Canada sees gloom for world economy without reform

Thu Mar 18, 2010 2:35pm EDT
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By Randall Palmer and David Ljunggren

OTTAWA (Reuters) - Canada took a gloomy look at what could go wrong with the global economy on Thursday, warning of prolonged recession or a new debt-driven crisis unless countries push ahead with promised reforms.

In a discussion paper for a meeting of officials from the Group of 20 industrialized and emerging nations, Canada highlighted likely problems if countries like China maintained fixed exchange rates, or if G20 nations stalled on economic and financial reforms agreed at a 2009 summit in Pittsburgh.

If the world returns to its pre-crisis normal, the lack of change could bring unsustainable debt levels, higher interest rates and another crisis, the document said.

But if rich countries rein in budget deficits and emerging markets don't take up the spending slack, there would be deflation and recession.

"Advanced countries need to engage in fiscal consolidation over the medium term, but we also need the cooperation of emerging market economies," the paper said.

The Pittsburgh summit agreed that the G20 would become the main agent of reform, but the grouping is new and it is unclear how much it can achieve. China, a key member, is under growing international pressure abandon its fixed currency peg, which has helped it run up a huge trade surplus.

The Canadian discussion paper did not mention China by name. But it outlined a scenario where rich countries cut deficits, but emerging markets neither let their currencies float, nor encourage their own consumers to spend more.

"In such a scenario, a deflationary spiral sets in... By 2011, deflation would occur in advanced countries, real interest rates would increase sharply, and growth would stall," said the paper, which was obtained by Reuters.   Continued...