Downside risks to the global economy dominated the International Monetary Fund's latest economic outlook Tuesday as officials there warned of "stickier" inflation, central bank uncertainty and other factors that could make investors nervous.
While the latest IMF forecast said the global economy would grow 2.8% this year and 3% starting in 2024, it also offered a 25% chance that the annual global growth rate would fall below 2% in 2023. A "significant" financial shock that could risk a global recession was given a 15% chance.
Pierre-Olivier Gourinchas, IMF's chief economist, also warned that "the financial sector had become too complacent" despite last year's U.K. gilt crisis that stressed pension funds' liability-driven investing programs there, and recent bank crises in the U.S.
"The U.K. gilt market and recent banking turbulence in United States illustrate that vulnerabilities still exist," Mr. Gourinchas said in a media briefing about the IMF's World Economic Outlook. "Nervous investors often look for the weakest link, as they did with Credit Suisse."
For banks, the biggest concern is interest-rate risk, rather than credit risk, IMF economists said at a related briefing. Rapid interest-rate hikes were the culprit in the recent collapse of Silicon Valley Bank, money managers told Pensions & Investments as that crisis unfolded. In March, the Bank of England warned of an "urgent need" for increased resilience among non-bank financial institutions and activities, including LDI programs and money market funds.
Side effects from several rapid central bank hikes "are becoming apparent, as banking sector vulnerabilities have come into focus and fears of contagion have risen across the broader financial sector, including non-bank financial institutions," said the IMF's Global Financial Stability Report also released Tuesday.
"Stubbornly high inflation and recent financial sector turmoil" erased signs earlier this year that between lower inflation and steady growth, the global economy could achieve a soft landing, the report said.
The latest IMF forecasts "once again make for grim reading in their assessment" of the U.K. and global economies, said Luke Bartholomew, senior economist with abrdn, in an email. While some of the IMF numerical forecasts might prove to be wrong, "the U.K. economy is likely to endure recession-like conditions for much of this year," while the IMF was not pessimistic enough on U.S. growth, with the risk of tightening credit conditions tipping the U.S. economy into recession later this year, and risking "large spillovers to the rest of the world," Mr. Bartholomew said.
"If the IMF is right about this, and we are right about a recession, the debate will move to how much central banks are likely to cut interest rates in the coming years. Investors may find this period of high interest rates was simply a brief interruption of the low-rate world they have been dealing with since the global financial crisis," he said.