Wednesday, April 22, 2009

Wolf, crying; Obama, rebalancing

Can massive fiscal and monetary intervention slow and shorten a Depression?

Martin Wolf's answer: maybe, somewhat. But recovery will be slow, uncertain, fraught with danger.

Today he casts a cold eye on the present, a colder eye on the future, and walks us through four conclusions:

1) Measured by falling output and bank activity, the current crisis is worse than the great Depression.
2) Unprecedented intervention by governments and central banks is likely to break the fall to a degree.
3) Those interventions will create a whole new set of problems and dangers and will be difficult to unwind.
4) We have not begun to cope with the global trade imbalances that made the growth preceding the current crisis unsustainable.

Wolf's quick sketch of Great Depression II took my breath away. Perhaps these facts are well known to economists; they were a slap to me:
In the US, the rate of decline of manufactured output compares with that of the Great Depression. Japan’s output of manufactures has already fallen by almost as much as in the US during the 1930s (see chart). The disintegration of the financial system is, arguably, worse than it was then.
He then offers some apparent comfort in a similarly compressed overview of worldwide government response, which in the aggregate looks almost coordinated:
If the world experiences a “Great Recession”, rather than a Great Depression, the scale of policy support will be the explanation. Three of the world’s most important central banks – the Federal Reserve, the Bank of Japan and the Bank of England – have official rates close to zero and have adopted unconventional policies. The real OECD-wide fiscal deficit is forecast at 8.7 per cent of gross domestic product next year, with a structural deficit of 5.2 per cent. In the US, the corresponding figures are 11.9 and 8.2 per cent. Governments of wealthy countries have also put their healthy credit ratings at the disposal of their misbehaving financial systems in the most far-reaching socialisation of market risk in world history.
But what about the morning after?
What is most disturbing, moreover, is the scale of the policy action required to halt this downward spiral. This raises the big question: how and when might the world return to normality, with sustainable fiscal positions, strongly positive short-term official interest rates and solvent financial systems? That Japan has failed to achieve this over 20 years is surely frightening.
Not to mention the underlying problem, still to be addressed:

The danger is that a turnround, however shallow, will convince the world things are soon going to be the way they were before. They will not be. It will merely show that collapse does not last for ever once substantial stimulus is applied. The brutal truth is that the financial system is still far from healthy, the deleveraging of the private sectors of highly indebted countries has not begun, the needed rebalancing of global demand has barely even started and, for all these reasons, a return to sustained, private-sector-led growth probably remains a long way in the future.

Wolf might have noted that Obama, for one, agrees with him about the core problem and has worked to focus the world's attention upon it. Perhaps the keynote of his G-20 appearance was this, from his April 1 press conference in London:
"In some ways, the world has become accustomed to the United States being a voracious consumer market and the engine that drives a lot of economic growth worldwide," Obama said, hinting that this position may not be sustainable. "We're going to have to take into account a whole host of factors that can increase our savings rate and start dealing with our long-term fiscal position as well as our current account deficits.
Reinforced by this, on April 3 in Baden-Baden, Germany:
...the whole point is to move from a borrow-and-spend economy to a save-and-invest economy.

Now, the U.S. will remain the largest consumer market, and we are going to make sure that it's open. One of the principles that we very clearly affirmed in London was that protectionism is not the answer. It's not the Germans' fault that they make good products that the United States wants to buy. And we want to make sure that we're making good products that Germans want to buy. But if you look overall, there is probably going to need to be a rebalancing of who's spending, who's saving, what are the overall trade patterns.

And it, by the way, it doesn't just include developed economies like Germany and the United States; it also means we want to encourage emerging markets to consume more. If you start seeing China and India improve the living standards of its people, now those are huge markets where we can sell. And that's why the last few days that I've spent talking about the international economy relates directly to the jobs that are being lost in the United States.

Talk not action, one might say. And yet, with the eyes of the world upon a new U.S. President, talk is action. When the time comes for tough negotiations about exchange rates and trade barriers, this overall strategic framework - cast as a shared framework for sustainable global growth -- will be in place.

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