GLOBAL ECONOMY AND IMPLICATIONS FOR ISRAEL

Aaron Institute for Economic Policy Annual Conference

May 4, 2017

Craig Beaumont, European Department, IMF

Outline

World economic outlook (WEO)

1

Broader trends in

global economy

Policy priorities for Israel

Change in bond yields since August 2016 (percentage points)

Source: IMF staff calculations.

Market sentiment has improved since mid-2016

2

Equity price changes since August 2016(percent)

-2.0

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

Jap

an

Un

ited

Kin

gdo

m

Un

ited

Sta

tes

Ger

man

y

Fran

ce

Spai

n

Ital

y

Bra

zil

Ru

ssia

Ind

ia

Ch

ina

Sou

th A

fric

a

Mex

ico

Turk

ey-10

-5

0

5

10

15

20

25

30

Jap

an

Un

ited

Kin

gdo

m

Un

ited

Sta

tes

Ger

man

y

Fran

ce

Spai

n

Ital

y

Bra

zil

Ru

ssia

Ind

ia

Ch

ina

Sou

th A

fric

a

Mex

ico

Turk

ey

Manufacturing PMI(three-month moving average; deviations from 50)

Sources: Haver Analytics; and IMF staff estimates.

Along with business and consumer confidence

3

Consumer Confidence(index; 2010 = 100)

-3

-2

-1

0

1

2

3

4

5

6

2012 13 14 15 16

Advanced economiesEmerging market economies

Feb.

17

90

95

100

105

110

115

120

2012 13 14 15 16

Advanced economiesEmerging market economiesWorld

Feb.

17

World Trade and Industrial Production(three-month moving average; annualized percent change, unless noted otherwise)

Sources: Haver Analytics; and IMF staff estimates.

As global activity has begun picking up steam

4

-6

-4

-2

0

2

4

6

8

10

2011 12 13 14 15 16

Industrial production World trade volumes

Feb.

17

5Source: IMF staff calculations.

Trade growth reflects improved investment

-3

-2

-1

0

1

2

3

4

5

6

-4 -2 0 2 4 6 8Fixed investment growth

Imp

ort

gro

wth

Advanced Economies(percent; 2016)

-30

-25

-20

-15

-10

-5

0

5

10

15

20

25

-30 -25 -20 -15 -10 -5 0 5 10 15 20 25 30Fixed investment growth

Imp

ort

gro

wth

Emerging Market and Developing Economies(percent; 2016)

Forces shaping the outlook

Advanced economies

• Cyclical rebound & monetary stimulus

• Post-crisis repair varies

• Expansionary U.S. fiscal policy

• Demographic headwinds

Emerging market and developing economies

• Rebalancing in China

• Adjustment to lower commodity prices

• Geopolitical and political factors

• Demographic trends

6

• Weak productivity growth

Ongoing forces…

…overlaid on…

Source: IMF staff calculations.

World growth rises to 3.8% by 2022, from 3.1% in 2016,

led by Emerging and Developing Economies

7

World GDP Growth(percent)

0

1

2

3

4

5

6

7

1995-2004 2005-2015 2016 2022

World Advanced economies EMDEs

Advanced Economies

Cyclical recovery in near term,

subdued growth in medium term, at

1.7% in 2022.

Emerging Market and Developing

Economies

Stressed economies bottoming out,

commodity importers generally

projected to maintain high growth,

overall growth of 5% by 2022.

Advanced Economies(three-month moving average; annualized percent change)

Source: IMF staff calculations.

Core inflation little changed even as headline inflation up recently

8

Euro Area Headline CPI Inflation(percent)

-2

-1

0

1

2

3

2012 13 14 15 16

HeadlineCPI

Core CPI

Feb.

17

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

2000 2004 2008 2012 2016 2020

Euro area

Germany

Italy

Source: World Economic Outlook, April 2017.

2022

Euro Area inflation reaches 2% gradually, led by Germany

But global growth risks skewed to downside

• Protectionism. Inward-looking policies could hurt demand and productivity.

• U.S. macroeconomic policy mix. Faster-than expected U.S. interest hikes and dollar appreciation could temper U.S. growth and stress vulnerable economies.

• Financial threats to EMs. Some EM countries are exposed to sudden shifts in investor confidence. In China, continued reliance on credit and slow restructuring mean that the risk of an eventual disruptive adjustment is growing.

• Sharp rollback of financial regulation. Higher risk of costly financial crises.

• Weak demand and balance sheets. In parts of Europe, adverse feedback among low demand, low inflation, weak balance sheets, and anemic productivity growth.

• Non-economic shocks. Geopolitical tensions, political discord, extreme weather events, and terrorism and security concerns. 9

-0.6

-0.4

-0.2

0.0

0.2

0.4

2017 2019 2021 2023 2025

Less productive fiscal stimulus

Highly productive fiscal stimulus

Advanced Economies Real GDP(percent deviation from case with no change in U.S. fiscal policy)

Source: IMF staff calculations.

Impact of U.S. Fiscal Stimulus on Other Economies: Depends on Supply-Side Effects and thus Interest Rate Reaction

10

Emerging Markets Real GDP(percent deviation from case with no change in U.S. fiscal policy)

-0.6

-0.4

-0.2

0.0

0.2

0.4

2017 2019 2021 2023 2025

Less productive fiscal stimulus

Highly productive fiscal stimulus

Illustrative fiscal stimulus of 1% of GDP in 2018, and 2% of GDP in 2019-2021

Implications of Global Outlook for Israel?

• Export growth stronger: about 4% in 2017-19, from almost flat in 2014-16

• Real GDP growth solid: about 3% in 2017-19

– Employment growth about 2.5%, so unemployment remains below 5%

– But productivity growth low, about 0.5%

• Inflation rises: low unemployment aids wage growth, higher global inflation

• Interest rates rise in time: yet low global interest rates may limit increase

• Housing prices: recent stability welcome, but potential for renewed upward pressures if interest rates remain low and supply gains are not lasting

11

Some Broader Trends in the Global Economy

• Slowing international trade

World Economic Outlook, Oct. 2016, Chapter 2

• Declining productivity growth “Gone with the Headwinds: Global Productivity Growth”, IMF Staff

Discussion Note, SDN/17/04, April 2017

• Low interest rates

Global Financial Stability Report, April 2017, Chapter 2

• Falling labor share of income World Economic Outlook, April 2017, Chapter 3 12

Total Factor Productivity Growth, 2000–22(PPP GDP-weighted; dashed lines indicate period average)

Source: IMF staff estimates.

Productivity Growth Has Slowed Around the World

13

-2

-1

0

1

2

3

4

5

2000 2004 2008 2012 2016 2020

Advanced economies

Emerging market anddeveloping economies

1.3%

0.3%

2.8%

1.0%

1.9%

0.7%

Partly a crisis legacy, as investment hit by:

• weak corporate balance sheets and tight credit

• weak aggregate demand

• uncertainty about economic policy

But structural headwinds continue to slow productivity:

• ICT boom waning

• aging workforce, slower human capital gains

• global trade integration slowing, e.g., China

• benefits of earlier EMDC reforms fading

Israel’s Labor Productivity Growth has also Slowed Primarily in Manufacturing

14

-10

-5

0

5

10

15

-10

-5

0

5

10

15

1996 1999 2002 2005 2008 2011 2014

Whole economy

Manufacturing

Sources: Central Bureau of Statistics; and IMF staff calculations.

Labor Productivity Growth

(Percent)

1.3%0.5%

4%

0.4%

ProductivityGrowth %

1996-2007

2011-2016

Total 1.3 0.5

Manufacturing 4.0 0.4

Other 0.8 0.7

Labor’s share of income has fallen in many countries including Israel

15

Israel

Decline in Israel’s labor share broadly in parallel with AE

16

30

35

40

45

50

55

60

30

35

40

45

50

55

60

1970197519801985199019952000200520102015

Israel

Advanced Economies (AE)

Emerging and Developing

Economies (EMDE)

Labor Share of Income

(Percent)

Source: World Economic Outlook, April 2017.

90

92

94

96

98

100

102

104

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015

Ratio of Israeli Labor Share to Advanced Economy

Labor Share (Index, 1995=100)

Sources: World Economic Outlook, April 2017; and Fund staff calculations.

But Israel’s labor share decline

continued post crisis?

(May reflect terms of

trade gains over 20%

since 2008, rather than

real wages rising slower

than labor productivity.)

Technology key driver of declining labor shares in AEs, and Global Value Chain participation in EMs. “Hollowing out” of medium-skilled

–8

–6

–4

–2

0

2

4

6

AEs EMs EMs exluding China

Aggregate Results: Contributions to Aggregate Labor Share

Changes, 1993–2014(Deviation from regression constant)

Technology Financial integration UnexplainedGVC participation Policy/institutions Actual change

Contributions to Aggregate Labor Share Change by Skill,

1995–2009

–8

–6

–4

–2

0

2

4

6

8

10

12

High skill Middle skill Low skill Middle-skill AEs

Technology Global value chain participationFinancial integration Skill supply and other composition shiftsActual change

Implications of broader trends for Israel• Global productivity growth may remain

below prior trends

→ Reduce Israel’s productivity shortfalls to the major advanced economies to help sustain solid growth

• Technology appears to be reducing labor shares which constrains real wage growth

→ Improve the skills of Israel’s labor force to limit these pressures on living standards

18

0

10

20

30

40

50

60

70

80

90

0

10

20

30

40

50

60

70

80

90

LTA

EST

KO

RP

OR

GR

CC

ZE

ISR

SV

NN

ZL

1/

SV

KJP

NIS

L 1/

ITA

ESP

GB

RC

AN

FIN

AU

SA

UT

CH

ESW

ED

EU

FR

AN

LDD

EN

USA

BEL

IRL

NO

RLU

X

Labor Productivity Comparison, 2015

(GDP per hour worked, USD constant prices 2010PPPs)

Sources: OECD; and IMF staff calculation.

Note: 1/ 2014 data is used due to data availability.

Policies for strong and inclusive growth in Israel

Education and infrastructure investment

• Reform education to reduce achievement gaps

• Training to boost skills of those already in work

• Upgrade public transport infrastructure

Product market reforms to boost productivity

• Lower barriers to external competition

• Reduce regulatory burden, e.g., “one-stop-shop”

• Reform state enterprises

Broaden labor participation

• Expand active labor market policies (ALMP)

• Enhance environment for job creation by SMEs

• Raise the EITC—welcome recent MoF proposal 19

0

20

40

60

80

100

120

0

20

40

60

80

100

120

2001 2003 2005 2007 2009 2011 2013 2015

Haredi Male Haredi Female Arab Male

Arab Female Jewish Male Jewish Female

Sources: CBS; and IMF staff calculations.

Labor Force Participation Rate by Cohorts

(percent)

2003-05:

Cut child

allowance

2005-07:

Mehalev

Program

2007-09:

Visions for Employment Program

Macroeconomic policies for global growth recovery subject to downside risks

Supportive environment for structural reforms while protecting fiscal buffers:

• Monetary policy: remain accommodative pending a durable rise in inflation

• Fiscal policy: ensure Israel has substantial fiscal space to help cushion shocks

– Achieve central government deficit of around 2% of GDP over the cycle, which will keep public debt around 60% of GDP

– Generate spending savings and revenue gains to enable enhanced investment in education and infrastructure, plus expanded ALMP and EITC.

• Housing: reforms to generate lasting supply gains to meet rising population needs

• Macroprudential policy: appropriately tight, Bank of Israel to monitor closely

• Financial sector: safeguard stability during reforms to promote efficiency 20

Thank you!

תודה!

21

World

Advanced

Economies U.S. U.K. Japan Euro Area Germany Canada

Other

Advanced

Asia

2016 3.1 1.7 1.6 1.8 1.0 1.7 1.8 1.4 2.3

2017 3.5 2.0 2.3 2.0 1.2 1.7 1.6 1.9 2.5

Revision

from Oct.

20160.1 0.2 0.1 0.9 0.6 0.2 0.2 0.0 0.0

2018 3.6 2.0 2.5 1.5 0.6 1.6 1.5 2.0 2.6

Revision

from Oct.

20160.0 0.2 0.4 –0.2 0.1 0.0 0.1 0.1 –0.1

Growth projections: Advanced economies (percent change from a year earlier)

Sources: IMF, World Economic Outlook October 2016 Update; and IMF, World Economic Outlook April 2017.22

World

Emerging

Market and

Developing

Economies China India Brazil Russia

Commodity

Exporting

Economies

Low Income

Developing

Countries

2016 3.1 4.1 6.7 6.8 –3.6 –0.2 1.0 3.6

2017 3.5 4.5 6.6 7.2 0.2 1.4 2.3 4.7

Revision from

Oct. 20160.1 –0.1 0.4 –0.4 –0.3 0.3 –0.2 –0.2

2018 3.6 4.8 6.2 7.7 1.7 1.4 2.9 5.3

Revision from

Oct. 20160.0 0.0 0.2 0.0 0.2 0.2 –0.1 0.1

Growth projections: Emerging markets and LIDCs(percent change from a year earlier)

Sources: IMF, World Economic Outlook October 2016 Update; and IMF, World Economic Outlook April 2017 23