Global economic prospects 2009: Commodities at the crossroads

Global slump hits developing countries

Credit squeese impedes growth and trade

WASHINGTON D.C., December 9, 2008 — The world financial crisis has dimmed short-term prospects for developing countries and the volume of world trade is likely to contract for the first time since 1982. The sharp slowdown has caused commodity prices to plummet, ending a historic five-year boom.

GDP growth in South Asia down to 6.3% in 2008 from 8.4% in 2007

GDP growth in South Asia eased to 6.3% in 2008, from 8.4% in 2007. The global financial crisis hit regional equity markets hard and contributed to significant currency depreciation. High food and fuel prices, tighter international credit conditions, combined with weaker foreign demand, led to worsening external accounts and slowing investment growth, while incomplete pass-through of oil price hikes led to deterioration in fiscal positions. Growth in 2009 is expected to be 5.4%. Lower capital inflows and harder credit terms will reduce private investment. Remittance inflows may drop, contributing to a fall-off in private consumption. Despite further easing in external demand, slower import growth and lower commodity prices will lead to improved external positions.

Global Economic Prospects 2009, released today, finds the global economy, transitioning from a long period of strong developing-country led growth to one of great uncertainty as the financial crisis in developed countries, has shaken markets worldwide. GEP 2009 projects that world GDP growth will be 2.5 percent in 2008 and 0.9 percent for 2009. Developing countries will likely grow by 4.5 percent next year, down from 7.9 percent in 2007, while growth in high-income countries will turn negative.

“People in the developing world have had to deal with two major external shocks-- the upward spiral in food and fuel prices followed by the financial crisis, which has eased tensions in commodity markets but is testing banking systems and threatening job losses around the world,” said Justin Lin, World Bank Chief Economist and Senior Vice President, Development Economics. “Urgent steps are needed to help reduce fallout from the crisis on the real economy and on the poorest, including through projects that build better roads, railways, schools, and health care systems.”

In light of the crisis, the World Bank Group is increasing its support for developing countries, including through new IBRD commitments of up to $100 billion over the next three years as well as via its private sector arm, the IFC, in the form of facilities for trade finance, banking recapitalis ation, and for privately-funded infrastructure projects facing financial distress.

With world trade volumes projected to contract 2.1 percent in 2009, developing countries will see a big drop in their exports. Tighter credit conditions and increased uncertainty are expected to see investment growth in both developing and high-income countries slow in 2009—actually falling 1.3 percent in developed countries and rising by only 3.5 percent in developing countries versus 13 percent in 2007.

“Policymakers in developing countries should monitor their banking sectors carefully and be prepared to enlist external support to shore up currencies and banking systems.” said Uri Dadush, Director of the World Bank’s Development Prospects Group, “Given the expected decline in global trade, both developed and developing countries need to resist the temptation to resort to protectionism, which would only prolong and deepen the crisis.”

The collapse in global growth has reversed the surge in commodity prices that characterised the first half of the year, with prices of virtually all commodities falling sharply since July. While real food and fuel prices in developing countries have dropped considerably, they remain high relative to the 1990s and the social turmoil and human crises they triggered are still reverberating. Overall, higher food and fuel prices have cost consumers in developing countries about $680 billion in extra spending in 2008 and pushed an additional 130-155 million people into poverty.

According to the GEP, next year oil prices are expected to average about $75 a barrel and food prices worldwide are expected to decline by 23 percent compared with their average in 2008.

Looking forward to the longer term, and despite concerns that recent price spikes might signal future supply shortages, the report finds that supply should more than meet demand over the next 20 years.

“Over the longer term, the supply shortages that contributed to the sharp rise in commodity prices are expected to ease.” said Andrew Burns, Lead Author of the report. “Demand for energy, metals, and food should slow due to weaker population growth and an expected reversal in China’s high demand for metals as investment rates there decline.,”

However, policies will need to support investment in additional supply capacity and encourage greater conservation and efficiency measures to keep commodity supply and demand in balance. Efficiency gains in the transport sector (including hybrid, electric and possibly hydrogen powered cars) will be especially important, because developing-country demand for new cars and trucks is expected to drive three-quarters of the additional energy demand between now and 2030. Climate change and other green policies may also reduce demand for hydrocarbons and lead to long run productivity improvements in the agriculture sector.

Although ample food supply is projected globally, food production in countries with fast growing populations (notably in Africa) may not keep pace with demand. To avoid becoming overly dependent on imported food these countries need programmes to boost agricultural productivity, such as those that expand rural roads, increase agricultural research and development, and intensify outreach efforts.

The heightened sensitivity of food prices to oil prices that resulted from increased biofuel production from food crops is likely to persist, unless new technologies -- including the development of non-food sources for biofuel production and other energy alternatives – make food-crop based biofuels uneconomic.

A key finding from the GEP is that commodity exports can promote growth if the right policies are in place. The authors find that resource-rich countries have managed the windfall revenues of the recent boom more prudently than in the past, which should allow them to better withstand the decline in prices. However, countries with new-found resources and those heavily reliant on bank-lending may be at risk. This is because with lower commodity prices, the profits of many companies are down, while at the same time interest rates are higher -- exposing them to sharply higher costs when loans come due.

Most consuming countries responded to higher food and fuel prices by expanding existing social safety networks to stave off malnutrition and its long term consequences. Governments spent as much as 2 percent of GDP ramping up programmes, although because of poor targeting, as little as 20 percent of the additional spending reached the poorest.

GEP recommends several measures that could reduce the chance of another food price crisis. These include discouraging export bans, providing more stable funding for food-aid agencies, and improving the coordination and information about global food stocks.