World at Risk of Folding in on Itself: Deputy Doom

The global economy is at risk of folding in on itself unless policy makers face up to the threats of inflation inflexibility and exchange-rate inflexibility, according to Arun Motianey, director of fixed income strategy at Roubini Global Economics.

A Japan-like outcome is a big risk for the developed world with deflation a big danger, he said.

Recent figures show that the recovery is sputtering in the US while China's booming growth has slowed down slightly, as Beijing unwinds stimulus measures.

The Bank of Japan revised upwards is economic forecast but reiterated it will maintain its easy money policy.

In his new book "SuperCycles" Motianey says the world has managed to recover from a number of shocks since the Latin American debt crisis, but getting over the financial crisis will be much harder.

"The global rebalancing mechanism through flexible exchange rates is not working as well as it should," Motianey said.

"Many emerging markets are resisting changes in nominal exchange rates. Higher inflation is causing some correction in real terms but it is too little and may turn out to be too late," he added.

China is the key to correcting this problem, according to Motianey. He warned that the challenges facing the developed world look even more problematic.

"Financial markets have become intolerant about governments acting as a source of final demand in the developed market," he said. "We are seeing this most dramatically in the European sovereign debt crisis that is now mutating into a European bank crisis."

With both these factors hitting growth, the threat of the world economy folding in on itself is now ever-present, Motianey said.

"If we slide into deflation - the likely fate of the developed market - a Japan-style outcome will become inevitable," he said.

"In Japan, the BoJ has lost the ability to create inflation and is condemned to deflation. Central banks may now need to talk about the necessity of inflation...before it is too late."

- Watch the full interview with Arun Motianey above.

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