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Hitachi Research Institute

Economic Outlook

Latest economic forecasts for Japan, the U.S., Europe, and China, etc

Nov. 2007 Short and Medium-term Economic Outlook Summary

Subprime loan crisis triggers global money glut adjustment

The global boom since 2004 will be succeeded by a period of adjustment, and the possibility of a recession cannot be ruled out. The reasons behind this are adjustments in relation to three global money gluts.
The first factor is the prolongation of the U.S. subprime loan crisis. House prices in the U.S. are still high compared with appropriate levels in the past, and will not hit bottom until mid-2008 at the earliest. Although the decline in housing investment will not be that great considering the size of the economy, appraisal losses on subprime loan investments through derivatives (new financial instruments) will spread to large numbers of investors worldwide, and, as house prices fall, these losses are expected to escalate further. As a result, the credit crunch, including reluctance to lend among financial institutions, is likely to continue.
The second factor is the rapid rise in crude oil prices. Speculative money is fleeing the credit markets and finding refuge in the commodity markets. Crude oil and gold prices are rising sharply, ushering in the age of the 100-dollar barrel. Compared with at the time of the second oil crisis in 1979-80, crude oil prices are around the same level in terms of purchasing power, but as economic dependence on crude oil has fallen to approximately half of what it was, the impact on the world economy will also be around half. The question is how long prices will stay at this level, the likely answer being until China’s galloping double-digit growth slows in mid-2008.
And the third factor is the overheating of the Chinese economy. In February 2007, the Shanghai Stock Market nosedived, sending shockwaves around the world. Since then, however, it has climbed even higher, and it is reported that even the general public in China continues to invest believing that the government will not allow shares to fall until the Beijing Olympics. The trade surplus and inward foreign direct investment have also both continued to grow rapidly. The Chinese economy is forecast to decelerate sharply around the middle of 2008, and growth will slow to an average of 8% in 2008.
The world economy is thus expected to enter a period of adjustment triggered by the subprime loan crisis. However, if the world’ financial authorities adopt monetary policies that steer an appropriately balanced course between recession and inflation, the adjustment is not expected to develop into a global depression on the scale experienced at the time of past oil crises. The yen to U.S. dollar exchange rate is projected to be ¥116 to US$1 in fiscal 2007 and ¥110 to US$1 in fiscal 2008, and the yen to euro exchange rate is projected to be ¥160 to €1 in fiscal 2007, and ¥160 to €1 in fiscal 2008. The crude oil price (on a customs-cleared basis) is forecast to be US$74/barrel in fiscal 2007, and US$80/barrel in fiscal 2008.

Japanese economy to return to cruising speed after slowdown in exports and lull in capital investment in fiscal 2008

Hit by slowing global growth, Japanese exports to the U.S. are already decelerating, and exports bound for China will also slow in fiscal 2008. Growth in capital investment, until now the engine of economic growth, will also enter a lull. Meanwhile, growth in corporate earnings will fail to translate into growth in household income, causing personal consumption to be lackluster. Housing investment will slow dramatically from July following the entry into effect of the revised Building Standards Law. However, the decline of the GDP deflator is projected to come to a halt in fiscal 2008, and the economy’s emergence from deflation will accelerate consumption. The Japanese economy is consequently not expected to fall into recession, and its real GDP growth will slow to 1.9% in fiscal 2007 and 1.9% in fiscal 2008.
The restructuring of government finances is a key medium-term priority for the Japanese economy, and if this is to be achieved, an increase in consumption tax is unavoidable. In the present forecast, it is assumed that the consumption tax rate will be raised from 5% to 8% in April 2010. Owing to the anticipated spike in demand in fiscal 2009, followed by a corresponding dip in fiscal 2010-2011, the real GDP growth rate will rise and fall during this period. Despite stagnating incomes due to a decline in labor’s share, personal consumption will be higher than during the deflationary years from fiscal 2002 to fiscal 2007 (increasing from an annual average of 1.2% to 1.4%). Exports will slow but still continue to grow, and capital investment will continue to account for a high 16-18% of nominal GDP. The real GDP growth rate will slow slightly from an annual average of 2.1% in fiscal 2002-2007 to 1.9% in fiscal 2007-2012. The Japanese economy will thus still cruise at its potential growth rate, considered to be just under 2%.

Following adjustment, global economy to return to growth led by developing economies

Due to the adverse impact of the subprime loan problem on housing investment and personal consumption due to the decline in house prices up until 2008, the U.S. economy will slow during this period. The stagnation of demand in the U.S. is also likely to affect Chinese exports. Investment in fixed assets in China is overheating, and growth will have to slow if stable growth is to be achieved. In this forecast, the conclusion of the Beijing Olympics is expected to herald such a slowdown. Although the EU and developing economies will register firm growth, the rate of growth of the world economy will decline owing to slowing growth in the U.S. and China. Global real GDP growth is expected to slow from 4.0% in 2006 to 3.7% in 2007 and 3.2% in 2008.
Following adjustment in 2007-2008, the U.S. economy will return to growth on a par with its potential growth rate of a little under 3% between 2009 and 2012. The EU will continue to register firm economic growth while continuing to incorporate new members in Eastern Europe. Growth will be relatively high among emerging economies, with China registering stable growth between 8% and 9%, and India continuing to grow at the 7% mark, and these economies will drive global growth. Global real GDP will grow by an annual average of 3.4% between 2007 and 2012, which includes the present period of global money glut adjustment. This is slightly lower than the 3.6% growth achieved between 2002 and 2007, during which the recovery following the collapse of the IT bubble occurred.

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