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Medium-Term Growth Prospects of Developing Countries Promising Despite 2001 Global Slowdown
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| Press Release No:2001/289/S |
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Contact Person:
Phil Hay (202) 473-1796
Phay@worldbank.org
Stevan Jackson (202) 458-5054
Sjackson@worldbank.org
Cynthia Case McMahon (TV/Radio) (202) 473-2243
Ccase@worldbank.org Also available: Press release on Latin America and the Caribbean
in English (10K PDF) and Spanish (10K PDF)
WASHINGTON, April 10, 2001 — Despite the sharp slowdown in the global economy that began late last year, a rebound is likely later this year, with world GDP growth expected to bottom out at 2.2 percent this year, then climb to 3.3 percent in 2002, according to a new World Bank report released today. Growth rates in the developing countries are expected to average 4.2 percent in 2001, a drop of more than a full percentage point from last year but still 0.8 percentage point higher than growth in these countries during the 1990s.
Global Development Finance 2001 - the Bank's yearly report on external financing prospects for developing and transition countries - also says that international financial flows to developing countries can be more valuable in promoting economic growth and reducing poverty than was commonly thought in the aftermath of the East Asia crisis and its subsequent spread to other emerging markets. Countries that create a favorable investment climate benefit most from such financial flows. The report calls for international and domestic efforts to expand the volume and direction of these capital flows back to developing countries with the ability to use them most effectively.
Foreign direct investment to developing countries, which had remained resilient through the crisis years, fell somewhat in 2000, though long-term prospects remain bright. Financial flows (through bonds, bank loans, and equity), which had fallen sharply in 1998 and 1999, rose smartly but remain well below their peak in 1997. Demand for external private funding has fallen in some East Asian countries, with the fall in their investment rates. Elsewhere in the developing world, the demand exists, but uncertain conditions in international financial markets limit supply. Projections suggest that while financial flows will continue to increase, their importance relative to domestic GDP and exports will remain lower than in the mid-1990s.
"The financial crises of the late 1990s were amplified by volatile capital flows." says Nicholas Stern, World Bank Chief Economist and Senior Vice President. "While the risks associated with volatility are considerable, this report shows that over the medium term capital flows can reinforce growth and reduce poverty in developing countries that nurture strong, open investment climates. Private flows tend to stay away from countries with inhospitable business conditions, and favor those best able to use them for positive growth."
Global economic update
The report says that the cyclical slowdown of the global economy that started in the second half of 2000, initiated by higher interest rates and oil prices, suddenly intensified towards the end of the year, triggered to a large extent by a swift loss of momentum in the U.S. economy. While data at the beginning of the fourth quarter of the year strongly supported prospects for a soft landing in the United States, financial market sentiment shifted abruptly in November. This was yet another example of the intensified interaction between financial markets and short-run dynamics of production and trade. East Asian countries in particular were immediately hit by a sharp fall in U.S. imports of semiconductors and other high-technology products.
The report argues that an early recovery is more likely than a prolonged period of low growth, although the probability of the latter scenario has increased over recent months. The slowdown is expected to have differential impacts on developing countries, and creates both risks and opportunities.
Growth rates in developing countries are expected to average 4.2 percent in 2001, a drop of more than a full percentage point from last year. Growth is expected to be highest in East Asia and the Pacific, at 5.5 percent, and lowest in Europe and Central Asia with 2.3 percent. The recovery is expected to continue in 2002, with average growth rates for developing countries reaching 4.9 percent.
Prospects for growth in developing countries will depend heavily on the performance of the three big industrial economies, the United States, Europe, and Japan. The report says that growth rates will fall in all three economies in 2001, with varying degrees of recovery expected in 2002. For all three economies the report foresees "near-term weakness and fairly rapid recovery by end 2001/early 2002." The European economy is likely to prove most resilient to the slowdown, while in Japan growth has reverted to an "anemic" pace and the prospects for outright recession have increased.
"An early recovery from the current slowdown is more likely than prolonged slow growth because underlying technological and productivity trends are favorable, the scope for policy adjustmentssuch as interest rate cuts and tax cutsis greater, and also because emerging market economies are less vulnerable to financial contagion, having allowed more flexible exchange rates and reduced short-term indebtedness." says Uri Dadush, Director of the World Bank's Economic Policy and Prospects Group that produces the annual Global Development Finance report. "A harder than expected landing in the industrial world is still possible, and would have serious consequences in many developing countries." he said.
Capital flows still lag behind rising output and trade
International capital flows to developing countries grew smartly in 2000 following the steep declines of the late-1990s but still lagged behind output and trade since the crises. But this also implies that dependence on external debt has declined for most developing countries. In particular, the amounts of volatile short-term debt have fallen and rising international reserves have created a stronger ability to service external debt.
Following its resilience throughout the crisis years, Foreign Direct Investment (FDI) to developing countries fell slightly in 2000 as the international financing for privatization projects in Latin America and for mergers and acquisitions in East Asia slowed down. The developing country share of global foreign direct investment has fallen sharply since 1997 and within developing countries the concentration of flows has increased in recent years. As competition for international investment flows has increased, an attractive investment climate has become increasingly more important.
Capital market flows to developing countries increased in 2000 but remain well below their peak levels of 1997. Though developing country creditworthiness improved during the course of the year, flows remained volatile on account of international market conditions.
Because volatility of capital flows creates significant costs, prudent safeguards are required. These are best achieved through stronger domestic financial systems, but more international liquidity may also be required.
Making official development aid and debt relief more effective
Developing countries are also benefiting from a modest temporary rise in official development assistance, prompted by stepped-up Japanese aid to regional countries affected by the East Asian financial crisis. At $15.3 billion in 1999, Japanese aid was $4.7 billion higher than in 1998. The other major factor influencing the global rise in aid flows from donors, particularly those from the United States, was the international effort to assist refugees from Kosovo.
However, while aid flows increased modestly to $41.6 billion in 2000, even in nominal terms, they are still nearly $5 billion less than in 1995, according to the report. In 1999, the average donor country provided aid equal to about 0.24 percent of its GNP, down from 0.35 percent in 1989-92. If even the 0.35 percent ratio had been maintained - let alone the 0.7 percent of GNP mandated by the United Nations - aid flows would have been $20 billion higher than actually realized.
Japan's significant increase in aid among major donors in 1999, thanks to its special East Asia assistance program, masked the slide in official development assistance relative to GNP from four other Group of Seven (G-7) countries: Canada, France, Italy, and the United Kingdom. Aid from Germany and the United States remained unchanged from the levels of 1998, again relative to GNP. Aid flows continue to remain restricted, in part because of domestic fiscal concerns in some major donor countries. The United States, in contrast, has a large fiscal surplus, but some argue that aid skepticism, directed particularly at the official channels for aid delivery, limits that country's ability to rebuild its traditional aid program.
Continued commitment on the part of the world's leading aid donors is required to ensure that these increases are not temporary, especially since achieving the International Development Goals will require a significant rise in aid flowsand in their effective use.
The effectiveness with which aid was allocated across countries also increased in the 1990s. This happened in part because policies in recipient countries improved, increasing their capacity to absorb aid, and in part because countries with weak policies got less aid. But there is significant potential to reduce poverty by directing flows from middle-income to low-income countries and by increasing flows to countries with good performance that thus far have received little or no increase in aid.
Recent moves toward donor specialization can also make aid more effective. So can increasing the commitment to provide assistance through predictable and medium-term budgetary support to each country's chosen development programs, based on agreed policy frameworks and conditioned on results. The shift to programmatic approaches reflects the importance of country "ownership" of the policy agenda and the long-standing difficulties in coordinating a host of separate projects, each with different donor-reporting requirements.
Continued commitment on the part of the world's leading aid donors is required to ensure that these increases are not temporary, especially since achieving the International Development Goals willrequire a significant rise in aid flowsand in their effective use.
"The decline in development aid that began in the early 1990s appears to have ended and the pace of debt relief has been stepped up, which is good news indeed for developing countries trying to increase economic growth and reduce their incidence of poverty," saysAshoka Mody, lead specialist in the World Bank's Economic Policy and Prospects Group and the principal author of the report. "Given the urgency of achieving the International Development Goals for millions of the world's poorest citizens, both donors and recipients need to boost their respective commitments to generate more aid, and use it more effectively."
Debt relief, provided through the Heavily Indebted Poor Countries Initiative (HIPC), is beginning to have a significant impact on the some of the world's poorest countries. "In 2000 more countries received the promise ofand actual resources fordebt relief than in any year since the start of the program in 1996," the report says.
Forty-one countries, which owe some $170 billion in external public debt, are eligible to be considered under the initiative. By the end of 2000, 22 countries have been approved for participation and a total of $20.3 billion (in net present value terms) had been committed for debt relief. Of the 600 million people who live in countries eligible for debt relief, half live on less than a dollar a day. The World Bank and the IMF hope to expand the number of poor countries eligible for debt relief in 2001.
The Heavily Indebted Poor Countries Initiative (HIPC), which embodies a new approach to aid effectiveness, marks an opportunity for a new start. The recent enhancements to the initiative have quickened the pace and increased the resources for debt relief, although the extent to which the initiative will increase total donor assistance is unclear. Since weak policies and institutions are the key constraint on growth in most heavily indebted countries, the tie to policy reform is the key factor for success. At the same time, greater access to industrial-country markets will help these countries integrate with global markets and grow.
"This relief can have a significant impact on the countries receiving it," says Chief Economist Stern. "But the lasting impact will depend on how the resources are used. For these countries, greater country ownership of the economic reform process is required. The Poverty Reduction Strategy Papers offer an important mechanism for establishing ownership and strengthening the poverty reduction and growth agenda".
Financing of international public goods
Global Development Finance 2001 also presents the first comprehensive effort to estimate the global total of development assistance spent on pressing problems that require internationally coordinated efforts and resource transfers. These so-called international public goods include challenges such as controlling communicable diseases, limiting climate change, containing financial instability and safeguarding global peace.
The report estimates that total international resource transfers for these needs amounts to about $5 billion per year. This includes: $1 billion from private foundations; $2 billion are official trust funds (money which donor governments provide to multilateral and other organizations); and $2 billion is official development assistance. In addition, an estimated $11 billion of official development assistance is spent on country measures and infrastructure for the effective absorption of international public goods, for example, upgrading health systems to tackle communicable diseases.
"Some key global public goods, such as reducing global warming and maintaining financial stability require more than fundingthey also require greater incentives for collective action," the report said. "Returns from greater coordination can be extremely high."
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