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The shift and the shocks: prospects for the world economy Martin Wolf, Associate Editor & Chief Economics Commentator, Financial Times Oxonia 15th February 2012 Oxford The shift and the shocks 2 The shift and the shocks • Shift • Shocks • Prospects 3 1. The shift • In the 19th century, there occurred what Kenneth Pomeranz called the “great divergence” • In the second half of the 20th century, convergence began, with Japan and the east Asian “tiger economies” • In the late 20th and early 21st centuries convergence spread to Asian giants • Today’s divergent growth is a mirror image of converging incomes 4 1. The shift EMERGING COUNTRIES OUTPERFORM HUGELY Source: IMF, WEO database GDP SINCE THE CRISIS 170 160 150 140 130 120 110 100 90 2007 2008 Advanced economies Sub-Saharan Africa India Developing Asia 5 2009 2010 2011 2012 Latin America and the Caribbean China Central and eastern Europe 1. The shift EMERGING COUNTRIES OUTPERFORM HUGELY GDP GROWTH RATES IN THE WORLD ECONOMY (10-year moving average, end year) Source: IMF WEO, September 2011 19 90 19 91 19 92 19 93 19 94 19 95 19 96 19 97 19 98 19 99 20 00 20 01 20 02 20 03 20 04 20 05 20 06 20 07 20 08 20 09 20 10 20 11 20 12 20 13 20 14 20 15 20 16 8 7 6 5 4 3 2 1 0 World 6 Advanced economies Emerging and developing economies 1. The shift UNEVEN PACE OF CATCH-UP GROWTH GDP PER HEAD AS A SHARE OF US GDP PER HEAD (at PPP) 45.0% Forecast Source: IMF, WEO database, October 2011 40.0% 35.0% 30.0% 25.0% 20.0% 15.0% 10.0% 5.0% Brazil 7 China India Indonesia Mexico Russia 2016 2014 2012 2010 2008 2006 2004 2002 2000 1998 1996 1994 1992 1990 1988 1986 1984 1982 1980 0.0% Turkey 1. The shift • Risks to the great convergence: – In the long run, it is hard to believe that the catch-up process will not continue, provided the world avoids huge shocks; – But it is not going to be smooth, as we can see from past performance; – China is exposed to excessive reliance on investment, high dependence on exports and property bubbles; – If China slowed substantially, the impact on commodity exporters could be substantial; – But China still has a big catch-up potential 8 1. The shift • The “great convergence” has had powerful consequences: – An ongoing “labour-supply shock”, which lowered relative wages of the relatively unskilled in high-income countries; – Initially, a dis-inflationary shock, as China lowered world prices for manufactures; – Then an inflationary shock, as demand for raw materials soared; – An increase in the surplus of desired savings and so the rise of the global imbalances; – and throughout, an ongoing shift in global economic activity 9 2. The shift THE SAVINGS GLUT? REAL INTEREST RATES 6 Asian financial crisis 5 4 Western financial crisis 3 2 1 0 -1 Jan-1985 Jan-1987 Jan-1989 Jan-1991 Jan-1993 Jan-1995 Jan-1997 Jan-1999 Jan-2001 Jan-2003 Jan-2005 Jan-2007 Jan-2009 Jan-2011 UK INDEX-LINKED 10 US TIPS 1. The shift RISE OF IMBALANCES GLOBAL CURRENT ACCOUNT IMBALANCES (as per cent of world GDP) Source: WEO, October 2011 3 2 1 0 -1 -2 -3 1996 1997 1998 1999 Germany and Japan 11 2000 2001 2002 2003 2004 2005 China and emerging Asia 2006 2007 2008 2009 Peripheral Europe 2010 2011 2012 Rest of World 2013 2014 2015 Oil Exporters 2016 US 1. The shift RISE OF FOREIGN CURRENCY RESERVES GLOBAL FOREIGN CURRENCY RESERVES ($bn) $12,000 $10,000 $8,000 $6,000 $4,000 $2,000 China 12 Rest of developing Asia Rest of developing countries Jan-11 Jan-10 Jan-09 Jan-08 Jan-07 Jan-06 Jan-05 Jan-04 Jan-03 Jan-02 Jan-01 Jan-00 Jan-99 Jan-98 Jan-97 $0 Industrial countries 2. The shocks • The economic collapse was large and enduring • The rescue was also dramatic: – Liabilities of the core financial system were nationalised; – Fiscal policy was put on a war-time footing; and – Monetary policy has remained unprecedented; • This then is a “contained depression”. • According to Carmen Reinhart and Kenneth Rogoff, This Time is Different, it could take three years, to return to “normality”. But, given the scale of affected economies, it could be longer. 13 2. The shocks: global THE LEVERAGE CYCLE Source: OECD HOUSEHOLD DEBT (over disposable income) 200.0 180.0 160.0 140.0 120.0 100.0 80.0 60.0 40.0 20.0 0.0 UK Canada US 2000 14 Japan 2007 Germany 2009 2010 France Italy 2. The shocks: global THE US LEVERAGE CYCLE SECTORAL RATIOS OF US DEBT TO GDP 140.0% 120.0% 100.0% 80.0% 60.0% 40.0% 20.0% Households 15 Non-financial Business All Government Financial Sectors 10 20 08 20 06 20 04 20 02 20 00 20 98 19 96 19 94 19 92 19 90 19 88 19 86 19 84 19 82 19 80 19 78 19 76 19 19 74 0.0% 2. The shocks: global THE LONG SLUMP GDP IN THE GREAT RECESSION 104.0 102.0 100.0 98.0 96.0 94.0 92.0 90.0 Q1 2008 Q2 2008 Q3 2008 Q4 2008 US 16 Q1 2009 UK Q2 2009 CANADA Q3 2009 Q4 2009 JAPAN Q1 2010 ITALY Q2 2010 Q3 2010 FRANCE Q4 2010 Q1 2011 GERMANY Q2 2011 Q3 2011 2. The shocks: global THE SOVEREIGN DEBT IMPACT NET PUBLIC DEBT OVER GDP (per cent) 180 160 Source: IMF WEO, October 2011 140 120 2006 2009 2012 2015 100 80 60 40 20 0 Japan 17 Italy United States France United Kingdom Germany Canada 0 18 Germany France UK US Japan Canada Italy Spain 01/01/2012 01/11/2011 01/09/2011 01/07/2011 01/05/2011 01/03/2011 01/01/2011 01/11/2010 01/09/2010 01/07/2010 01/05/2010 01/03/2010 01/01/2010 01/11/2009 01/09/2009 01/07/2009 01/05/2009 01/03/2009 01/01/2009 01/11/2008 01/09/2008 01/07/2008 01/05/2008 01/03/2008 01/01/2008 2. The shocks: global FISCAL ROOM? YES, FOR SOME, NOT ALL 10-YEAR GOVERNMENT BOND YIELDS (percentage points) 8 7 6 5 4 3 2 1 2. The shocks - eurozone • The eurozone crisis is the world, in miniature • The core of the eurozone financial crisis is not a fiscal crisis • It is the interaction of balance of payments with financial crises, though huge debt stocks played a part in creating liquidity problems for sovereigns 19 2. The shocks - eurozone • The difficulty is largely the result of the divergences accumulated in the years of excess: what made everything seem so good was creating an acute long-term crisis • The failure of a true union stands revealed: neither financing in a crisis nor workable adjustment mechanisms • Everything invented on the fly – too little, too confused, too late • The crisis is possibly terminal 20 2. The shocks - eurozone THE GOOD, THE BAD AND THE UGLY CURRENT ACCOUNT IMBALANCES IN THE EUROZONE (per cent of Eurozone GDP) Source: IMF, World Economic Outlook database, April 2011 3.0% 2.0% 1.0% 0.0% -1.0% -2.0% -3.0% 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Germany 21 Netherlands France Italy Spain Portugal & Greece Rest Eurozone 2. The shocks - eurozone LOST COMPETITIVENESS UNIT LABOUR COSTS IN MANUFACTURING RELATIVE TO GERMANY Source: OECD 200 180 160 140 120 100 80 60 Q11999 Q12000 Q12001 Q12002 Q12003 Portugal 22 Q12004 Q12005 Italy Ireland Q12006 Q12007 Greece Q12008 Spain Q12009 Q12010 Q12011 2. The shocks - eurozone ROAD TO THE EUROZONE FISCAL CRISES NET PUBLIC DEBT (relative to GDP) Source: World Economic Outlook database April 2011 180 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2015 160 140 120 100 80 60 40 20 0 Greece 23 Italy Portugal Ireland Spain 24 Portugal Ireland Greece 01/01/2012 01/11/2011 01/09/2011 01/07/2011 01/05/2011 01/03/2011 01/01/2011 01/11/2010 01/09/2010 01/07/2010 01/05/2010 01/03/2010 01/01/2010 01/11/2009 01/09/2009 01/07/2009 01/05/2009 01/03/2009 01/01/2009 01/11/2008 01/09/2008 01/07/2008 01/05/2008 01/03/2008 01/01/2008 01/11/2007 01/09/2007 01/07/2007 01/05/2007 01/03/2007 01/01/2007 2. The shocks - eurozone ROAD TO THE EUROZONE FISCAL CRISES 10-YEAR GOVERNMENT BOND SPREADS OVER BUNDS (percentage points) 40 35 30 25 20 15 10 5 0 -5 3. Prospects • At the broadest level, we are watching the interaction of two huge events: – A secular shift in the location of economic activity; and – The collapse of a generational expansion in private and, to a lesser extent, public sector leverage in high-income countries – The eurozone crisis falls at the intersection of these processes • So how might it all play out? • We do not know. There are too many unknowns. 25 2. The prospects: global GROWTH PROSPECTS DWINDLE FOR 2012 GROWTH FORECASTS FOR 2012 Spain Italy France Germany Eurozone Japan UK US -2.0 -1.0 0.0 1.0 Jun-11 26 2.0 Jan-12 3.0 4.0 2. The prospects: global GROWTH PROSPECTS DWINDLE FOR 2012 GROWTH FORECASTS FOR 2012 World Latin America Brazil Eastern Europe Russia Asia Pacific (NB excluding Japan) India China 0.0 1.0 2.0 3.0 4.0 5.0 Jun-11 27 6.0 Jan-12 7.0 8.0 9.0 10.0 3. Prospects: global • Here are salient elements of immediate global challenges: – Accelerating de-leveraging in the private sectors of overleveraged countries; – Rebalancing the world economy, to give over-leveraged economies export-led growth, which is necessary when their private sectors run huge financial surpluses; – Reducing fiscal deficits in high-income countries, without killing the recovery; and – Avoiding excesses in emerging countries, despite easy financial and monetary conditions. 28 3. Prospects: eurozone • What is needed now in the eurozone are: – Financing with adjustment, which will take at least 5 years and possibly 10 years, or more; – Adjustment means structural reforms and divergent inflation across the eurozone, with high inflation in core countries and low inflation in vulnerable countries; – The big danger would be premature fiscal tightening in the periphery together with absence of adjustment in the core; – That would lead to deeper recessions; – And a possible break-up. 29 3. Prospects • Some guesses: – The US will be the most dynamic of big economies; – Growth in high countries will remain weak, with some possibility of still worse; – Headline inflation rates will fall; – Short-term official interest rates will remain low, for a long time; – Countries with their own central banks will have low long-term bond rates; many eurozone countries will not; – Eurozone break-up risk is significant; – Emerging countries should grow quickly, but there is a chance of crises there, too. 30