Paolo Guerrieri (Beijing Sept 2010)


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Paolo Guerrieri (Beijing Sept 2010)

  1. 1. The Difficulties of Macroeconomic Coordination: A Risk of a Long Period of Su-Par Global Growth?<br />Paolo Guerrieri<br />Professor of Economics, University of Rome ‘Sapienza’ and Vicepresident IAI<br />We are very far from rebalancing the world economy <br />It is now becoming clear that the consequences of the 2008-2009 global crisis are far from over. The global recovery since mid-2009 has been the cyclical result of massive stimulus combined with short-term inventory corrections. Once these factors recede, as is already happening in many countries, economic growth is softening. <br />These and other factors are leading to increased talk of a global double-dip recession. Although a double-dip recession is unlikely, process of adjustment will bring to the fore many structural problems left over from the crisis, including weak banks and the need for fiscal austerity, households and the need for working off debts incurred during the credit bubble. Among these structural problems is that global imbalances are about to rise again. <br />Although the recent global downturn has led to a natural rebalancing of economies, the latest IMF estimates suggest that by 2012 the current account surpluses of developing Asia will rise significantly, and that world current account imbalances are likely to remain substantial through 2015. Along with the large Asian surpluses, the German and new European surpluses will probably increase the American current account deficit <br />The seed of a new financial crisis?<br />This is very far from the rebalancing strategy agreed by the Group of 20 leading economies as critically important for sustaining global expansion. And it is a very risky trend since current and expected account deficits and surpluses are indeed a threat to global macroeconomic and financial stability in the medium and longer term. The <br />higher imbalances themselves could sow the seeds of a new financial crisis just as they were the fundamental cause of the last crisis. Under many respect the Great Crisis of 2008-2009 was a very visible effect of a reckless decade of increasingly unbalanced global growth. Therefore in order to promote future stable economic growth the world needs to move towards a balanced global economy. <br />Global imbalances need to be seen in the context of the shift in economic power from the West to the East. The West – or at least countries like the US, the UK, and Spain – need to spend less and save more. In contrast, regions like the Middle East and Asia need to save less and spend more. What is needed globally is for both debtor and creditor countries to rebalance their economies. The debtors need to tidy their balance sheets, while the creditors need to bump up domestic consumption, let currencies float and reduce export dependence. A shift in the mix of international saving and consumption flows would be the only effective way to neutralize the imbalances. The incentives to change are indeed very high but yet the obstacles to change are even more formidable.<br />The ascendancy and changes of East Asia<br />There is much optimism in this post crisis era that China and the rest of Asia economic growth will spill over and benefit the rest of the world, including the most developed countries. The ascendancy of the East is assumed as well of being able to solve the problem of a global rebalancing of the world economy. <br />In effect Asia has changed dramatically in the past decade and in the more recent period. In the wake of the global crisis in late 2008, China and most countries of East Asia responded with decisive and timely fiscal and monetary policy measures. Most East Asian economies have staged a rapid recovery from late 2009 and are going to register robust growth in 2010.<br />Furthermore the global economic crisis have prompted East Asian governments to reflect on the direction of their long-run development strategies and the contours of structural reforms in terms of the rebalancing the economy for sustained growth, the development of more knowledge- and skill-intensive sectors and the recalibration of development models. <br />Equally important, the crisis has generated renewed incentives for East Asian governments to push for deeper and broader regional co-operation, particularly in the domains of trade and financial policy management.<br />National attempts to recalibrate long-term development strategies have run parallel with renewed regional efforts to achieve deeper economic integration in East Asia and to strengthen trade and financial links within the region. Such regionalization is expected to energize both domestic demands and trade and investment flows so to reduce the vulnerability of East Asia to extra-regional shocks. <br />Too soon for Asian decoupling<br />As a follow up of these changes according to an optimistic scenario China and East Asian growth would be increasingly driven by domestic demand and intra-regional market, so that trade patterns could contribute to support a larger and deeper trade network in the Pacific-Asia. The new course would enable a more balanced growth since the East Asian region will be able to absorb more exports from outside, thus easing the balance of payment problems of the United States and sustaining most East Asian countries growth. <br />But that is a forecast of a future medium-long term growth. A seamless transition from the West to the East, spurred on by the powerful dynamism of a China-centric Asia is not more than an hope for the future. Developing Asia hasn't done enough. Most importantly, it has failed to wean itself from the export-led growth model that has long defined its economic character. In fact it is extremely difficult to shift growth in a short time away from investment and export towards private consumption. In most Asian countries, consumption and capital linked to export—key growth drivers in 2009-10—as well as labor markets, manufacturing remain structurally tied to exports destined for the U.S. and EU. Over 60% of Asia’s exports go to advanced economies. This, in turn, has driven much of the investment across the region. Around 40-50% of intra-Asia trade is meant for re-export outside of the region, and over 60% of the exports from Asian Tigers, Malaysia and Thailand to China—their key export market—ultimately are bound for the U.S. and EU. That leaves the region still very dependent on external demand. <br />In particular for China, while there is much optimism that Chinese domestic demand will spill over and benefit the rest of Asia, the country’s import data tells a more different story. The problem is that China is still an emerging economy and faces many challenges. These should not be underestimated. And the economic main challenge remain to change the growth model from export-led to domestically driven.<br />Policies proposed by China to rebalance economic activity toward private consumption are only the beginning of a multi-year process and need greater political will. In Asia economies with sizeable labor forces and/or rising domestic demand—like China - will require politically difficult structural and financial reforms and liberalization to increase their potential growth.<br />A painful and prolonged pause in global growth?<br />As things stand today, the long-awaited global rebalancing is still very far from being realized. The export dynamism of East Asian countries is therefore likely to continue an is bound to pose serious threats to the countries outside of the region, especially the United States and Europe. <br />Even more so since the world economy operated under a ‘market-led international monetary system’ in which incentives incorporated in it did not induce any correction of the imbalances. The present state of world affairs has made clear that our international monetary arrangements have not provided a needed element of discipline either for surplus or deficit countries. <br />All this underscores a potential risk for a failure in global rebalancing: a painful and prolonged pause in the global growth dynamic. Post-crisis aftershocks are likely to hobble demand growth in the major western developed economies for years to come. Thanks to a profusion of asset and debt bubbles, Japanese-like outcomes are now prevalent throughout the developed world. Even more so since debt-ridden Europe must now come to grips with a fiscal consolidation that should restrain economic growth for many years. <br />On the other hand persistently weak demand from the West is also a major risk to the more open Asian emerging-market economies. The story is a simple one: the US and other western nations have been shocked into saving more and lowering private and public debts over the coming years. It follows that, if the world system is to function smoothly, someone has to save less. China and the other creditor nations are now in pole position to take the needed initiatives. <br />In fact surplus economies like Asian countries can go back to their potential growth rate only if their domestic demand – especially private domestic demand – rises faster than GDP.  But if domestic demand of the surplus countries does not grow fast enough the resulting lack of global aggregate demand relative to supply – or equivalently the excess of global savings  relative to investment spending – will lead to a medium term weaker recovery at global level with most economies growing much less than their potential growth rate. <br />All that could point in addition to risky and worrisome trade tensions between the West and the East, as the former takes actions to protect hard-pressed workers while the latter point on export-led growth as the antidote to poverty and a massive overhang of surplus labor. <br />To sum up until, or unless, developing Asia is able to shift its reliance from exports and external demand to private consumption and internal demand, it is not in a position to take the baton of global leadership from the developed world. If, however, it fails to make the necessary changes, it also has much to lose from a post-crisis stagnation in external demand from the developed world. <br />The main problems of an effective coordination of economic policies<br />To avoid this risky trend in the paper I will sustain that policymakers should return with renewed vigor to implement the Pittsburgh framework. At their Pittsburgh Summit in September 2009, the G20 committed to the “Framework for strong, sustainable and balanced growth,” a concerted effort to contain global imbalances<br />One should emphasize that macroeconomic cooperation is a coordination device to overcome a collective action problem in today international macroeconomic relations. <br />In this regard it is important to emphasize that in terms of cooperation there is a key difference between supply and demand policies coordination. <br />Coordination tasks are extraordinarily challenging, because they challenge established patterns of economic structures and influence, both within countries and among countries. In this perspective the Pittsburgh framework can be criticized since it comprises many broad principles but very few specifics and enforcement mechanisms. <br />Although the critical success of the global crisis management response last year the focus on better global governance is already weakening. The global imbalance issue does not represent anymore a top priority for policymakers. National and, in the case of Asia and particularly Europe, regional issues are again becoming predominant. The last G20 Toronto meeting and the its low final compromise was a clear evidence of it. <br />In the paper I will assess the main problems of an effective coordination of macroeconomic policies and some suggestions to favor it. The key questions is that who will bear the burden of adjustment? How will the cost of these adjustments be distributed, both among countries, and within countries? How do we promote the collaboration and initiative of the main International Financial Institutions? <br />What is needed is global leadership. Unfortunately, both Washington, Bruxelles and Beijing have been distracted by domestic constituencies.<br />