U.S. Failure To Lift Debt Ceiling Could Damage World Says IMF

Failure to raise the U.S. debt ceiling could damage not only the United States but the rest of the global economy, International Monetary Fund chief Christine Lagarde said on Thursday (October 3).

"It is 'mission-critical' that this be resolved as soon as possible," she said in a speech in Washington, ahead of the IMF and World Bank annual meetings next week.

She said growth in the United States has already been hurt by too much fiscal consolidation, and will be below 2 percent this year before rising by about 1 percentage point in 2014.

The U.S. Congress imposed a so-called sequester, or across the board government spending cuts, earlier this year after failing to agree on a broad budget package.

Turning to the rest of the world, Lagarde pointed to signs of progress in the euro zone and Japan, but said transitions to more stable growth may take a while. The turbulence could reduce GDP in major emerging markets by 0.5 to 1 percentage points, she said.

Lagarde said emerging markets have suffered since the U.S. Federal Reserve announced plans to eventually scale back its own monetary stimulus, which prompted capital outflows as investors bet on higher rates in advanced economies.

Speaking to her audience in broader terms, Lagarde said that five years after the world averted a "second Great Depression," economies are undergoing "multiple new transitions" that may take a decade or longer for many countries to adjust to before there is a full recovery.

She said two kinds of economic transitions stand out in particular -- changes in the patterns of economic growth and a move toward a new kind of financial sector.

"The new rules are changing the economics of banking," said Lagarde. "It is likely that some of the largest banking institutions will not do as much by way of financing infrastructure projects, for instance, or project financing or mortgage lending."

Finally, Lagarde called on governments to better work together on reforming the financial sector, calling progress too slow, partly due to divergences among different countries. She pointed in particular to the "danger zone" of shadow banking, or the non-banking sector that is not under formal regulation.

In the United States, shadow banking is twice the size of the banking sector, and in China half the credit given this year has come from shadow banking, she said.