Understanding and surviving the
global turmoil: A businessman’s
guide
Outline of the presentation
 The 2007/9 crisis – the crisis, policy responses
and explanations
 The current problems – the problems, policy
responses and explanations
 What academics have to say about the
appropriate policy responses – as if that really
matters
 The real causes of the current global turmoil
 Future prospects
 Implications for Sri Lanka
The 2007/9 crisis, policy response
and explanations
Major policy responses to 2007-9
crisis
 Injections of liquidity in system along with lower shortterm interest rates
 Limited employment-oriented budget deficits
 Bail-outs of banks (1)
- Purchase of “toxic assets”
- Nationalisations and capital infusions
- Guarantees of deposits
Government debt
(Source: Economist)
Major policy responses to current
turmoil
 Reductions in budget deficits in advanced countries
 Loose monetary policies in advanced countries (1)
 Tight monetary policies in developing countries to curtail
inflation
 Capital controls and currency interventions in a number
of countries
 Continuing bailouts of banks (2)
 More financial market regulation (3)
M1 growth in the US, Oct 2001 – Sept 2011
(Data Source: Economist)
Orthodox explanations for the
crisis and continuing turmoil
Who are the Orthodox economists (1)
•
•
•
•
•
NEOCLASSICALS
Sub groupings; new classicals, new
institutionalists, new growth theorists,
monetarists, Austrians, Walrasians, general
equilibrium theorists, supply siders, etc…and new
Keynesians
Journals; journal of political economy, journal of
development economics, economic journal,
American economic journal, IMF Staff Papers,
WB Economic Review, etc.
Institutions; IMF, World Bank, WTO (1)
Individuals; Friedman, Lucas, Barro, Krueger,
Stiglitz, Krugman, Mankiw, etc
10
Austrians on world economic crisis: causes
• Low interest rate policy by government (Greenspan)
(1)
• State support for house purchases by low income
households (US) (2)
• Some inadequate regulation of financial sector .
• Excessive consumption by US citizens funded by
savings from Asian countries (with the latter made
possible by undervalued exchange rates)
• Budget deficits making matters worse – prolonging
recession. (3)
• Printing of money by advanced countries and
provision of reserves by IMF spreading bubbles to
world economy
11
Austrians on world economic crisis:
solutions
• Advanced country governments should stop printing
money and excessively reducing interest rates.
• Advanced country governments should curb budget
deficits and should reduce their debts.
• US government should privatise state mortgage
institutions and allow bankruptcies to occur.
• Better information flows to borrowers and lenders
(1).
• Developing countries should be forced to float
their currencies and allow capital to move freely in
and out of their countries.
• IMF should not provide reserves to countries in
trouble.
12
New Keynesians on world economic crisis:
causes
• Collapse in demand in advanced countries as a result of the
bursting of the housing bubble.
• Greed and speculative activity of financial institutions at the
heart of the problem.
• Excessive liberalisation of financial markets – especially in the
US. (1)
• Mercantilist policies of China and other emerging economies and
accompanying global savings imbalances.(2)(3)
• Contagion through capital flows and volatile exchange rates. (4)
• Failure of authorities to act sooner to avert crises – interest
rates were being raised and budget deficits cut well into the
crisis.
13
New Keynesians on world economic crisis:
solutions
• Massive, sustained and internationally
coordinated fiscal policies – deficits (1)
• Moratorium on national debt.
• Regulation and control of financial markets.
• Discretionary capital controls (2)
• Pro-active policies by central banks – pricking
bubbles.
• Coordination of exchange rates (3)
• Expanded reserves for the IMF (4)
14
The real reasons and possible
solutions for the crisis and the
continuing turmoil
THE SHIFT IN GLOBAL ECONOMIC
POWER
Real causes
•
Shift in balance of global economic power away from the US
and towards Europe and Developing countries.
•
Workings of long cycle – end of phase in which financial sector
becomes too big
•
Fall or stagnation in output growth, profitability and real wage
levels in the US (and other advanced countries) hidden by an
excessive expansion of credit (1)
•
Globalisation and liberalisation mean no country can escape the
impact of crises in any part of the world economy.
•
Corruption and mismanagement.
•
Misguided policies and data manipulation.
Shift in global production from Advanced
to Developing countries, 1990-2010
(Source: World Bank)
Shift in global investment (% of Total) –
1990, 2000, 2009
Developed
US
Japan
EC
Other OECD
EMM
South East Asia
China
South Asia
India
Latin America
Brazil
Africa
Russia
Eastern Europe
Middle East
1990
87.1
24.4
23.9
35.0
16.7
12.9
30.1
15.1
14.2
12.0
18.9
15.6
4.2
24.3
1.2
7.0
2000
85.0
35.1
20.8
27.4
16.7
15.0
51.1
40.9
13.2
10.5
20.9
10.8
2.6
4.4
0.8
7.1
2009
64.1
29.0
14.3
36.2
20.5
35.9
62.7
55.3
11.8
10.4
12.3
6.6
2.0
6.4
1.4
3.3
(Source: World Bank, Calculated by author)
Global debt
THE BUSINESS CYCLE
A Typical Cycle
• Output growth up
• Inflation up
• Interest rates up
• Output growth down
• Inflation down
• Interest rates down
Types of Cycles
Cycle
Duration
Source
K-Wave
50-60 yrs
Major innovations
Juglar
7-11 yrs
Fixed capital investments
Kitchin
3-4 yrs
Inventory capital changes
Long Waves
25
Long Cycle Dating
Trough
Peak
Trough
Duration Hegemonic Technology
Power
1790
1814
1848
58
Britain
Canals
1848
1872
1893
45
Britain
Railways, Steam
(steam engine)
1893
1917
1940
47
Britain
Steel, Combustion
engine, Electricity,
Chemicals, Telephone
1940
1975
2000?
60
United
States
Electronics, Plastics,
Aerospace, Nuclear
energy
2000
2030
2050
50
United
States
Computers,
Biotechnology,
Robotics
(Source: Goldstein 1988 (modified))
Cyclical movement of US debt
Solutions
• Bankruptcies, especially in the advanced countries. (1)
• Weakening of the power of the financial sector and rise
of other sectors. (2)
• Increased government spending on infrastructure,
education, etc.
• Shift in production and economic power to emerging
economies – especially Asia. (3)
• Shift in economic policy thinking (away from deflation).
• Shift in economic ideology – away from cruder forms of
Neo-liberal thinking. (4)
Juglar Dating
Troughs
1958
1970
1975 (oil shock)
1980
1991
2001
2008/9
Future prospects
Short-term
 Subsiding of the euro-crisis
 Weakening of growth in the world economy and possibly
recession in 2012 or (more likely) 2013 (1)(2)
 Lower global inflation
 Continuing tightening of fiscal policies in advanced
countries and easing in developing countries
 Continuing easy monetary policies in the advanced
countries and greater easing in developing countries
Consensus growth and inflation forecasts for 2012
Changes in global profit, 1997-2011 Nov
(Data Source: MSCI, Calculated by author)
Global manufacturing index stabilising
Retail sales growth in advanced countries,
2007 – 2011 June
(Data Source: Economist)
Longer-term
 Stagnation in the advanced countries (1)
Weakening of the financial sector
Continuing high unemployment
Continuing high government debt and budget deficits
Deflation problems
 More rapid growth in the developing countries (2)
Rise of Latin America and Africa
Continuing growth of Asia – possible formation of a
monetary union
Shift in global wealth – 2000, 2010, 2030
(Source: OECD Perspectives of Global Development 2010, Shifting Wealth)
Shift in global GDP
38
Implications for Sri Lanka
Growth
 Central bank estimate of 8% for 2012 is high if world economy slows as
expected (also by the CB)
- No reduction in remittances?
- Rise in tourist arrivals with recession in Europe and slowdown in Asia?
- 22% increase in hotels and restaurants value added?
 Average 9% growth in 2013 and 2014?
Balance of payments
 Positive outlook of Central Bank for BoP is based on possibly unrealistic
assumptions about remittances and tourist earnings growth as well as
capital flows
 SL rupee has lost competitiveness vis-a-vis Indian rupee in 2011, but may
not be the correct time to depreciate
Implications for Sri Lanka (contd)
Inflation
 Forecast of falling inflation in 2012 (to 6.5% from 7.7%) is unlikely to
materialise if rupee is depreciated significantly.
Interest rate
 Upward pressure on inflation would most likely put upward pressure on
interest rates.
 A possible way out would be to print money.