and global economies, she said, including by causing inflation to accelerate.

While the direct economic impact is hard to calculate since it will depend on the size and timing of the responses, trade conflict could undermine confidence and cause businesses to hold off on investments, of which there already were signs in Europe, she said.

The fund’s economists indicated Trump’s focus on reducing trade deficits with specific countries was misplaced. Instead, trading partners should work on “securing more ambitious bilateral and plurilateral agreements on trade and investment.”

Trump came to power in part on a wave of anger over immigration and international trade perceived as undermining workers’ wages and American living standards.

And while Trump has crowed repeatedly about the strong US economy and the beneficial impact of the massive income tax cuts passed in December, the reforms have a high budgetary cost and could fuel faster inflation, the IMF said.

That, in turn, would prompt the Federal Reserve to raise interest rates more aggressively, setting off a chain of spillover effects on the global economy, and financial markets, especially emerging markets, the IMF cautioned.

Lagarde also noted that the recent US economic stimulus could increase US imports, which, along with a strengthening US dollar, would, in fact, worsen the trade and current account deficits.

The IMF projects the Fed’s preferred inflation measure will increase 2.8% this year and 2.4% next year, with a growth of 2.9% and 2.7%, slowing to 1.9% in 2020.

“The combined effect of the administration’s tax and spending policies will cause the federal government deficit to exceed 4.5% of GDP by 2019. This is nearly double what the deficit was just the years ago.” Lagarde said the time to address the deficit was when the economy was strong.