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Rate clouds ahead

9 Oct 2012 By Martin Hutchinson, Christopher Swann

The International Monetary Fund has a new long-term worry: decades of higher interest rates. Don’t get too comfortable with low borrowing costs, is the downbeat message from the normally overoptimistic fund’s flagship World Economic Outlook. Slightly feebler growth of 3.3 percent for 2012 is the short-term concern. But past fiscal excesses and an ageing population could push up interest rates for a generation.

The IMF is not well suited to delivering bad news. With 188 member nations, the fund is typically eager not to cause offense or rattle global markets. Upbeat economic forecasts also make it easier to justify crisis loans. This bias probably lies behind the IMF’s excessive optimism over economic growth in Greece, which has turned out far worse than the fund predicted.

Little surprise, then, that the IMF’s army of economists have belatedly scaled back their growth forecasts for this year and next. Indeed, given the euro mess, the expectation of 0.2 percent growth in the single currency area for 2013 may still prove too sanguine. More remarkable, however, is the IMF’s longer term gloom – at least for rich nations. While the Federal Reserve is keen to convince markets that low interest rates will last as far as the eye can see, the IMF sees a grim future beyond monetary easing.

The fund warns of a vicious cycle of high government debt pushing up borrowing costs, which in turn raises the cost of servicing bonds. Even without acute sovereign debt crises of the kind afflicting Greece and Spain, ageing populations in most developed economies will reduce available savings for investment and so push up borrowing costs all the way out to 2057. Raising taxes to service pricier debt will also retard economic growth.

In other words, the IMF presents a compelling case for shunning the government bonds of highly indebted rich countries and shifting to faster-growing and less indebted emerging markets. Of course, economic forecasting is not the IMF’s forte, and predicting decades into the future is even harder. But its long-term concerns will give investors something else to worry about.


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