The Organization for Economic Co-operation and Development reported Wednesday that economic activity in OECD countries is picking up faster than expected, but the outlook faces increased risks, too.

Gross domestic product across the OECD is projected to rise by 2.7% this year and by 2.8% in 2011. These are upward revisions from the group’s November 2009 forecasts of OECD-wide GDP growth of 1.9% in 2010 and 2.5% in 2011.

In the United States, activity is projected to rise by 3.2% this year and by a further 3.2% in 2011. Euro area growth is forecast at 1.2% this year and 1.8% next while, in Japan, GDP is expected to expand by 3.0% in 2010 and by 2.0% in 2011. For Canada, GDP is expected to grow at 3.6% this year and 3.2% in 2011.

However, this rosier outlook faces two notable risks, the volatile sovereign debt markets, and the prospect of overheating in emerging-market economies. Strong growth in China and other emerging markets is helping to pull other countries out of recession, but at the same time, the risk of overheating and inflation is growing in emerging markets, the OECD says.

It warns that a boom-bust scenario cannot be ruled out, requiring a further tightening in countries such as China and India. The knock-on effect would be slower growth in other regions, it notes.

Additionally, the instability in sovereign debt markets poses another serious risk. The OECD says that bolder measures need to be taken to ensure fiscal discipline.

“This is a critical time for the world economy,” said OECD secretary-general, Angel Gurría. “Coordinated international efforts prevented the recession from becoming more severe but we continue to face huge challenges. Many OECD countries need to reconcile support to a still fragile recovery with the need to move to a more sustainable fiscal path. We also need to take into account the international spill-overs of domestic policies. Now more than ever, we need to maintain co-operation at an international level.”

Also, it notes that with a huge debt burden weighing on many OECD countries and the strengthening recovery, the emergency fiscal measures provided by governments to tackle the crisis must be removed by 2011 at the latest. “To support growth as budgets are being tightened, macroeconomic, financial and structural policies need to be linked. Spending cuts or tax rises should focus on areas that are the least harmful to growth. Fiscal rules could enhance the credibility of plans to strengthen public finances. Reforming product and labour markets to enhance competitivity must also be part of the strategy,” it adds, noting that although economic activity is picking up, the growth in jobs is not keeping pace. The number of unemployed has risen by 16 million in OECD countries in the past two years.

For Canada, the OECD says the pace of recovery is projected to “moderate… as policy stimulus is withdrawn, inventory rebuilding runs its course and households deleverage. Unemployment should keep declining and inflation pressures stay muted, given remaining economic slack. The high rate of household indebtedness is a source of risk to the outlook.”

It adds that the Bank of Canada should “start normalizing its policy rate without delay and tighten gradually throughout the projection period. Governments should let remaining temporary stimulus measures expire to avoid overstimulating the economy as it recovers on its own. To build credibility, they should flesh out recently announced fiscal consolidation plans, focusing on spending reductions, and embark on the structural reforms these plans require.”

IE