Low rates offset global benefits from cheap oil: IMF

By Park Sae-jin Posted : March 25, 2016, 14:13 Updated : March 25, 2016, 14:13

[Courtesy of IMF]


Global benefits from low oil prices may not materialize until many advanced economies change their monetary policy of keeping low and even negative interest rates, according to a research paper from the International Monetary Fund.

The IMF has hinted at lowering its 3.3 percent growth forecast for the global economy as economic growth has slowed in may countries despite cheap oil, puzzling many observers who had believed that oil-price declines would be a net plus for the world economy.

"Paradoxically, global benefits from low prices will likely appear only after prices have recovered somewhat, and advanced economies have made more progress surmounting the current low-interest rate environment," IMF chief economist Maurice Obstfeld said in the paper posted on his blog.

Over the past six months or more, equity markets have tended to fall when oil prices fall -- not what we would expect if lower oil prices help the world economy on balance, Obstfeld and co-authors Gian Maria Milesi-Ferretti and Rabah Arezki wrote.

"We will argue that a big difference from previous episodes is that many advanced economies have nominal interest rates at or near zero," they said, renewing the IMF's call for major economies to stimulate demand and growth.

They pointed out that more than three decades ago, high oil prices lead to stagflation or a combination of higher inflation and slower growth.

"Even though oil is a less important production input than it was three decades ago, that reasoning should work in reverse when oil prices fall, leading to lower production costs, more hiring, and reduced inflation. But this channel causes a problem when central banks cannot lower interest rates," the economists said.

They said that because policy interest rates cannot fall further, the decline in inflation owing to lower production costs "raises the real rate of interest, compressing demand and very possibly stifling any increase in output and employment".

"Being near the zero bound also can imply a 'perverse' response to higher oil prices," Obstfeld and his colleagues said.

"When central banks are battling deflation pressures, they are unlikely to raise policy interest rates aggressively to counter an uptick in inflation. As a result, oil price increases, symmetrically, can be expansionary by lowering the real interest rate," they said.

What's more, they said, historically low oil prices could ignite a variety of dislocations including corporate and sovereign defaults.

"The possibility of such negative feedback loops makes demand support by the global community --along with a range of country-specific structural and financial-sector reforms -- all the more urgent," the economists concluded.

 Aju News Lim Chang-won = cwlim34@ajunews.com
 
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