Despite global cyclical strength,the world economy is weaker than precrisis and needs reforms

The World Bank forecasts global economic growth to edge up to 3.1 percent in 2018 after a much stronger-than-expected 2017, as the recovery in investment, manufacturing, and trade continues. Growth in advanced economies is expected to moderate slightly to 2.2 percent in 2018, as central banks gradually remove their post-crisis accommodation and the upturn in investment growth stabilizes. Growth in emerging market and developing economies as a whole is projected to strengthen to 4.5 percent in 2018, as activity in commodity exporters continues to recover amid firming prices.

Despite a recent acceleration of global economic activity, potential output growth is flagging. At 2.5 percent in 2013-17, post-crisis potential growth is 0.5 percentage point below its longer-term average and 0.9 percentage point below its average a decade ago, with an even steeper decline in emerging market and developing economies. This slowdown mainly reflects weaker capital accumulation, but is also evidence of slowing productivity growth and demographic trends that dampen labor supply growth. These forces will continue and, unless countered, will depress global potential growth further by 0.2 percentage point over the next decade. A menu of policy options could help reverse this trend, including comprehensive policy initiatives to lift physical and human capital, encourage labor force participation, and improve institutions.

• The global financial crisis has ushered in a period of persistently weak potential growth. During 2013-17, global potential growth (2.5 percent a year) fell 0.5 percentage point below its longer-term (1998-2017) average, and even further below its average a decade ago (2003-07). EMDE potential growth slowed to 4.8 percent a year, 0.6 percentage point below its longer-term average. This weakness in potential growth has been broad-based, affecting almost half of EMDEs and 87 percent of advanced economies in the sample, together representing 69 percent of global GDP.
• A host of factors have contributed to this postcrisis shortfall in potential growth below longer-term averages. Half of the deceleration reflects weaker-than-average rates of capital accumulation. Just over one-quarter of the slowdown is due to weaker total factor productivity (TFP) growth while just under one-quarter of the moderation is attributable to demographic trends.
• The global financial crisis and subsequent recession weakened productivity-enhancing capital accumulation, and deprived workers of opportunities to gain experience and skills, creating a vicious cycle of subdued growth. Conversely, in the past, cyclical upswings often generated momentum that fed into sustained increases in potential growth.
• The slowdown in potential growth may extend into the next decade. Trends in its fundamental drivers suggest that global potential growth may slow further by 0.2 percentage point on average over 2018-27, while EMDE potential growth could ease by 0.5 percentage point. The projected slowdown from 2013-17 would affect EMDEs and advanced economies that account for 73 percent of global GDP.
• Policies could help reverse these trends and boost global growth. Among EMDEs, in particular, education, health, and labor market reforms could significantly increase potential growth. Broader reform packages to improve institutional quality and business climates would also pay important dividends.

EMDE growth accelerated in 2017 to 4.3 percent, reflecting a recovery in commodity exporters amid continued robust activity in commodity importers. EMDE growth is projected to further strengthen to 4.5 percent in 2018 and to an average of 4.7 percent in 2019-20—close to potential—as headwinds to commodity exporters dissipate. However, potential growth over the next decade is likely to decline, reflecting the lagged effect of recent investment weakness, slowing productivity growth, and unfavorable demographic trends. A close look at the economic outlook for each region follows.

Growth in the East Asian region is forecast to slip to 6.2 percent in 2018 from an estimated 6.4 percent in 2017. A structural slowdown in China is seen offsetting a modest cyclical pickup in the rest of the region. Risks to the outlook have become more balanced. Stronger-than-expected growth among advanced economies could lead to faster-than-anticipated growth in the region. On the downside, rising geopolitical tension, increased global protectionism, an unexpectedly abrupt tightening of global financial conditions, and steeper-than-expected slowdown in major economies, including China, pose downside risks to the regional outlook. Growth in China is forecast to moderate to 6.4 percent in 2018 from 6.8 percent in 2017. Indonesia is forecast to accelerate to 5.3 percent in 2018 from 5.1 percent in 2017.

Growth in the South Asian region is forecast to accelerate to 6.9 percent in 2018 from an estimated 6.5 percent in 2017. Consumption is expected to stay strong, exports are anticipated to recover, and investment is on track to revive as a result of policy reforms and infrastructure upgrades. Setbacks to reform efforts, natural disasters, or an upswing in global financial volatility could slow growth. India is expected to pick up to a 7.3 percent rate in fiscal year 2018/19, which begins April 1, from 6.7 percent in FY 2017/18. Pakistan is anticipated to accelerate to 5.8 percent in FY 2018/19, which begins July 1, from 5.5 percent in FY 2017/18.

Growth in Europe and Central Asia region is anticipated to ease to 2.9 percent in 2018 from an estimated 3.7 percent in 2017. A slowdown is expected to continue in the western part of the region due to moderating economic activities in the Euro Area. It is counterbalanced by a gradual recovery in the eastern part of the region, driven by commodity exporting economies. Increased policy uncertainty and a renewed decline in oil prices present risks of lower-than-anticipated growth. Russia is expected to expand by 1.7 percent in 2018, unchanged from its estimated growth rate in 2017. Turkey is projected to moderate to 3.5 percent this year from 6.7 percent in the year just ended.