From: wolda002@umn.edu
Date: Sun Sep 07 2008 - 15:41:15 EDT
The economic concertina
To avoid recession, developed economies must sustain confidence in
financial markets, resist calls for a war on inflation, and strengthen
demand
Thomas Palley
Over the last year, as the US economy has slipped toward (and likely into)
recession, there has been much talk of decoupling. According to this idea
the global economy has decoupled from the US economy and can continue
growing even if the US goes into recession.
That idea is now proving fragile. Instead of decoupling, the global economy
is showing signs of a concertina effect. Thus, as the US economy grinds to
a halt, much of the rest of the world seems to be also slowing and bumping
in behind.
Ever since the East Asian financial crisis of 1997 the US has served as the
locomotive of the global economy. This locomotive role has had US consumers
engage in a 10-year consumption binge financed by debt and rising house
prices. That binge pushed the household saving rate to record lows, and it
also resulted in record US trade deficits.
Trade data show the US has run large trade deficits with every major
industrial region of the global economy – Europe, Japan, China, East
Asia, Canada and Mexico. That pumped spending into these regions, fuelling
their growth.
This economic arrangement has created a dependence on the US market, and
the dependence has been further deepened by policies of export-led growth.
Unable or unwilling to grow their own domestic markets, countries have
relied on policies that explicitly promote exports.
In many developing countries these policies have had the added benefit of
attracting foreign direct investment (FDI). Thus, exports have kept
factories busy, while the prospect of future exports has tempted companies
to relocate production facilities to developing economies. Meanwhile, the
US economy has benefited from cheap imports, but its manufacturing sector
has been eroded and consumers have loaded up on debt in an unsustainable
fashion.
The bursting of the US house price bubble has shifted this process into
reverse, slowing US import growth and replacing financial exuberance with
financial fear. But rather than global decoupling, there are signs of a
shared global slowdown.
The Nafta economies of Canada and Mexico are clearly vulnerable because of
their large trade dependence on the US and their tight integration into the
US supply chain. In Europe, Ireland, Spain and Italy are either in
recession or on the cusp of recession. Growth has slowed sharply too in the
UK and France, and Japan has also lowered its growth outlook.
Germany, which is Europe's largest economy, was supposed to replace the US
locomotive. However, it is one of the world's most export-dependent
economies. German growth has kept going longer than other European
economies because of low consumer debt and export growth to Opec economies,
but Germany is now also slowing. Moreover, its policies of wage restraint
and hyper-export competitiveness pose a menace rather than a help to the
overall European economy.
The hope that China could pull East Asia through a US slowdown was always a
fiction. A quick inspection of China's trade shows that its trade deficits
with other East Asian economies are derived from its trade surpluses with
the US. China assembles imported parts from the rest of East Asia and sells
the assembled product in US markets. That means when the US slows, the
slowdown ripples back via China into the broader East Asian economy.
The commodity-exporting economies of Australia, Latin America, and Africa
have all done well from the commodity price boom. However, if the
industrial economies of North America, Europe and East Asia slow, that can
be expected to negatively impact commodity prices and exports.
Closer co-movements of national economies are a logical consequence of
corporate and financial globalisation since it makes economies more
inter-dependent. Those co-movements can become a concertina when they are
driven by a common factor such as export-led growth that relies on
debt-financed US consumers serving as buyer of last resort.
The key to avoiding a concerted global downturn is for developed economies
to sustain confidence in financial markets, resist misdiagnosed calls for a
war on inflation, and initiate policies that strengthen demand. Meanwhile,
developing countries must continue spending even as their exports to the US
slow. These countries now have the foreign exchange reserves to ride out a
weakened trade outlook. The open question is whether they have the sources
of internal demand.
Developing that internal demand is a core problem. However, it remains off
the development policy agenda because the current paradigm is obsessed with
the supply-side and neglects development of the demand-side. As long as
that is so, the global economy will remain beset by an unstable and
inadequate configuration of demand.
http://www.guardian.co.uk/commentisfree/2008/sep/07/economicgrowth.useconomicgrowth/print
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