The International Monetary Fund has a brighter outlook on the global economy and the health of the financial system, but it cautions that they aren’t in the clear just yet.

In an update to its outlook on the global economy, the IMF says that the economy “is beginning to pull out of a recession unprecedented in the post–Second World War era, but stabilization is uneven and the recovery is expected to be sluggish.”

Reflecting its rosier view, the IMF has raised its projection for economic growth in 2009–2010 by about 0.5 percentage points from its April outlook, and it now expects growth to reach 2.5% in 2010. For Canada, it sees -2.3% growth this year and 1.6% next year, improvements of 0.2 percentage points and 0.4 points, respectively, from its April outlook.

“Financial conditions have improved more than expected, owing mainly to public intervention, and recent data suggest that the rate of decline in economic activity is moderating, although to varying degrees among regions,” the IMF said.

However, despite the positive signs, it stresses that the global recession is not over, and that the recovery is still expected to be slow, “as financial systems remain impaired, support from public policies will gradually diminish, and households in countries that suffered asset price busts will rebuild savings.”

The main policy priority remains restoring financial sector health, the IMF maintains. “Macroeconomic policies need to stay supportive, while preparing the ground for an orderly unwinding of extraordinary levels of public intervention. At the same time, given weak internal demand prospects in a number of current account deficit countries, including the U.S., policies need to sustain stronger demand in key surplus countries.”

The IMF judges that the risk of systemic collapse has been reduced, but it warns that vulnerabilities remain and complacency must be avoided. “The financial sector continues to be dependent on significant public support, resulting in an unparalleled transfer of risk from the private to the public sector. At the same time, however, work will need to begin on exit strategies from the various financial, monetary, and fiscal support policies in order to address market uncertainty. Medium-term policies need to ensure that steps taken to normalize policies and markets are consistent with establishing a lasting framework of sound financial regulation, sustainable fiscal balances, and the maintenance of price stability,” it says.