Outlook for the global economy: waiting for the Chinese switch
May 8th, 2009Author: Rajiv Kumar
I recently participated in an international conference in Tokyo on ‘Global Financial and Economic Crisis and Growth Rebalancing’, organized by the ADBI. The Conference, led by Yung Chul Park and Masahiro Kawai, generated good papers and rich discussion because of the range of expertise available.
The three questions which expectedly dominated the proceedings were:
● whether the so called ‘green shoots of spring´ herald the beginning of a full-fledged global economic recovery;
● if the recovery in advanced economies and the US will be a V, U or L shaped one; and
● if China will succeed in switching its growth drivers from external demand to domestic consumption.
On the India story, which I presented, the general agreement was that while the Indian economy is suffering a hiccup, induced by a combination of policy tightening and external shock, its medium-term growth potential at 8-9 per cent remains in place.
The IMF effectively preempted any speculation on the first issue by releasing its latest forecasts on the 22nd April, the first afternoon of the conference. The Fund once again revised its forecasts downwards, for the fourth time since July 2008, which I am sure is some kind of a record!
These estimates show that the world economy will actually contract by 1.3 per cent in 2009. Advanced economies are expected to contract by a record (-) 3.8 per cent and Asia’s newly industrializing economies (NIEs) by 5.6 per cent. Among the advanced economies, the worst sufferers are likely to be Japan and Germany who should see output shrink by 6.2 per cent and 5.5 per cent in 2009. The UK and the Euro area will see GDP decline by 4.1 and 4.2 per cent and the US economy will by 2.8 per cent.
The disturbing part of the forecasts is that even in 2010, world output and advanced economies as a whole are not expected to achieve positive growth. Based on these somewhat chilling numbers and the discussion at the conference, it can be said with some degree of confidence that the spring sprigs of recovery are a mere transient relief. We should cherish these, because the future has perhaps more disappointment and pain in store before recovery begins.
The US economy, nearly a quarter of the world GDP and until very recently the consumer of last resort, seems to be in for a long slog before recovery takes hold. The IMF estimates that despite the massive fiscal stimulus amounting to 9.1 per cent of the GDP in 2009 and another round of 8.1 per cent in 2010, the economy will decline by 2.8 per cent in 2009 and stagnate in 2010.
Quite clearly, with the collapse of the financial sector and a loss of competitiveness in major manufacturing sectors like automobiles, consumer durables and electronics, the US economy is searching for new growth drivers. On the demand side, households which have suffered a serious wealth loss and are faced with uncertain future employment and income prospects, are unlikely to raise consumption in the next couple of years.
This brings to mind the prospects of US following the experience of Japan’s lost decade and a L shaped recovery. So let us hope that the Obama administration’s initiatives on clean energy, infrastructure development and social sectors will yield early results and engender an early recovery. But it is difficult to see these take hold in less than two years.
The best we can hope for is that President Obama can get into his next campaign in 2011 with the recovery having taken roots. Thus, we can at best expect a U shaped US recovery. This implies that the world has to look for alternate sources of demand for at least the next two-three years. The recent strengthening of the dollar of course does not help. Let us hope that this trend will be reversed in the second half of this year and the US will benefit from some additional external demand.
With the Euro area actually suffering a worse decline than the US and likely to continue contracting in 2010, the only other major source of global demand is the Asia Pacific region. Within this region, the growth impetus is largely dependent on China and India. The IMF’s latest forecast for the Indian economy for 2009 is surprisingly even lower than Kumar et al (ICRIER Working Paper number 234) and puts it at 4.5 per cent. We have estimated Indian GDP to grow between 4.8-5.5 per cent in 2009-10, depending on the effectiveness of fiscal and monetary policy response. These estimates make the latest pronouncements from the RBI and the Planning Commission of the Indian economy achieving 6 per cent in 2009 to be on the optimistic side.
But the key question is whether the Chinese, with their 4 trillion Yuan ($ 580 billion) stimulus package over two years, can successfully make the switch from external demand to domestic sources of growth.
The paper at the ADBI conference by Bin Zhang and Yongding Yu argues that recent data points to the Chinese economy achieving a V shaped recovery with credit off-take, cement and steel production and manufacturing beginning to revive in March after the massive inventory correction of previous months.
This is taken as evidence of the stimulus beginning to work and its multiplier estimated at 0.84 pushing up economic activity and employment in 2009 itself to achieve 6.5-7 per cent growth. But the two authors also correctly point to the acute need for significant structural reforms focused on raising efficiency and productivity levels in the non-tradable sectors of the Chinese economy for this recovery to be sustained and the switch from external to domestic demand being made successfully.
In this respect both the Indian and Chinese economies are in a similar situation that future growth is clearly dependent on successfully implementing the next generation of structural reforms. This is not easy even in China.
Moreover, pushing exports is surely easier than meeting domestic demand generated by increased public spending. The world will watch with heightened anticipation the Chinese attempts at turning around the economic juggernaut and shoring up global demand. The Chinese miracle is best summed up by observing that in 1978 Deng said that China could not do without global capitalism, three decades later it is clear that global capitalism cannot do without China!
This post first appeared in India’s Financial Chronicle on April 29, 2009, and the original article may be found here.
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