The Economy

OECD Urges Caution on Easing Fiscal Support

"A premature and abrupt withdrawal of policy support should be avoided whilst the near-term outlook is still uncertain.”
Matthew HellerSeptember 22, 2021

Governments and central banks should not rush into withdrawing emergency support for their economies, the Organization for Economic Cooperation and Development has warned, citing “sizable uncertainty” about the recovery from the pandemic.

In its latest Interim Economic Outlook, the OECD said the world economy is on course to grow 5.7% this year and 4.5% in 2022 after slumping 3.4% last year amid the height of the COVID-19 crisis.

“Economic growth has picked up this year, helped by strong policy support, the deployment of effective vaccines, and the resumption of many economic activities,” the report noted.

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Some economists have suggested the recovery has reached the point, evidenced by surging inflation, that central banks should withdraw emergency measures such as asset purchases and interest rate reductions.

The OECD wouldn’t go that far, saying, “A premature and abrupt withdrawal of policy support should be avoided whilst the near-term outlook is still uncertain.”

“Temporary overshooting of headline inflation from transient capacity pressures should continue to be tolerated,” it advised, adding that “clear communication is needed about the horizon and extent to which any such overshooting will be tolerated, together with guidance about the planned timing and sequencing of eventual moves towards policy normalization.”

Fueled by recovering demand for goods and supply chain constraints, inflation is expected to peak toward the end of the year at 4.5% on average in the Group of 20 leading economies and ease to 3.5% by the end of 2022, remaining above the rates seen prior to the pandemic.

But the OECD believes the surge is likely to be temporary. “Ultimately, a lasting upward move in inflation from the low rates observed before the pandemic is likely to occur only if wage inflation intensifies substantially, or if inflation expectations drift upwards,” the report said.

“Key steps towards eventual normalization should be sequential,” according to the OECD, and “should be well communicated and state-dependent, guided by financial conditions, sustained improvements in labor markets, signs of durable inflation pressures, and the support being provided by fiscal policy.”

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