Dollar rise threatens US growth, says IMF
More gains by the dollar could leave US growth "significantly debilitated" and have repercussions across emerging markets, the International Monetary Fund says. In a health check on the US, the fund reiterated its advice that the Federal Reserve should delay raising interest rates until next year, partly because of a risk that a rate increase would trigger another rise in the dollar with destabilising consequences globally. Continued appreciation of the dollar, up more than 20 per cent against a basket of key currencies in the past 12 months, is a "prominent risk" because of growth divergences between the US and other economies, the IMF added, as it forecast a steady widening of the current account deficit towards 3.5 per cent of gross domestic product over the rest of the decade. Janet Yellen, the Fed chair, has pledged that rate rises from near-zero levels will be gradual as she tries to prevent a lurch in yields and the dollar when a move finally happens. Rapid dollar appreciation helped torpedo the chances of a Fed interest rate increase in March, as the high currency restricted exports and dragged on growth in the first quarter. Official figures on Tuesday morning showed that the US trade balance continued to be influenced by the high currency, as it widened to $41.9bn in May from $40.7bn in April. The dollar index rose another 1 per cent on Tuesday morning amid concerns that Greece may leave the eurozone. The Fed’s plans will have huge ramifications worldwide. Central banks and finance ministries around the world are braced for possible capital outflows and currency gyrations as investors funnel money into higher-yielding US assets after a rate rise. The IMF said the Fed had "carefully prepared and telegraphed" its intentions to raise rates. But the move could still trigger a "significant and abrupt rebalancing of international portfolios", accompanied with market volatility and damage to financial stability around the world. "A shift in expectations about the future pace of rate increases could create flows into US dollar assets and a further meaningful appreciation of the dollar," it added. The fund found that the dollar was already moderately overvalued. If the currency were to rise towards a "substantial" overvaluation, widening the current account deficit towards 5 per cent of GPD, "this would likely point to the move in the dollar having gone ‘too far’, potentially creating future risks, including in some emerging market economies, as global imbalances reassert themselves," the fund said. The IMF analysis came in its detailed "Article IV" report on the US economy, where it was cautiously optimistic. "A solid labour market, accommodative financial conditions and cheaper oil should support a more dynamic path for the remainder of the year," the report found. The fund predicted that GDP growth would accelerate from 2.5 per cent this year to 3 per cent next. Potential growth, which gauges the rate the economy can grow with stable inflation, will be "considerably weaker" than before the financial crisis at 2 per cent, however, unless the US pushes through reforms to boost its dismal productivity performance, incentivises innovation and investment and increases labour force participation, the report found. The fund warned against a repeat of "down to the wire brinkmanship" in negotiations over fiscal policy and the debt ceiling this year, saying this could damage confidence — particularly if the timing coincided with a Fed rate rise. Asked about the possible restructuring of Puerto Rico’s $72bn debt mountain, Nigel Chalk, the IMF’s US mission chief, said the lack of a strong and consistent legal framework was a problem for the US territory given the need for at least some reprofiling of the debt. "It is generally viewed that the institutional and legal framework for Puerto Rico to undertake any kind of workout process with its creditors is made much more difficult by the fact there is no real legal framework like Chapter 9, particularly for some of the government agencies," he said. The island cannot seek Chapter 9 bankruptcy protection as Detroit did and since it is not a sovereign country, it cannot ask the IMF for help or loans to tide it over while it restructures its debts. The Obama administration has encouraged Congress to take a "close look" at Puerto Rico’s inability to seek Chapter 9 bankruptcy protection, something only the legislature can change.