[BLOG] World Economy: Entering the Gates of Hell
A year ago, writing about prospects for 2011, I said “I fear shades of Dante’s Divine Comedy; in that in order to hopefully eventually find the Beatrice phase of ‘Paradiso’ we must first drop deeper into the inferno and pass through Canto 111, reading at the Gates of Hell, All hope abandon, Ye who enter here, on our way past.”
Well, sadly we are still not through the Gates and the heat is still building, and the probability is that a further, extended period of economic pain, dislocation and unemployment will be with us for a few more years at least.
We are likely to see the breakup of the euro zone and a deep slowdown in China, causing a resultant major economic jolt in the progress of the BRICs and other primary extractive countries such as Australia and, of course, South Africa.
Protectionism may rear its ugly head in the US. All in all, the ingredients are there for a prolonged period of stagnation, deflation and even recession. So this year, the next and even the following years to 2020 are hardly likely to be propitious.
What is happening? And why is this likely to be? Our short-termist “news by the quarter hour” and the micro-observing of every uptick and downtick of the various bourses blinds us to what is really happening: a severe case of seeing the conifer leaves rather than the forest. Economics, or as Thomas Carlyle had it, the Dismal Science (and it is interesting to note that the term arose from Malthus’s treatise on long-term scarcity, something very much back in vogue given the stratospheric population increases over the past 40 years), can never be precise of timing. Analysis can highlight the financial, political, socio-economic and economic forces that do and will have an effect, but the vagaries of what governments, individuals and corporations will do to try to ameliorate, or avoid, what analysis tells us is likely to come about makes forecasting an ever-unfolding, iterative process. What we can do is try to identify the major relevant forces, factor in probabilities and analyse both the likely courses of action of the various protagonists – and develop a most likely scenario.
What is very clear, as the circumstances will demonstrate, is that rather than the global scenario easing as many hoped would be the case, the storm clouds are more ominous over 2012 than even over the recent tumultuous past three years.
Many economists are revisiting the work of Kondratieff and his long cycle theory.
Certainly present circumstances bear an uncanny and uncomfortable proximity to his “Kondratieff Winter”, a long-cycle period of significant economic pain and discomfort that follows a period of bingeing on credit and overindulgence. Each “season” generally lasts about a decade and thus could indicate the world has seven years of further economic pain to endure before the emergence of spring.
Yet another reading of the present might see a favourable outcome arising from the present arm-wrestling between the IMF and the US, and the ECB and Germany (other parties are also involved but these are the main players) and might suggest that, if America can persuade Germany to mobilise hundreds of billions or trillions – depending on which source you believe – then the problem, at least in Europe, will come to an end and the global downward cycle will thus be broken.
Utter piffle, of course, all this extra borrowing; remember the core problem in the first instance was one of overindulgence and overborrowing, so the best that can be achieved by German largesse would be purely buying of time for the various countries (sadly not just the PIIGS, though they are deepest in the mire, but most of Europe and the west), thus giving them an opportunity to bring in the necessary austerity measures to bring down their debt levels, at personal, banking and government level. The rioting in Greece and around Europe and even in the US shows clearly how unlikely it is that turkeys will vote for Christmas and that workers across the board will permit upwards of 30% downward revisions in their expected standards of living – the only way the necessary austerities can achieve the desired results of balanced budgets within the time frames.
Time, of course, is very much at the core of the problem; taking from the future and future generations for “now” consumption is what got the world into this mess initially, and now the same parties are to be given further “time” to readjust structurally. Part of this period of readjustment is an extended period of zero, or very low, interest rates. Can’t have the poor dears who overindulged burdened down by high interest rates now, can we? So let us in effect “steal” some more from the savers who can perhaps better afford it.
Can this be right and prudent: that all those who prudently saved for their old age, for a rainy day or just because it was the sensible thing to do get clobbered again (remember they also got caned by the up to 30% “adjustment” in asset values in 2008) as the interest that they should have earned on their deposits is given back to the profligate who caused the problem in the first place?
So what can we expect after all this turmoil, angst and arm-wrestling? Well, the BRICS (let’s include our own country) have not decoupled in any meaningful sense, so we are all also going to get clobbered. We have been sheltered to a degree by the present liquidity-driven investment boom (think of the massive QE in America and China particularly), but as this falls away, the whole world – the developing world in particular – will be hit hard by the deepening global crisis, which will be even more severe than 2008 as the world as a whole is out of ammunition for any further reinflation. This, in any event, would not be prudent as there is only so long that anything can continue to be kicked down the road, hoping that the next generation will pick up the pieces.
Fuelling this, Chinese household consumption will continue declining as a share of GDP, and Chinese debt levels will continue to rise quickly over the rest of this year and into the next. Growth will slow sharply and remain in the doldrums (well, doldrums for China, say about 3%, until 2020). Why? Historical precedent – think of the US in the 1920s and Japan in 1989. Countries that had a sustained period of “super-growth” have invariably then experienced long periods of extremely low or even negative growth (again, think Japan through the 1990s, its “lost decade”), so 3% is likely to be the best China can achieve, as there is nothing in the China model that gives any grounds for believing it has discovered a magic bullet that will enable it to be any more immune to the laws and consequences of economic reality.
Europe will experience its own version of the Arab Spring as it becomes increasingly clear that none of the major political parties in any country can provide palatable answers to the economic problems. During the boom years of 1997-2007 they all frittered away the windfall economic gains, rather than recognising them as such and putting them aside for today’s rainy day. The EU was built on a dream, and wishful thinking and avoiding the core issues have ever made strange bedfellows. Also, there has never been a successful currency union in history that did not also include fiscal union.
Hope, for a time, will trump logic and some form of cobbled European debt-relief agreement will be sewn together, and for a time the deficit countries will limp along under the increased debt burden and Germany will try to hold it all together. Yet eventually some will be politically unable to accept the necessary high unemployment and will leave the euro and devalue, as they so do pushing the brunt of the pain on to the surplus in Germany, where unemployment will then rise. It has always been the case that where global demand contracts, it is the surplus countries who always bear more pain.
Politics will determine the allocation of pain; someone, some sector, has to bear the brunt and pay for the massive adjustment that overindebted countries such as the PIIGS must make. Will it be workers in the form of unemployment? Perhaps the middle classes in the form of confiscated savings? Or business in the form of an increased tax burdens or even nationalisation? Together, of course, with foreign creditors, banks, individuals, corporations and governments who will be more shorn than just a haircut.
On the other side of the Atlantic, the US will likely raise its own economic drawbridge and trade protectionism will come to the fore as unemployment stays high for a few more yearsand threatens the president’s re-election: shades of Smoot-Hawley, and a Canute-like desire to hold at bay the negative impacts of an unravelling Europe and a stagnating China.
American politics, born almost of impotent exasperation, now seems hell-bent on forcing a showdown with China. Yet what seems to be forgotten is that both are bound together: China cannot stop buying US debt until it completely restructures and becomes less export dependent. Yet equally, were the US to reduce its borrowing, its spending would also fall and trigger a drop in global demand that will make unemployment rise, either in the US if it takes no action and/or certainly in China where the brunt is likely to be felt. Thus US moves to counteract what it perceives as Chinese currency manipulation could well be counter-intuitive.
China itself is still an enigma. It funds almost all of its major investments with bank debt, and in its desire to keep growing has funded ever more marginal projects. Whether the recently expressed view of Standard Chartered Bank’s chief economist that perhaps Rmb8-trillion of the total Rmb11-trillion debt of China’s four major banks is bad is an overstatement is a moot point. Yet he is considered a doyen of China, having been there for eons, and, as he points out, no one knows with precision but certainly there is a problem of gargantuan proportions.
Forget the European problems, says Jim O’Neill of Goldman Sachs (who claims to have “invented” the BRIC” concept) – “the most important issue facing the world in 2012 is whether China can have a soft landing”. The best hoped-for outcome is that inflation comes under control at 3%-4% and economic growth stabilises in the 7%-8% range as the economy shifts towards domestic consumption and away from exports and investment. But don’t bet on it. Having spent most of 2011 worrying about debt in the west, China has, under the radar, its own headaches: a hugely overinflated property market and the exposure to it of Chinese banks. Yet China is far from the only BRIC country “in danger of losing its way”, observes Sam Fleming in The Times. India – last year’s worst-performing stock market globally, and now facing a run on its currency – has an even rockier road ahead. Brazil, while more resilient, could be knocked if global demand for commodities falls; and the same goes for South Africa.
The China central bank is trying to pre-empt a crash by pumping considerable further capital into the Chinese banking sector, but as in the west this purely buys time to the country’s elections in October and adds to, rather than resolves, the real issue.
The decline in Chinese growth will manifest in falling investment and, because of this, it will severely affect the price of non-food, mining-related commodities. The implications are inescapable, although seemingly many people, especially in the commodities sector, are still caught up in wishful thinking.
For South Africa, which largely missed the minerals boom of the 2000-07 period mired down in BEE and mine ownership issues, it will be doubly tragic as the downside will hit full force without the protective fat that the mining companies elsewhere built up in the preceding decade of super profit.
Trade policy and patterns in the next few years will be about deciding who will bear the brunt of the global contraction in demand growth. China, Germany and the like – because they are so reliant on surpluses – will be reluctant to eliminate their trade intervention policies, falling into the Japanese trap of the late 1980s, believing that they are strong enough to dictate terms, and so will refuse to take the appropriate adjustment steps. Failing to take cognisance that when there is an arm wrestle it is rather the deficit countries that have the upper hand, as they control demand, which becomes increasingly the most scarce and valuable resource globally.
Jon Quirk is an economist and independent consultant.
This article was originally posted on Sustainable Development Africa Platform
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