WASHINGTON — The world economy will slow sharply this year and next, with the United States likely sliding into recession reflecting mounting damage from the most dangerous financial jolt in more than a half-century.
The International Monetary Fund, in a World Economic Outlook released Wednesday, slashed growth projections for the global economy and predicted the United States — the epicenter of the financial meltdown — will continue to lose traction.
Sign Up and Save
Get six months of free digital access to the Lexington Herald-Leader
"The world economy is now entering a major downturn in the face of the most dangerous shock in mature financial markets since the 1930s," the IMF said in its report.
The IMF's projection was made before the Federal Reserve and other major central banks from around the world slashed interest rates Wednesday in an attempt to prevent a financial crisis from becoming a global economic meltdown.
The Fed reduced its key rate from 2 percent to 1.5 percent. In Europe, which also has been hard hit by the financial crisis, the Bank of England cut its rate by half a point to 4.5 percent, while the European Central Bank sliced its rate to 3.75 percent.
Also cutting rates were the central banks of China, Canada, Sweden, and Switzerland.
After the interest-rate cut, the stock market rallied several times before another late-day drop left Wall Street down for the sixth straight day.
The Standard & Poor's 500 index, the market measure most closely followed by traders, fell 1.13 percent — compared with a 3.85 percent slide Monday and a 5.74 percent drop Tuesday. The Dow Jones industrials fell 189 points, a number that while sizeable was less frightening than the 875 it lost over the first two days this week.
Investors had been hankering for a rate cut, and they were clearly happy with the central banks' actions. However, they were also aware that in the near term, the credit markets remain tied up because banks are reluctant to lend.
That mix of emotions had the major indexes wavering between gains and losses until Treasury Secretary Henry Paulson said financial markets remain severely strained. He also said it would be several weeks before the government's $700 billion financial rescue plan makes its first purchases of banks' troubled mortgage-backed assets.
The IMF's chief economist, Olivier Blanchard, called the orchestrated rate cuts "clearly a step in the right direction." However, he warned that it is also clear that "there will be tough economic times ahead." Lower rates aren't a cure-all, he said. "By itself, it cannot solve the problem, but it is part of the solution."
The IMF now projects that the global economy, which grew by a hardy 5 percent last year, will lose considerable speed, slowing to 3.9 percent this year. It is forecast to weaken even more — to just 3 percent — next year, marking the worst showing since 2002. In the past, the IMF has called global growth of 3 percent or less the equivalent to a global recession.
Asked about the risk of the global economy getting stuck in a prolonged downturn, Blanchard responded: "I believe that the risk of a Great Depression is nearly nil."
The financial crisis, which erupted in the United States in August 2007 and has quickly spread around the globe, entered a tumultuous new phase last month, badly shaking confidence in global financial institutions and markets, the IMF said. It has triggered a cascading series of bankruptcies, forced mergers and radical government interventions — such as the United States' unprecedented $700 billion financial bailout — to stem the fallout.
The new projections come before a gathering of the world's top economic powers on Friday and the weekend meetings of the IMF and the World Bank. The jarring financial crisis is likely to figure prominently in those discussions.
In the United States, the economy, which grew by 2 percent last year, is projected to slow to 1.6 percent this year. Growth would screech to a virtual halt in 2009, barely budging at just 0.1 percent. That would mark the worst showing since 1991, when the country was pulling out of a recession.
"With a recession now looking increasingly likely, the key questions are, how deep will the downturn be, when will a recovery get under way and how strong will it be?" the IMF asked.
Much will hinge on how effective the United States' steps to stabilize financial markets and get credit flowing more freely again turn out to be. Another important factor is whether these and other actions turn around U.S. consumers, whose retrenchment is hurting the economy.
The IMF and many private economists think the U.S. economy will probably contract in the final three months of this year and the first three months of next year, meeting a classic definition of a recession. The economy's last recession was in 2001.