G7 Summit: As global economic picture dims, solutions seem perhaps out of reach

WASHINGTON -- As global leaders gather on two continents to take account of a darkening economic outlook, this is the picture they face:

Factories are slumping, many businesses are paralyzed, global growth is sputtering and the world's two mightiest economies are in the grip of a dangerous trade war.

Barely a year after most of the world's major countries were enjoying an unusual moment of shared prosperity, the global economy may be at risk of returning to the rut it tumbled into after the financial crisis of 2007-2009.

Worse, solutions seem far from obvious. Central banks can't just slash interest rates. Rates are already ultra-low. And even if they did, the central banks would risk robbing themselves of the ammunition they would need later to fight a recession. High government debts make it politically problematic to cut taxes or pour money into new bridges, roads and other public works projects.

"Our tools for fighting recession are no doubt more limited (than) in the past," Karen Dynan, an economist at Harvard University's Kennedy School, said.

The International Monetary Fund and the World Bank have downgraded the outlook for world growth. On Thursday, Moody's Investors Service said it expects the global economy to expand 2.7% this year and next -- down from 3.2% the previous two years.

And it issued a dark warning: Get used to it.

"The new normal will likely continue for the next three to four years," the credit rating agency said.

Concerns are rising just as central bankers meet in Jackson Hole, Wyoming, and leaders of the Group of Seven advanced economies gather this weekend in the resort town of Biarritz in southwestern France. A spotlight will shine, in particular, on whatever message Federal Reserve Chairman Jerome Powell sends in a speech Friday in Jackson Hole.

The dour global outlook partly reflects U.S. President Donald Trump's combative trade conflicts with China and other countries. A realization has taken hold that Trump will likely keep deploying tariffs -- and in some cases escalating them -- to try to beat concessions out of trading partners.

"The trade uncertainty is here to stay," said Madhavi Bokil, senior credit officer at Moody's.

Squeezed by protectionism, global trade is likely to grow just 2.5% this year, its slowest pace in three years, the IMF says. Manufacturers, whose fortunes are closely tied to trade, are struggling. J.P. Morgan's global manufacturing index dropped in July for a third straight month, hitting the lowest level since 2012.

The global funk also reflects the pull of gravity: The economies of Europe and Japan, fueled by central banks' easy-money policies, overexerted themselves a couple of years ago and are now returning to their more typical state: Sluggishness.

The IMF expects China's economy, the world's second-biggest, to grow 6.2% this year -- the weakest since 1990 -- and just 6% next year. Trump's trade war is certainly a factor. The president has imposed tariffs on $250 billion in Chinese imports and is set to tax nearly $300 billion more before year's end. China's slowdown is also being orchestrated in part by the officials in Beijing, who are trying to contain lending to control the country's runaway debts.

And an economic chill in China sends shivers into the many countries -- from copper-producing Chile to iron ore-making Australia -- that feed Chinese factories with raw materials.

Then there's Europe. In the 19 countries that use the euro currency, growth slowed in the second quarter to an anemic annual rate of 1.1%, or 0.2% from the quarter before. The eurozone, which maintains close trade ties with the U.S. and China, has been sideswiped by the collision between Trump and President Xi Jinping. And Trump has threatened to impose significant tariffs on European auto imports.

Even more than the tariffs, uncertainty over trade disputes is chilling investment and purchasing. Despite cheap borrowing costs from central bank stimulus, investment in new plants is lagging, an ominous sign that bosses don't foresee a pickup.

In Europe's economic powerhouse, Germany, the economy shrank 0.1% in the second quarter from the quarter before. If output should fall for a second straight quarter, Germany would find itself in a recession.

Some of Germany's troubles originate closer to home. Major automakers have had to sink billions into technology to meet stricter emissions tests. BMW lost money on its car business for the first time in a decade in the first quarter. Daimler posted its first net loss since 2009 in the second quarter.

Brexit is another risk for Europe. Prime Minister Boris Johnson says the U.K. will leave the 28-country European Union and its free-trade zone on Oct. 31, with or without a divorce deal. Not knowing what will happen is a nagging source of uncertainty.

Facing such risks, the European Central Bank has signaled it could launch new monetary stimulus as early as next month. As recently as December, the ECB had been confident enough in the economy to halt a nearly four-year, $2.6 trillion-euro ($2.9 trillion) bond purchase program. That optimism has vanished.

The U.S. economy, now enjoying a record-breaking 10-year expansion, still shows resilience. American consumers, whose spending accounts for 70% of U.S. economic activity, have driven the growth.

Retail sales have risen sharply this year, with people shopping online and spending more at restaurants. Their savings rates are also the highest since 2012, which suggests consumers aren't necessarily stretching themselves thin.

But Trump's tariffs loom over the U.S. economy. The import taxes he plans to impose on China on Sept. 1 and again on Dec. 15 are likely to hit Americans more than the earlier rounds of tariffs.

Already, companies are delaying investments because they don't know where to put new factories, seek suppliers or find customers until they have a better idea where the trade disputes are going. "Uncertainty is high," said Eric Lascelles, chief economist at RBC Global Asset Management. "Businesses everywhere are sitting on their hands."

For all the gloom, Lascelles said policymakers aren't without options. Even with short-term interest rates near zero, central banks can aggressively buy bonds to pump money into the financial system --it's what the Fed, ECB and Bank of Japan did to revive growth during and after the financial crisis.

And even with the heavy debt burdens, governments could capitalize on low rates to borrow cheaply if they decided to stimulate their economies with tax cuts or new spending.