China warns debt woes threaten global recovery

Premier Wen Jiabao, addressing business leaders during an official visit to Japan, issued his warnings a day after France admitted it will struggle to keep its top credit rating and days after a downgrade of Spain's credit status again jolted financial markets.

Referring to the risk of a second dip in global economic growth rates, Wen said: "I believe that we can't say with absolute certainty, so we must undertake close observation and act to prevent it.

"The world economy is stable and beginning to revive, but this revival is slow and there are many uncertainties and destabilizing factors," he said, adding it was too early to wind down stimulus deployed during the 2007-2009 financial crisis.

Governments around the world ran up record debts during the $5 trillion effort to pull the economy out of its deepest slump since the Great Depression and now face a tough balancing act: how to reduce debt without choking off growth.

"Some countries have experienced sovereign debt crises, for example Greece. Is this kind of phenomenon over? Now it seems that it's not so simple," Wen said. "The sovereign debt crisis in some European countries may drag down Europe's economic recovery."

ECB Governing Council member Ewald Nowotny summed up the task.

"The big challenge is to prevent a vicious circle in which (a) crisis of the public sector again leads to crisis developments in the financial and real sectors of the economy," he told a conference hosted by Austria's central bank.

Greece stumbled into the global spotlight late last year when it sharply revised its budget deficit figures, provoking a series of credit downgrades and sending its borrowing costs soaring, which in turn fanned fears it may default on its obligations.

While a 110 billion euro rescue package put together by the European Union and the International Monetary Fund helped avert an immediate meltdown, it failed to dispel fears that other highly indebted euro zone members such as Spain, Portugal and Italy may face a similar fate.

Political Backlash

A massive 750 billion euro emergency scheme cobbled together by EU leaders early this month, again with IMF help, aimed to deter with its sheer size possible speculative attacks on the euro zone's weaker members and thus support the euro.

In return for the safety net, Athens, Lisbon, Madrid and Rome signed billions of euros in spending cuts and tax hikes to rein in debt, despite an outcry from trade unions and political backlash.

IMF Managing Director Dominique Strauss-Kahn praised Spain's austerity package in a newspaper interview, saying they should help restore confidence.

On Friday, Fitch became the second ratings agency to strip Spain of its top triple-A rating a day after it passed its austerity plan by a single vote.

However, recent opinion polls showing the ruling Socialists trailing badly behind the center-right opposition cast doubt whether the government will manage to muster enough support in parliament for its budget.

Such concerns, have been plaguing the euro, which is heading for its worst month since January 2009, down more than 7 percent against the dollar since the start of May and heading for the sixth straight monthly fall. It was steady in Asia on Monday.

"It is difficult to see a recovery in market sentiment as there are worries that further bad news about southern European countries may come out," said a currency trader at a Japanese bank.

Investors and policymakers around the world are also increasingly worried that Europe's efforts to cut debt will sap the continent's anemic growth, denting demand for exports from emerging economies and derailing the global recovery.

The fact that not just the fiscally weakest southern European countries, but also nations at the euro zone's core are under pressure to cut debt and deficits amassed during the financial crisis, is adding to those concerns.

On Sunday, France said keeping its AAA credit rating would be a stretch without some tough action on its deficit, while Germany indicated it might resort to raising taxes to bring its shortfall closer to the EU's limit of 3 percent of gross domestic product.

France, the euro zone's second-largest economy, expects the budget deficit to hit 8 percent of GDP this year, but aims to bring it down to the EU limit by 2013. Germany, Europe's biggest economy, expects its deficit to exceed 5 percent of GDP in 2010. In the future, major improvements are needed in the euro area to prevent bad fiscal behavior and to enforce effective sanctions in the case of breaches of fiscal rules, the head of the European Central Bank, Jean-Claude Trichet told the conference in Austria.

Striking a more optimistic note, China's Wen said the world's third-largest economy and its prime growth engine remained on course to meet its growth targets this year, though he added it would require Beijing to "maintain a certain level of intensity in its economic stimulus."

[Source: By Chris Buckley and Yoko Nishikawa, Reuters, Tokyo, 31May10]

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