Figure 1: Increments to world GDP, in bn USD. China (light blue), India (orange), Russia (turquoise), Brazil (purple), Eurozone (green), US (red), and rest-of-world (blue). Source: IMF, World Economic Outlook, April 2012 database, and author’s calculations.

That is why the news from China is consequential (and I think the April IMF forecast is a little optimistic with respect to Eurozone growth, given recent developments, both policy and economic). From the World Bank’s China Quarterly Update, published in April:

Figure 2 from China Quarterly Update (April 2012).

Clearly, a slowdown is underway. In addition, a domestic source of growth –- namely the property market –- is cooling off.

Figure 4 from China Quarterly Update (April 2012).

With price pressures declining, China has some flexibility in terms of response. Monetary policy is easing already, by way of decreased reserve requirements. More likely fiscal policy will be stressed, as China has more fiscal space [1] than countries that engaged in reckless tax cuts at the beginning of the last decade [2]. (Although see Eswar Prasad’s arguments regarding how China should structure its fiscal response [3]

Figure 16 from Deutsche Bank, “What Can Asia Do?” Global Economic Perspectives (May 25, 2012) [not online].

Just because there is a government reaction function does not mean, however, that Chinese policymakers can actually hit the target. (Similarly, I think people are mistaken when they assert in the US context that because there is a Fed reaction function, a given output growth target can always be achieved.)

The slowdown in the BRICs and recession in the Eurozone (and the UK!) highlights the need to avoid the contractionary impact of ending extended unemployment benefits, the payroll tax rate reduction, and the provisions of EGTRRA and JGTRRA. [4]

This post originally appeared at Econbrowser and is posted with permission.