In recent days, Citi strategist Jonathan Stubbs and his colleagues have warned that the global economy is trapped in a “death spiral.”[1] Economist Mohamed El-Erian says that the era when policymakers could rely upon growth from easy money provided by Central Banks is over, and went on too long[2]. Nouriel Roubini, also known as Dr. Doom for calling the mortgage crisis before most others, believes that extreme volatility, sluggish growth, deflationary pressures, financial stress and “unconventional” monetary policies are part of a “new abnormal” that could last for years. [3] William White, who heads the OECD’s Economic Development and Review Committee, not only warned of a possible financial crisis before it hit, but in 2012 wrote convincingly about the potential for “ultra-easy money” policies to have the unintended consequence of making things worse over time. [4]
Larry Summers now sees a one-in-three chance of a global recession[5] in the next three years. The IMF — known for somewhat rosy forecasting — has again lowered estimates of global growth, as has the OECD.[6] Yet, the IMF still projects over 3 percent annual global growth for 2016 and 2017[7], while more pessimistic forecasts cluster at just under 3 percent.[8] The U.S. economy puttered along at around 2.4 percent growth in 2015[9], with falling unemployment, real wage increases, strengthening bank balance sheets and various other signs of economic life, which bring some hope to the global economy.
So, why the doom and gloom? And what, pray tell, could be done to dodge another global recession?
The underlying realities of the global economy are a lot like the television commercial where an elderly woman cries out, “help, I’ve fallen and I can’t get up.” Since the great recession of 2008-2009, policymakers worldwide have relied upon liquidity flooded into global markets by Central Banks to mitigate the severe damage of financial meltdown. With this, we avoided global depression, but growth has yet to lift-off sustainably in the years thereafter. Governments most certainly should have used those years to ensure healthy financial sectors and balance sheets, to rationalize public budgets, to invest in the productivity of their people and economies, and to make major improvements in public and corporate governance and institutional integrity. They should have acted boldly to facilitate and reduce the cost of business start-ups, and to facilitate financial inclusion and reduce the risk and cost of private investment, including in infrastructure. But facing already hard-hit domestic economies, tight budgets and political opposition, few did. And policymakers now fear they have little monetary or fiscal ammunition, or public support, with which to combat fearsome global economic clouds.
Since the financial meltdown, already unhealthy levels of debt worldwide — public, corporate and household — have continued to rise[10] even as private investment, commodity prices and emerging economy stock markets collapsed. Developing country equities lost $4.3 trillion in value in Q3 of 2015 alone. Global unemployment rates meanwhile have remained stuck at around 6 percent. [11] International trade, a reliable indicator of economic vibrancy, has slowed to a crawl due to low demand, a lack of trade finance and outright protectionism. [12] [13]Manufacturing and industrial output too are down.[14] And even if China manages a soft landing while transitioning industries away from state-managed export production to a more market-oriented service economy — no small feat — its economic slowdown will continue to have broad impacts. China’s growth was responsible for about one-third of global growth over the past seven years. Growth has to come from somewhere.
Emerging markets had been the global economy’s best hope. But in 2015, nearly $1 trillion in investment capital fled from emerging markets, the first net outflow in 27 years. Oil prices have declined far steeper and faster than predicted, but that hasn’t offset other strong headwinds, even in oil importing countries. A strong dollar and weakening Chinese yuan (despite some recent Chinese efforts to prop it up) only make it harder for emerging markets to manage debt while trying to finance basic goods and services. Trillions of dollars have been wiped off the books as stock markets rise and fall precipitously, especially in emerging markets. And despite extremely low interest rates, banks, investment funds, corporations and people are hoarding cash, preferring to save rather than spend or invest for higher yields.
And make no mistake, though hundreds of millions escaped poverty in recent decades (mostly in China), tens of millions have now fallen back into poverty, in rich as well as poor countries. This includes millions in Russia, a resource-rich country with skilled labor, where plummeting oil prices and spending on guns versus butter have reversed economic gains. Furthermore, deep and destabilizing inequalities persist globally, and are worsening. Popular frustrations threaten to boil over in many countries — as we saw during the Arab Spring. Today, the poorest half of the population typically holds less than 10% of the wealth, in developed and developing economies alike. Pew Foundation surveys[15] find that some 75 to 90 percent of people believe inequality to be extremely serious, and they fault their governments.
And this “new abnormal” of stagnating growth, social immobility and low confidence in institutions and leaders is dangerous. Along with the real risk of another wrenching global recession comes risk of even greater instability in a world plagued with high levels of geo-political instability and great uncertainty. When people, political leaders and/or specific groups feel disenfranchised, targeted or blamed for economic dislocation and division, and helpless to make things better, they do not react well. Results can include nationalism, nativism, extremism, protectionism, military adventurism, conflict and violence. Such reactions are already evident in today’s world. It’s not the first time.
These dangers, and the economic cost and human suffering that would result from a global economic “death spiral,” are neither inevitable nor insoluble. There are substantial, untapped global assets and opportunities for growth and progress. Thorny, persistent growth-barriers — such as corruption and weak rule of law and property rights — could be more effectively tackled rather than left to fester and undermine productivity. Good and coherent, not perfect, policy approaches might well encourage people to invest, take entrepreneurial risks to deliver new goods and services that are wanted and needed, or to improve and deliver existing products and services more efficiently. As Larry Summers recently opined, however, we seem “stuck.” When times are tough economically and geopolitically, coordinated action among responsible governments may be most needed, but often hardest to achieve. But an “every country for itself” policy approach simply won’t work to restart economic engines.
Fortunately, high-return opportunities for governments, communities and private enterprise to work together and invest productively worldwide are actually tremendous. Think about it: billions of people do not yet have regular access to basics such as clean water, reliable transportation, primary health care, electricity, literacy and useful skills, internet and communications technology, financial services, sanitation, housing , proper nutrition, a healthy natural environment, legal rights and accountable governance, and freedom from violence and repression. And even where those things are largely available, such as the United States and Europe, they cost more than they should and do not provide the best results possible. There are at least 20 highly-diverse countries with populations greater than 40 million — e.g. Algeria, Argentina, Bangladesh, Brazil, China, Colombia, the Democratic Republic of the Congo, Egypt, Ethiopia, India, Indonesia, Iran, Kenya, Mexico, Myanmar, Nigeria, Pakistan, the Philippines, South Africa, Tanzania, Thailand, Turkey, Viet Nam — where creativity, drive and productivity have yet to be unleashed to anything near the potential. And even in countries with slow-growing and aging populations, there are plenty of unmet needs that markets could help to address — for better health, more convenient, reliable goods and services, and enriching social and cultural experiences.
The real dilemma now is what can and should be done to get out of any economic “death spiral.” It certainly will require instilling confidence that an integrated global economy and pluralistic societies that value both inclusion and competition can work, and deliver lasting improvements in people’s everyday lives. Nobel laureate economist Hernando de Soto recognized decades ago that a failure to integrate large swaths of people into the formal economy, with their property rights established and protected, would leave only an elite minority to enjoy the economic benefits of the law and globalization. The productivity and assets of those not included and protected by economic systems (tens of trillions of dollars) would languish as “dead capital.” He knew all too well from violent peasant rebellion in his native Peru that failing to build social systems within which the poor (and the middle class, many would argue) can be productive and meet basic needs, especially while others prosper disproportionately, is a recipe for instability. And conflicted, divided societies grow more slowly, which only makes things worse. No surprise that all sorts of alarms are sounding just now.
G20 Finance Ministers and Central Bank Governors meet at the end of this month, February 26-27, in Shanghai. China chairs the G20 this year. G20 members represent around 85 per cent of global gross domestic product, over 75 per cent of global trade, and two-thirds of the world’s population. The G20[16] also includes many of the emerging markets with the greatest untapped potential to help get us out of this “death spiral.” The G20 could commit to specific measurable near- and longer-term steps and outcomes — together and individually — that would steer the global economy towards more confidence and certainty, and sustained growth, if they can agree together to take some politically-difficult steps. As IMF Managing Director LaGarde urges, we need a “New Partnership for Growth.”[17]
Here are some growth-oriented policy initiatives and themes which could be part of urgent, concerted G20 effort to fuel shared global growth, job creation, financial stability and rising productivity:
1) Infrastructure with Integrity — Trillions of dollars of investment in new and rehabilitated infrastructure is needed worldwide, and good infrastructure correlates directly with growth.[18] It is estimated that redirecting savings toward efficient investment in emerging market infrastructure alone could increase global GDP by around 7 percent over the next 10 years.[19] Some two-thirds of all Africans still have no access to electricity, obviously a constraint to growth. But infrastructure spending is notoriously a place in which to hide corruption, waste and over-spending. With interest rates low, materials cheap and labor available, the G20 should act on its own superb work to launch an “Infrastructure with Integrity” initiative to match private investment (especially long-term institutional capital) with projects in countries committed to competition, transparency and supportive policies. Those countries and projects could also be supported by bilateral and multilateral funding, project development services, investment guarantees and risk insurance. Links to the Open Government Partnership (OGP) Initiative and Construction Sector Transparency (COST) initiative could help to reduce the risks that keep private investors on the side lines and out of such investments.
2) Trade and Investment Cost Reduction — The World Bank and other institutions have very useful ways of measuring the high cost and counterproductive impacts of logistical, legal and regulatory and other impediments to trade and investment and market entry barriers. The global implosion of trade and investment levels (both domestic and foreign) highlight the value of an urgent campaign to reduce such costs. By some estimates, the stock of products subjected by G20 members to non-tariff barriers and other less transparent restrictions is up by some 50 percent since the global financial crisis. The new G20 Trade and Investment Working Group could launch a program to support (with multilateral involvement) programs and commitments aimed at measurably reducing these costs and barriers at the national and regional level.
3) Business Ecosystem Development — Dynamic, inclusive economies flourish best where the “business ecosystem” for private enterprises of all sizes and types (including start-ups and disruptors) is healthy, competitive and integrated across the value chain. A G20 focus on analyzing and measurably improving and enabling such an “ecosystem” might better promote comprehensive action on elements that together promote efficiency and productivity — rule of law and property rights, institutional capacity and accountable governance (both public and private), sound and inclusive financial systems, efficient tax and regulatory systems, human capital investment and sustainable natural resource management. G20 Members could model success by auditing and committing to improve measurably their own “business ecosystems,” building on indicators and indices maintained by the World Bank and other institutions.
4) Strong Fundamentals for Balanced Growth — The G20 has a Working Group on the Framework for Strong, Sustainable and Balanced Growth, but its crisis-era focus has been on near-term stabilization. It looks to be time for a pivot to committed steps on structural reform. Fiscal sustainability (which requires growth not just “austerity”), e.g. as regards entitlements and broader tax bases; labor market revitalization and reform; greater capacity for openness and innovation (e.g. intellectual property rights, R&D, information and communications services, continuous access for all to information and skills); strong bank balance sheets and greater financial sector resilience to crises (including appropriate deleveraging — corporate debt is very high in many emerging markets); and, international progress on modernizing tax policies, e.g. faster global implementation of the OECD Base Erosion and Profit-Shifting (BEPs) measures are all areas where committed action could benefit broad-based global growth.
5) Global Economic Coordination — This deserves careful analysis, because missteps could make things worse, and have unintended consequences, as some argue regarding “ultra-easy” monetary policies. However, it is clear that major economic imbalances co-exist along with tremendous volatility in global markets. The falling value of China’s yuan and strengthening US dollar are creating tumult and uncertainty, especially for emerging markets. Emerging markets do not have access to reciprocal swap lines between central banks and their financial safety nets remain weak. This makes them more dependent on their FX reserves for financial stability. Whether there are better approaches is worth G20 discussion. At the same time, the complexity of financial markets globally, and especially in in developed-country markets, is known to have increased. Some believe that beyond the soundness of banks, the G20 need to examine and address the degree to which another “black swan” financial crisis could cause important segments of their financial markets to seize up from a lack of liquidity. French economist Hélène Rey[20] believes that her research shows that global market openness and integration has advanced to the point where there is now a “global financial cycle” responsible for some 25% of movement in open economies, including bubbles, booms and busts. That should give the G20 still more incentive to define and promote financial sector health broadly, and to consider the implications with respect to financial risk-taking.
So, it is true that global economic conditions are very precarious. Mohammed El Erian may well be right that we are at a critical “T juncture,” where a wrong move, or lack of positive movement, could make recession all but inevitable. But there is also a lot of room for helpful G20 steps to achieve good if not perfect results, in part by reducing the enormous risk, uncertainty and fear that now burdens consumers, producers and investors. This is a test for the G20, and for China’s important role as an emerging market leader. If the G20 can agree on concrete, effective, cooperative steps, we may finally see the end of this dismal period of economic gloom and doom, and less of the popular frustrations that appear to feed dangerous instability and extremism.
[1] http://www.cnbc.com/2016/02/05/citi-world-economy-trapped-in-death-spiral.html
[2] http://www.cnbc.com/2016/01/26/mohamed-el-erian-warns-about-a-day-of-reckoning.html
[3] http://www.project-syndicate.org/commentary/market-volatility-in-global-economy-by-nouriel-roubini-2016-02
[4] http://dallasfed.org/assets/documents/institute/wpapers/2012/0126.pdf
[5] https://hereandnow.wbur.org/2016/01/27/larry-summers-us-economy
[6] http://www.slideshare.net/oecdeconomy/oecd-interim-economic-outlook-february-2016-presentation
[7] http://www.imf.org/external/pubs/ft/weo/2016/update/01/
[8] https://www.conference-board.org/data/globaloutlook/
[9] http://www.tradingeconomics.com/united-states/gdp-growth
[10] http://www.mckinsey.com/insights/economic_studies/debt_and_not_much_deleveraging
[11] http://reports.weforum.org/outlook-global-agenda-2015/top-10-trends-of-2015/2-persistent-jobless-growth/
[12] http://qz.com/544891/global-trade-has-fallen-to-recession-levels-oecd/
[13] https://www.worldbank.org/content/dam/Worldbank/GEP/GEP2015a/pdfs/GEP2015a_chapter4_report_trade.pdf
[14] http://www.worldeconomics.com/SMI/Global-Manufacturing-SalesManagersIndex.efp
[15] http://www.pewresearch.org/fact-tank/2014/11/08/with-41-of-global-wealth-in-the-hands-of-less-than-1-elites-and-citizens-agree-inequality-is-a-top-priority/
[16] Argentina, Australia, Brazil, Canada, China, France, Germany, India, Indonesia, Italy, Japan, Republic of Korea, Mexico, Russia, Saudi Arabia, South Africa, Turkey, United Kingdom, United States, European Union.
[17] https://www.imf.org/external/np/speeches/2016/020416.htm
[18] http://siteresources.worldbank.org/EXTSDNET/Resources/infrastructure-background-note-G20.pdf
[19] Restoring and Sustaining Growth, prepared by Staff of the World Bank for the G20, June 8, 2012
[20] https://www.kansascityfed.org/publicat/sympos/2013/2013rey.pdf