ANALYSIS:THE UNPRECEDENTED nature of the economic times in which we are living can be illustrated in many ways. One is that many economies in the developed world, where the crisis has been most acute, are smaller today than they were three years ago. Only those now in extreme old age have lived through such a stagnant three-year period in this part of the world.
If that is bad, fears intensified over the course of the week that it could get worse.
At the current juncture, just one month short of the third anniversary of the collapse of Lehman Brothers, the generally weak recovery in the economies of the developed world is showing many signs of running out of steam. Is another global slump imminent?
The jitters that have taken hold in recent weeks have been caused by a range of factors, including, among others, weakening momentum in the economies of both Europe and the US; financial sector fragility, most notably in the euro zone; and rising inflation globally.
America must be the starting point in assessing the world economy’s prospects – the US remains the world’s largest national economy by a distance (see graphics). Although its relative size has been steadily declining as much of the developing world has grown more rapidly, no single country is as important in terms of output, demand for imports, financial assets, currency and policy-making clout.
With the exception of American politicians deciding at the last moment to avoid sovereign default in early August, economic indicators and policy developments from that country recently have been almost universally bad, with yesterday’s slew of poor data triggering huge equity sell-offs on both sides of the Atlantic.
Two weeks ago when second-quarter GDP figures were published, they showed that US economic growth had slowed to just 0.3 per cent.
As significantly, American statisticians radically revised their GDP figures for recent years to show that US output, along with most other large developed economies, has still not returned to pre-crisis levels.
None of this is surprising. Historically, recessions that occur as a result of financial crises are deeper and more protracted than the more common kinds of slumps because the damage they do is much greater, affecting the balance sheets of both the public and private sectors.
The great recession has doubled public debt in the US and caused net household wealth to contract by 27 per cent from peak to trough – a far greater drop than any other G7 economy, according to OECD data.
And it is deep problems with household debt and the property market that continue to weigh on America’s recovery. House prices are still falling, and the decline from peak has now exceeded even that which occurred during the Great Depression.
As so many readers will be only too painfully aware, falling house prices combined with high levels of debt make people feel poor. They spend less as a result. And because private spending in the US accounts for 70 per cent of GDP (in Ireland it was 53 per cent last year), it is very hard for any recovery to gain traction when Americans shun their shopping malls.
The vicious cycle of battered balance sheets, leading to lower consumption, leading to low jobs growth has yet to be broken.
Even if July employment figures and yesterday’s unemployment claims numbers were better than expected (among the few pieces of evidence to suggest that the US is not sliding back to recession), neither they nor employment growth rates from previous months give any reason to believe that enough jobs are being created to bring economy-wide employment anywhere near to pre-crisis levels, even in the medium term.
In short, even if the US economy does not experience another period of contraction, it has some way to go before undoing the damage caused by financial crisis.
Crossing the Atlantic to Europe, and the overall picture is no better, and in some ways much worse, potentially at least.
This week’s EU GDP figures for the second quarter showed that growth was even weaker in Europe than the US, with an expansion of just 0.2 per cent in both the euro zone and the wider EU.
While there are big differences among the EU’s 27 member states (no less than there are among the 50 US states), there are reasons to believe that the European economy could return to recession, or worse.
It almost goes without saying that the sovereign debt crisis poses an incalculably large risk to Europe and, indeed, the world. Although German and French leaders this week said that they might accept the issuance of eurobonds as a last resort, they do not yet wish to acknowledge that the last resort has already been reached. Further delay is to tempt fate. That is what Europe’s leaders have chosen to do.
But if the financial/banking/debt crisis can be contained, what of the real economy in Europe?
Since the world economy pulled out of its nosedive in 2009, Germany has been the continent’s growth dynamo, unburdened as it is by high household indebtedness and untroubled by the sort of property crash hangover others are suffering.
Much of Germany’s strong growth has been generated by a surge in its unusually large exports, which plummeted in late 2008 and into 2009, before experiencing a “V” shaped recovery. Exports are now well above pre-crisis peaks. Moreover, export orders soared in June (the latest data available). Bulging order books are rarely a sign of impending slump.
But the Ifo survey of business executives offers less reason to believe that the German export engine will continue to roar. The Ifo future expectations sub-index has been falling gradually (if from a high level) since the spring. It reached a new recent low in July.
Another usually reliable survey, the Markit purchasing managers’ index in manufacturing, has shown a much more marked decline. If its six-month trajectory continues for another two months German industry may be back in recession territory.
If the picture from Germany’s manufacturing/export sector is somewhat mixed, the once-resolutely depressed German consumer suddenly started spending again at the beginning of last year. Five consecutive quarters of solid private consumption have been registered, retail sales surged in June and consumer confidence surveys up to July show no sign of trending down.
With record numbers of Germans at work and wage growth picking up, the domestic economy is strong and capable of continuing to provide stimulus to the rest of the continent.
The weaker-than-expected 0.2 per cent German GDP growth in the second quarter notwithstanding, there is less reason to believe that Europe’s anchor economy will dip back into recession than any other in the G7 group of industrialised democracies.
Among that exclusive club, the second-largest economy – Japan – is closest to recession. In the second quarter, it contracted by 0.3 per cent. Much of this is undoubtedly related to the after-effects of the March earthquake and tsunami, and the jury remains out on the economic impact of those awful events in both the short and longer terms.
But the most recent survey data for July suggest that in the land of the rising sun things are picking up, not going south. Industrial production and new orders rose last month and the Markit purchasing managers’ survey of conditions in manufacturing also rose on June. Consumer surveys also point to rising confidence, although levels are still well below where they were pre-quake.
None of this suggests that Japan is fundamentally strong, however. Since its super-bubble burst more than 20 years ago there have been more false dawns than one can count.
Depressingly for the Japanese, their economy is the same size as it was in 1991 when measured in nominal yen terms.
With so much weakness in so much of the rich world, hope for global growth is often invested in fast-growing emerging markets. But don’t depend on them to save the day if the developed economies relapse.
As the graphics below illustrate, Europe and the US are still the poles of the world economy that count most. Together the generate half the planet’s output and dwarf even China’s dragon economy, which is now the second-largest national economy in the world.
Even if all of non-Japan Asia could shrug off another rich world recession and continue to grow strongly, it would simply not be big enough to haul the Euro-America economy back onto its feet if that behemoth were to collapse again.
So if emerging markets can offer only limited help to the rich world, hope must rest with policymakers in Europe and America if the slide towards recession gathers pace.
This is not a good position to be in because policymakers are running out of ammunition to fight recession and because divisions among politicians and technocrats about what to do is rising almost by the day.
Earlier this week, a likely presidential contender in the US, Texas governor Rick Perry, bandied about accusations of treason against the Federal Reserve after it (correctly) left open the option of yet another round of money printing and promised to keep interest rates near zero for another two years.
This is merely the latest salvo in an increasingly polarised debate on macro economic management. Even within mainstream economics there are those who believe that fiscal stimulus and quantitative easing have had no positive effect and want both to be reversed forthwith.
At the other extreme there are others who believe that the fiscal-monetary response has not gone nearly far enough. They advocate an even more aggressively unorthodox approach.
On this side of the Atlantic, the stimulus versus austerity debate has been more muted, perhaps because so much focus has been on bailing out basket case countries and, more widely, on saving the euro, something Europe’s politicians and policymakers have – thus far – been making a dog’s dinner of.
Having constantly done too little too late, one can only be fearful if they have to ramp up the response to halt the slide to recession and at the same time keep fighting to keep the euro together.
All told, one can hardly think of a worse time for a recession in recent decades. Although such an outcome is by not means inevitable, the balance of evidence continues to move in the wrong way. The next few weeks and months looks set to be a time of keeping fingers firmly crossed.
