The World Economy: Clear Skies Ahead?
Why we should be optimistic about the prospects for an economic recovery
Note: This piece was written on April 16th, 2009. Subsequent developments in the world economy have substanitally borne out the assertion made here that "there will be concrete signs of recovery as early as July". See details in the July 19th update at bottom of this piece.
How soon should we expect the world economy to be back on a growth trajectory? I've been following statements from a varied set of economic gurus and masters of world destiny, and have found the overall sense of pessimism quite remarkable.
Jan 13th, 2009: President Bush said in a press conference that his economic advisors believed that the economic situation could be worse than the Great Depression.
Jan 23rd, 2009: Steve Ballmer, Microsoft CEO said, “The economy could remain in the doldrums for "a year, two years..”.
Feb 14th, 2009: the G7 meeting of the Finance Ministers of the world’s most powerful countries in Rome declared that "the severe downturn will persist through 2009".
Feb 18th, 2009: The US Federal Reserve warned that “the crippled U.S. economy is even worse than thought, and would deteriorate throughout 2009”.
Mar 16th, 2009: Federal Reserve Chairman Dr. Ben Bernanke, in carefully hedged remarks on CBS 60 Minutes, said the recession will “probably” end in 2009, provided the US government’s efforts to stabilize the financial markets bore fruit.
Mar 19th, 2009: the IMF said the world economy will shrink by 1 percent in 2009, lowering its own forecast of 0.5 percent decline made in January 2009. It said recovery would begin only in 2010.
To be sure, enormous problems remain - imbalance between savings rates in the US and other countries notably China, continuing insolvency in major industries including banking and automobiles, some divergence of opinion between major powers as to how the financial crisis is to be tackled. Yet a clear-headed look at the world economy today shows a wide array of factors that give much cause for hope:
1. Managing the economy is a fairly sophisticated science today. Most people who hark back to the Great Depression (or even the 1970s recession) fail to realize just how much more we know about economic management today. Government response to the 1930s depression was plodding and wrongheaded. It is not that President Hoover and his economic team were extraordinarily inept - it is just that too little was known about managing the economy. For example they believed, not unreasonably, that government should tighten its own belt to help manage the crisis. They thus failed to provide the Keynesian stimulus that could have jump-started the economy in the crucial early years of the depression. Economic managers are much more sophisticated today, and adept at using the full arsenal of monetary and fiscal tools at their disposal. Regulatory and institutional frameworks to manage the economy are far more robust today (many, in fact, owe their origin to the lessons learnt from the Great Depression). There is also hardly any ideological barrier to create confusion as to what action to take.
2. Information on economic activity is abundant and travels faster today. Thus the US consumer confidence or unemployment figures are probably watched as avidly in Frankfurt, Shanghai or Mumbai as in New York. This was not the case earlier (people in the rest of the world probably didn’t know much about the crash of 1929 for weeks, nor what the US government was doing about it).
3. There is a much greater sense of shared destiny. I doubt if Indian or Chinese financial regulators cared much about the 1973 oil price shock and its economic effects in the developed countries; I am quite sure they did not scramble to take counter-measures, as they are doing now. Thus with a few exceptions, governments are taking concerted action. (Uptil the 90s, there was so much distrust / apathy across countries that USSR, India, China etc. would never have participated in any such action).
4. A lot of the 'crisis' is overblown. Most financial figures (even asset prices) are phantom numbers which can zoom up and down. The real economy does not perform heady gyrations.It can neither fall off a cliff nor zoom to stratospheric levels - it must necessarily behave in a much more staid manner. Nothing that has happened in the past few months needs us to revise what we already knew about how the economy behaves*. In fact, one factor that clobbered the world economy in 2008 - exorbitant oil and commodity prices - has reversed completely.5. Human enterprise is irrepressible. Most importantly, thinking that this crisis will persist for years is grossly underestimating human nature. People don't crawl under a rock and wait for an economic crisis to blow over. And the unprecedented level of combined action we are seeing – from political leaders, regulators, CEOs, and lots of plain folks – can scarcely fail to bear fruit soon.
______________________________________________________________________________* In fact, many of those developments could have been foreseen with a bit of clear-headedness. See here for a detailed explanation.
Update (July 19th, 2009):
How has the economy been faring since then, and what's the latest prognosis? The Conference Board's Leading Economic Index showed a rise of 1.2% in May - the largest in many years. This and other bright signs prompted Business Week to state on June 18th that the worst is over in the economy. Newsweek magazine, citing expert sources, pronounced on July 14th that The Recession is over.
Perhaps most tellingly, the IMF - hardly known for taking an overly sanguine view on matters economic - declared on July 8th that "the world economy has begun to pull out of the recession".
Of course, the optimism needs to be tempered. There are still many indicators that are in the red. Large tracts of the world's leading economies remain steeped in weakness. The reverberations from the financial crisis and resulting credit crunch are yet to work themselves out fully, although they have gone past their trough. Unemployment remains high in the US and other Western economies. The IMF itself has released mixed figures for its growth prognosis over the next few quarters. Uber-Guru Warren Buffet remains skeptical about recovery anytime soon.
It thus appears safe to state that the recession in the world economy has begun to recede.