The sun has set on America driving the world economy but China will not replace it
In the 1930s there was the Great Depression. The decades after the second world war were dubbed the Great Compression, as the gap between rich and poor narrowed in an era of strong growth. Mervyn King dubbed the late 1990s and the early noughties the Great Moderation, when the spread of the market economy to fresh parts of the globe produced a period in which inflationary pressures abated.
So what now? In the short term, at least, the answer is the Great Escape. Financial markets have bounced spectacularly since the low point in the early spring and while the recovery trajectory for the real economy will be bumpier, it is clear that Armageddon is no longer just around the corner.
But that doesn't mean the global economy can pick up from where it was when the clocks stopped in early August 2007. Unprecedented action by central banks and finance ministries has resulted in a break-out from the POW compound: it is still a long way across enemy territory to the Swiss border.
One feature of the Great Moderation was the build-up in debt that allowed consumers in the US and Britain not just to live beyond their means, but to mop up the excess output from the low-cost factories in Asia. Debt is now being paid back, and it will continue to be paid back as the monetary and fiscal authorities withdraw the emergency stimulus packages of the past 12 months.
Albert Edwards, of Société Générale, says the removal of the debt palliative will mean that we will return to the much more turbulent times experienced in the 1960s, 1970s and 1980s. "One of the most serious consequences of the Great Moderation nonsense is that we return to an age when recessions used to come thick and fast," he says.
"In a pre-Great Moderation world, without the full pernicious use of the debt super-cycle to smooth out recession, the volatility of the economic cycle was undoubtedly far higher."
The Great Moderation, in other words, could only be temporary, since its reliance on levels of debt that were only sustainable provided asset bubbles continued to inflate meant we were buying stability today at the expense of instability tomorrow. As such, Alan Greenspan created a housing bubble out of the wreckage of the dotcom bubble, thus disguising the structural problems in the US economy.
Financial markets appear to believe that the last two years were an aberration and that the Great Moderation has now returned. Policymakers are much less sanguine – and with good reason. Banks remain loaded down with toxic assets and the normal credit channels are still not working properly.
The "bounce" in activity over the past six months has been heavily reliant on the stimulus provided by the state, yet the extent of that has been so colossal there are fears that leaving it in place for too long will lead to a surge in inflation. Policy mistakes were made during the Great Moderation; financial markets are being heroically optimistic when they assume that there will be no big errors in these far more testing times.
The rise of the east
Greater volatility will be accompanied by a shift in economic influence from west to east. Stephen King, the chief economist at HSBC, gave a presentation last week in which he argued that the global economy was at a tipping point – the days when it depended on the American consumer were at an end. The action in the coming years, King argued, would be in the emerging nations, which will dominate global activity in the years ahead.
If what we are seeing is indeed the Great Orientalism, the crisis has undoubtedly hastened the trend. Its consequences will be permanent upward pressure on commodity prices and downward pressure on the currencies of the developed world – both of which will reduce consumer spending power in the west.
As such, the rise of the east will be accompanied by a prolonged period of sluggish growth in the west. Before the crisis broke, it was assumed that the trend rate of growth (the long-term average smoothing out year-to-year fluctuations) was about 3.5% in the US and 2.75% in the UK. But those assumptions were based on consumer spending inflated by debt and rapid expansion of financial services.
Permanent damage has been caused to the Anglo-Saxon economies by the recession; the trend rate of growth in the US is now probably about 2.75%, in the UK it is closer to 2%. HSBC has estimated that the US economy would need to expand by 3.1% a year between now and 2020 to get back on its pre-crisis growth trajectory.
This is not quite a Great Stagnation, but it will feel mightily close to it for consumers, since the Anglo-Saxon economies will see a higher proportion of growth come from a pick-up in exports courtesy of lower exchange rates. In the absence of further debilitating asset bubbles, the desire by both individuals and governments to reduce debt levels will keep consumer spending weak.
A world of diminished expectations is going to come as quite a shock, especially if, as some believe, the trend is permanent. Writing in the latest New Left Review, Gopal Balakrishnan muses on the advent of the Stationary State, concluding that the "Indian summer of reflated American power" has come to an end, with nothing to take its place.
In a bleak assessment, Balakrishnan dismisses the idea that China or Europe can become the new driving force behind a reinvigorated capitalism. "We are entering into a period of inconclusive struggles between a weakened capitalism and dispersed agencies of opposition, within delegitimated and insolvent political orders. The end of history could be thought to begin when no project of global scope is left standing, and a new kind of 'worldlessness' and drift begins." That's all a roundabout way of saying we've reached the end of the road.
Those of a more cheerful disposition might prefer the latest piece from the New Economics Foundation, The Great Transition, published today. NEF says the crisis marks not the end but a fork in the road, with the choice between the climate change disaster and social catastrophe of a return to business as usual, and policies designed to deliver fairness, sustainability and well-being.
The backdrop to the paper is familiar enough: measuring economic success through GDP is wrong-headed; rising crime, inequality, environmental degradation and social breakdown mean Britain is less happy than it was 30 years ago; climate change and peak oil will magnify economic problems.
NEF is certainly not envisaging business as usual. Among other things it proposes a four-day week, inheritance tax at 67% on all estates to help fund a citizen's endowment of £40,000-£50,000, variable consumption taxes to replace income tax, public limited companies progressively transferring shares to their staff and forcing banks to lend more for social and green projects. Britain's conventional GDP, it admits, may fall by a third as a result but it says the environmental costs thus avoided and the benefits of a more equal society would make Britain better off financially.
While it is possible to cavil at the specifics of the report, its tale of "how it turned out right" addresses the central question of our age. If we are not ready for NEF's Great Transition, what sort of future have we got?
Copyright Speakers Corner 2017