Reforms may threaten recovery and lead to bigger US budget deficit, says Christine Lagarde
Donald Trump’s huge tax cuts are a threat to the stability of the global economy, the managing director of the International Monetary Fund has warned.
Christine Lagarde singled out Trump’s tax reforms as one of three risks that could destabilise the current economic recovery, especially given the boom in stock markets in the past year.
“While the US tax reforms certainly will have positive effects in the short term, for the US and other countries around, it might also lead to serious risks,” Lagarde told the World Economic Forum in Davos.
“That has an impact on financial vulnerability, particularly given the high asset prices that we see around the world, and the easy financing that it still available,” she added.
She was speaking shortly after the US president told Davos that his tax reforms had created “a big, beautiful waterfall” of pay rises for US workers, as American companies passed the tax cut on.
However, the IMF is concerned that cutting taxes will lead to a bigger US budget deficit, and that extra borrowing by the US Treasury will force up long-term American interest rates. As a result, it fears growth could be choked off in the longer term, making the stock market vulnerable to a sudden downward lurch.
Lagarde cautioned against people becoming too complacent about the pick-up in global growth reported by the IMF at the start of the WEF’s annual meeting. The IMF raised its forecasts for global expansion to 3.9% this year and in 2019, reporting that all major economies – the US, the eurozone and Japan – are doing better.
“I don’t think that we’ve completed the job,” said Lagarde, who fears that the growing economic inequality in many countries is creating “fractures”.
“Having growth is good, improving productive is good, but [policymakers should] make sure that the results of that growth are properly allocated,” said the IMF chief, adding that inequality is growing in many advanced economies, and very high in emerging markets.
In addition to financial instability and inequality, Lagarde said a third risk was the lack of international cooperation and the geopolitical risks that could be created as a result.
Lagarde was speaking at the final session of the week-long Davos meeting, alongside the Bank of England governor, Mark Carney.
Carney warned that the risk of a fall in asset prices had increased, but the financial system was in better shape to cope than it was 10 years ago because regulators had made banks hold more capital.
Carney said the global expansion was getting stronger, broader and healthier, with most of the acceleration in G7 growth due to investment and net trade.
“This is not a consumer boom-led recovery,” said Carney, who also suggested that wage growth should pick up soon.
“If you look at wage behaviour in the US, in the UK, you see a firming of wages,” he added.
The Bank of Japan governor, Haruhiko Kuroda, was also on the panel, and said that Japanese inflation was finally getting close to target.
“There are some indications that wages are actually rising and some prices have started to rise,” Kuroda said.
“There are many factors that made the 2% target difficult and time-consuming but we are finally close.”
The rise in global growth and inflation is putting pressure on central bankers to unwind the unprecedented money-printing operations launched after the financial crisis nearly a decade ago.
Some economists fear that quantitative easing – where central banks buy bonds from financial institutions – has created inflationary pressures, as well as driving asset prices to new peaks.
Speaking earlier in the day at Davos, the UBS chairman, Axel Weber, predicted that unwinding this stimulus would not be easy.
“We are in pretty uncharted territory. Exiting from QE [quantitative easing] will be a difficult exercise,” Weber said.
Although stock markets hit fresh record highs again this week, the currency markets were thrown into turmoil after the US treasury secretary, Stephen Mnuchin, said a weak dollar was good for US trade. Those remarks sent it sliding to a three-year low and prompted a frosty response from the European Central Bank’s president, Mario Draghi.