May 14 (Bloomberg) — The International Monetary Fund urged governments to cut public debt to prevent higher interest rates and slower economic growth, saying the fiscal crisis in Europe shows such risk “cannot be ignored.”
Debt in developed economies will expand to about 110 percent of gross domestic product by 2015, from 73 percent in 2007, the IMF said in a fiscal review released today. For the Group of Seven countries, the ratio is the highest since World War II, it said.
“As economic conditions improve, the attention of policy makers should now turn to ensuring that doubts about fiscal solvency do not become the cause of a new loss of confidence: recent developments in Europe have clearly indicated that this risk cannot be ignored,” the IMF said. “Major fiscal consolidation will be needed over the years ahead.”
Investors’ concerns that Europe’s fiscal crisis will hurt global growth resurfaced today, even after policy makers in the region earlier this week unveiled an unprecedented loan package worth almost $1 trillion. U.S., Asian and European stocks fell, oil retreated for a fourth day and the euro slid to below $1.24, a level not seen since November 2008.
If developed economies choose only to stabilize debt at its 2015 level, long-term interest rates may climb by 2 percentage points and potential growth may be 0.5 percentage point lower annually, the IMF predicted. That, in turn, would raise borrowing costs in emerging countries, it said.
The forecasts don’t take into account new measures announced by Portugal and Spain this week to trim their deficits, which go “in the right direction, are important steps,” Carlo Cottarelli, head of the IMF’s fiscal affairs department, said today at a press conference in Washington.
The IMF, which is contributing 30 billion euros to a 110 billion-euro ($136 billion) bailout for Greece, said that policy makers need to give more details of how they will reduce their budget deficits.
“It is now urgent to start putting in place measures to ensure that the increase in the deficits and debts resulting from the crisis, mostly from the loss of output and revenues, does not lead to fiscal sustainability problems,” IMF Managing Director Dominique Strauss-Kahn said in an introduction to the report. “In many countries, fiscal adjustment will require a sizeable, and sometimes unprecedented, effort.”
The Washington-based IMF predicted budget deficits in advanced economies to narrow by 0.4 percentage points to an average 8.4 percent of GDP this year from 2009, though it said the reduction mainly reflected a decline in support to the financial industry in the U.S.
The U.S. will post the third-largest budget deficit among advanced economies this year at 11 percent of GDP, behind the U.K.’s 11.4 percent and Ireland’s 12.2 percent, the IMF predicted.
To bring debt back below 60 percent of GDP by 2030, the level before the financial crisis of 2008, advanced economies would need to bring their budget balances excluding debt payments to a surplus of 3.8 percent of GDP by 2020, from a deficit of 4.9 percent of GDP this year, the IMF estimated.
“The task is even more difficult than it appears” because many countries will need to increase spending for health care and pensions over the next 20 years, the IMF said.
Pushing back the retirement age and improving cost containment in health care are among possible measures to support fiscal adjustment, the IMF said. Countries with a very large gap may have to increase targeted taxes, including eliminating below-standard sales taxes rates and increasing levies on tobacco and alcohol, the IMF said.