UPDATE 1-U.S., China must lead global rebalancing-euro zone

(Adds details from euro zone document)

By Jan Strupczewski

IQALUIT, Canada, Feb 4 (BestGrowthStock) – The United States and
China will have to lead a rebalancing of global growth as the
world economy slowly emerges from a downturn, the euro zone
will tell G7 financial leaders this weekend according to a
document prepared for the meeting.

Finance ministers and central bank governors from the Group
of Seven (G7) industrialised nations meet Friday and Saturday
in the small town of Iqaluit in north Canada. The G7 includes
the U.S., Canada, Japan, France, Germany, Britain and Italy.

The document, which sums up the agreed views of the 16
countries using the euro, said global trade and savings
imbalances, which deepened the global economic downturn, have
decreased during the crisis, but were still a medium-term
challenge and need to be unwound in an orderly way.

“Looking further ahead imbalances will widen again —
driven by the recovery of oil prices and global trade —
although at a lower level compared to the period before the
crisis, with the exception of China where the current account
surplus will continue to increase in dollar terms,” the
document said.

“The United States and China will have to take a central
role in the rebalancing of global growth,” said the document,
which was obtained by Reuters.

To achieve this, the United States should boost domestic
savings, cut its budget gap and improve financial regulation.

“Beyond the current short-term counter-cyclical
requirements, fiscal consolidation should remain the main
objective,” the document said.

Unless U.S. fiscal and monetary stimuli are withdrawn once
economic recovery is well established, it said, expansionary
policies could sow the seeds of instability, including the
building up of bubbles.

China needs to boost domestic consumption by improving its
social safety nets.

“A reformed taxation of state-owned enterprises’ profits
would increase tax revenues, which could, in turn, be used to
finance increased state spending on social safety nets without
jeopardising longer-term fiscal sustainability,” it said.

China should also allow its yuan currency, now effectively
pegged to the dollar, to appreciate, the document said.

“Its current exchange rate policies may induce a return to
large global imbalances and may drive up asset prices which
could jeopardise China’s financial stability.”

Beijing could start rebalancing its growth model next
year, it said.

“The 12th five-year plan starting in 2011 should aim at
laying the foundations of a different Chinese growth model,
which relies less on export-led growth and more on private
consumption.”

EXIT STRATEGIES

The document said G7 countries should coordinate and
clearly communicate in advance their plans to withdraw fiscal
stimulus to help control inflation, among other things.

“Increasing budget deficits and public debt could weigh on
the economies going forward. Clearly communicated medium- to
longer-term policy frameworks are an essential component for
stabilising expectations,” it said.

It said inflation in the euro zone, which the European
Central Bank wants to keep below, but close to, 2 percent over
the medium term, was likely to rise moderately near term.

“The outlook further out is for relatively subdued
inflation rates, as the sizeable slack in the product and
labour markets can be expected to restrain inflation.”

The world economy was improving but that was partly due to
government support. “Looking forward, moderate optimism is
warranted on the back of recent macro-economic indicators and
normalising financial markets,” it said.

“Overall, available leading indicators suggest a modest
resumption of growth in the coming months, while Asian
continues to show dynamism,” it said.

But it cautioned the recovery could run out of steam if
private demand did not kick in once fiscal stimulus is gone.

“This is particularly worrying given that unemployment is
expected to stay high in the short term, precautionary saving
has increased, private sector deleveraging continues and also
given the negative wealth effects as a result of the crisis,”
it said.

“The pace of recovery is expected to be gradual and growth
subdued, while risks remain given the high unemployment rates
and the recent increase in commodity prices,” it said.

FX VOLATILITY A THREAT TO RECOVERY

Volatile markets were another threat to stable growth.

“Market volatility, in particular in the foreign exchange
market, as well as the possible build up of new asset bubbles,
could destabilise the nascent global recovery by placing growth
on an unbalanced path and trigger unwelcome protectionist
reactions,” the document said.

In remarks to Japan, the euro zone document said
medium-term fiscal consolidation was a key challenge.

“As the risk of a protracted recession dissipates,
ambitious fiscal consolidation should be considered,” it said.

It also said that over the medium term, higher Japanese
interest rates would help correct current account imbalances
and anchoring inflation expectations.

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UPDATE 1-U.S., China must lead global rebalancing-euro zone