IMF's Rato says dollar undervalued, risks grow

MADRID (Reuters) - IMF chief Rodrigo Rato said on Monday the U.S. dollar was undervalued and risks to the global economy from market turbulence were greater than six months ago.

"From the point of view of comparison on a weighted trade basis, the dollar would be below parity, but that doesn't mean that is the case against all currencies," the International Monetary Fund's managing director said at an economic seminar in Madrid.

The dollar has declined sharply against the euro and some other freely floating currencies since defaults on U.S. mortgages in August triggered a global credit squeeze and an aggressive Federal Reserve interest rate cut last month.

The dollar fell to a record low against the euro last week and an index that gauges its value against a basket of six other major currencies also fell to a record low.

CRISIS FAR FROM OVER

Rato, who hands over the leadership of the IMF to Dominique Strauss-Kahn at the end of this month, said financial markets faced a serious situation that was far from resolved.

"There are risks financial turbulence persists, and its impact on the real economy is greater, for instance a recession in the United States, which is not what we expect at the moment," Rato said.

The credit crunch has so far hit wealthy nations hardest. Rato saw risks of it spreading to developing countries if it jumped into an emerging market.

"This would produce a globalization of risk and an increase in financing cost for all emerging market countries," Rato said, adding that was not a situation the IMF saw happening at present.

He said the Fed's decision to cut interest rates, and moves by the European Central Bank and Bank of Japan to keep them steady, had helped alleviate the credit crunch caused by banks' reluctance to lend to one another.

"These are sensitive decisions that will help to limit the impact on the general economy," Rato said.

European central banks had reacted adequately to the credit crunch, he said.

"The moves taken by the central banks have been the correct ones. From the point of view of governments, they have to understand that this credit crisis is going to have an effect on real growth," he said.

But Rato said it was not yet clear how big an impact the credit crisis had made.

"It will be months before we can evaluate the full magnitude of losses among banks and investors," he said.

The main impact of market turbulence will be on 2008 global economic growth, sending it slightly below levels of 2006 and 2007, Rato said.

He saw strong global expansion during 2008, in historic terms, due to sound fundamentals in developed countries and emerging markets.

"Our view of the world economy in 2008 is relatively optimistic, but we have to say that if the turbulence in credit markets is prolonged, the effect on the economy would be much more grave," he said. "The risks are greater today than six months ago."

NEW ERA IN LATIN AMERICA

Rato said emerging markets could face financing and economic risks if the crisis drags on but Latin America was far better prepared to face shocks.

Some Latin American countries could see 2008 economic growth reduced by half a percentage point, Rato said.

That would be a relatively small impact given previous pain from crises like that of Mexico in 1995 and Argentina in 2002.

"This will mark a break with past vulnerability to contractions in global growth," Rato said.

The former Spanish economy minister said countries with high current account deficits and debt levels were most exposed to the credit crunch.

"International crises have most effect on countries which require international financing," Rato said, urging governments to keep an even stronger grip on public spending.