The economies of the world appear to be heading into a simultaneous slowdown and possibleglobal recession that could bear significant consequences for U.S. and world employment,government finances, stock markets, international trade, and capital flows. The poor economicoutlook has been clouded even further following the terrorist attacks on September 11, 2001 in theUnited States, even though industrialized nations around the world have taken action to easemonetary policies in an attempt to forestall further declines in economic growth rates. There hasbeen a sharp curtailment of activity in industries such as travel and tourism, a drop and slow recoveryin stock markets, and sagging consumer confidence not only in the United States but in numerousother countries. Unlike the Asian financial crisis of 1997-99 when economic strength in the United States and Europe offset weakness in Asia, Russia, and Brazil, this time all major economies seem to beslowing at the same time. The U.S. response to this global downturn has entailed and may requireadditional action by the U.S. Federal Reserve, the Bush Administration, and the Congress in concertwith the International Monetary Fund (IMF) and other multinational organizations. Congressional interest in this issue is related to: (1) the effects of global economic turmoil on the U.S. economy, (2) operations of the International Monetary Fund, (3) U.S. responses toglobalization, and (4) U.S. policies to stimulate the economy. Among these policy issues, this reportwill focus on the spread and effects of the economic turmoil with a focus on Asia. For informationon globalization, see CRS Report RL30955(pdf) , The Issue of Globalization - an Overview , by Gary J.Wells and CRS Report RL30891 , Global Markets: Evaluating Some Risks the U.S. May Face , by[author name scrubbed]. For information on the IMF, see CRS Report RL30635 , IMF Reform and theInternational Financial Institutions Advisory Commission , by J.F. Hornbeck; CRS Report 98-987(pdf) , Brazil's Economic Reform and the Global Financial Crisis , by J.F. Hornbeck, and CRS Report RL30467(pdf) , IMF and World Bank Activities in Russia and Asia: Some Conflicting Perspectives . Following the 1997-99 Asian financial crisis, most countries seemed to be on the path towardrecovery and sustained growth. The dip in economic growth rates was short-lived, and except forIndonesia, countries in Asia which had been the hardest hit by the crisis began recovering relativelyquickly. In 2000, world economies grew by an average of 4.0% with strong growth in grossdomestic product (GDP) in the Former Soviet Union (7.8%), North America (4.1% in the U.S., 4.6%in Canada), Asia/Oceania (4.0%), South America (3.3%), and Western Europe (3.5%). For 2001,world growth is slowing. The growth rate in global GDP is expected to drop by more than half. TheEconomist Intelligence Unit forecasts 1.7% for the year, while DRI-WEFA projects 1.4% (both areeconometric forecasting firms). Anything below 2% is considered to be recessionary for the world. This would be the most rapid deceleration in world economic growth since the 1974 oil price shockand includes truly recessionary economic conditions for many countries. As shown in Figure 1 , according to DRI-WEFA, world economic growth is forecast to dropfrom 4.0% in 2000 to 1.4% in 2001 and then to recover somewhat to 2.0% in 2002. The drop ingrowth in 2001 is expected to be slightly greater in the United States (1.0% growth in GDP in 2001),Canada (1.3%), and in Japan where growth is expected to drop into negative territory (-1.2%). InWestern Europe, the average growth rate for the Big Four - France, Germany, Italy, and the UnitedKingdom - combined is expected to drop to a sluggish 1.8%. For Latin America, Mexico's growthrate likewise is dropping from 6.9% in 2000 to an expected 0.1% in 2001, while the average forseven South American countries (Argentina, Brazil, Chile, Columbia, Ecuador, Peru, and Venezuela)also drops from 3.3% in 2000 to 1.0% in 2001. The middle-income countries of Asia are dominatedby India and China. Beijing and foreign investors are pumping enough money into the economy tokeep China at 7.2% growth in 2001, while India's growth is holding at about 5.0%. Among otherAsian countries, growth in Hong Kong is expected to plummet from a phenomenal 10.5% in 2000to -0.3% in 2001. Taiwan is in similar straits as growth is dropping from 6% in 2000 to arecessionary -2.1% in 2001. The economic growth rate in South Korea also is plunging from 8.8%in 2000 to 2.0% in 2001. During the 1997-99 Asian financial crisis, the United States served as an export market of last resort. In 1998, countries in Asia were able to begin recovery largely by exporting to the boomingU.S. market. This time, however, the slowdown in the United States is being spread to many of thecountries in Asia that depend on exports to the U.S. market. Particularly in information technology,as the bust in U.S. information technology markets has proceeded, some of the first suppliers to becut off have been those overseas. Taiwan, in particular, is dropping into recession partly becauseits exports to the United States of electrical machinery (including integrated circuits) and computersare down. As other countries have slowed, moreover, their demand for imports from the UnitedStates also has turned sluggish. Even though overall U.S. exports are declining only slightly, overthe first eight months of 2001 U.S. exports to Taiwan dropped 23% and to South Korea fell by 19%. Some of this is attributable to the strong U.S. dollar, but deteriorating growth abroad is a majorcause. This is combined with declining consumer confidence and problems still unresolved fromthe previous financial crisis. Still, the drop in U.S. imports because of the weak U.S. economy ismore than offsetting the decline in U.S. exports to cause the overall U.S. balance of trade to improvesomewhat. How does a financial crisis in one country, such as Thailand in 1997, set off global responses,destroy billions of dollars in wealth, throw millions of people into poverty, and even set off eventsleading to changes of governments? In the current economic scene, how does economic weaknessin one country get transmitted across borders to bring down economic activity in another? What arethe roads of contagion for economic conditions? Economies always have interacted with each other, but globalization has added a new dimension to the international pathways among them. Financial markets today are international inscope and are more linked, volatile, leveraged, and of greater size than at any time in history. Theeconomies of the world have become more interconnected not only through trade in goods andservices but through flows of investment capital, speculative financial activities, and bank loans. These extensive linkages have combined with rapid communications to make currency and stockmarkets more volatile and easily influenced by events and economic conditions in other countries. Financial investments also have become more leveraged with borrowed funds. When marketssuddenly turn, these highly leveraged positions can generate enormous losses (or gains). The magnitude of the flows of capital among countries also has become huge and unprecedented. A study by the Bank for International Settlements indicates that the volume offoreign exchange transactions in 43 markets has exploded to an estimated $1.5 trillion per day (aftermaking corrections for double counting) -- or about 60 times as great as world trade in goods andservices. (2) Private capital flows have grown to theextent that many countries no longer can maintainadequate foreign exchange reserves to handle sudden outflows or to keep such outflows frompushing down exchange rates. Between 1990 and 1998, the assets of mature market institutionalinvestors more than doubled to reach $30 trillion - about equal to world gross domestic product. In 2000, net inflows into the United States, the world's largest recipient of capital flows, exceeded$400 billion. This included a record level of foreign portfolio investment in U.S. equities andcorporate bonds. These increased levels of trade and investment provide the pathways by which business cycles are transmitted from one economy to another. The extent to which foreign economic conditions canaffect a particular economy, however, depends on how large the economy is, how large the foreignsector is relative to the rest of the economy, and whether domestic monetary and fiscal policies aswell as economic activity go counter to or complement that which is happening in other economiesof the world. Each country will experience economic shocks that can be purely domestic, such asthe crash of the information technology market in the United States. Other economic shocks can beglobal, such as a spike in oil prices or a simultaneous downturn in Europe and Asia. The larger an economy, the less it is likely to be affected by international economic fluctuations. In a world economy of $31 trillion, the economies of the United States ($9.8 trillion GDP), theEuropean Union ($7.8 trillion), and Japan ($3.4 trillion) are large enough that their domesticeconomic conditions tend to affect other economies more than they are affected by them. Still, theyare not immune to international economic conditions, and international commodity prices, such asthat for petroleum, are transmitted to them directly.