AMERICA is growing, Western Europe is stagnant, China and most of East Asia is expanding relatively quickly, with some clouds in the distance. This is the picture of traits in the global economy emerging from the latest data.
Nonetheless, central bankers are edgy. They realise the future is fraught with challenges.
The problems differ across countries, and so do the challenges to confront in the three main currency areas of the planet - China, the US and the eurozone. But the scenarios will be heavily influenced by the behaviour of central bankers.
The Chinese economy has relatively high inflation - the official figure is 2.3 per cent, weakening growth - around 7.5 per cent for 2014, and an ominous bubble in the construction industry.
China faces two problems. It needs to grow at a rate of at least seven per cent in order to avoid too much unemployment in the urban areas. Total unemployment is officially 4.1 per cent. Slower growth could trigger significant tensions, with potential political consequences.
The Chinese authorities maintained fast growth in the past by injecting new money and engaging in massive construction projects. The policy worked because the expansionary monetary policy did not lead to much inflation. But now - and this is the second problem - the price level is more responsive, and by sticking to the old policies China would head towards that dangerous mix of insufficient growth, double-digit inflation and rising unemployment.
The Chinese seem aware that growth depends on the structural features of the economy. China’s attempts to clamp down on corruption and clean up the financial sector are moves in the right direction.
Its restraint from tampering with the money supply is another good sign. China’s central bankers seem to focus on controlling inflation and let growth - and unemployment - be somebody else’s job.
If this behaviour is part of an ongoing strategy for the future, the scenarios depend on how long it will take the Chinese authorities to transform the economy and how long China’s economy can grow at less than seven per cent without triggering major problems.
By contrast, if monetary restraint is merely temporary, if China follows the West’s example, and if it engages in active monetary policy and slows structural reform, then crisis will be a matter of time with political instability, double-digit inflation and social turmoil.
Similar conclusions apply to the West. The key variable which anticipates future scenarios will be monetary policy.
In the US, loans to the private sector are rising and employment figures are encouraging. Yet, the Federal Reserve, the US central bank, has kept interest rates stable during 2013-2014, and confirmed they will remain low well into 2015.
The US authorities are persuaded that as long as inflation is under control - it is currently two per cent - American producers and consumers should be encouraged by a generous monetary environment.
At first glance, this sounds reasonable. But the Federal Reserve is contributing to creating uncertainty by adjusting monetary policy at each new release of growth or employment data. When the figures are disappointing, it tends to encourage economic actors to take the wrong decisions.
Dithering runs even deeper in the eurozone with contradictory messages from Brussels and Frankfurt.
The European Central Bank is trying to enhance growth, keep public debt manageable in several countries and fight the alleged danger of deflation.
ECB president Mario Draghi has invited troubled countries to transfer economic policymaking sovereignty to the European Union, so that Brussels and/or Frankfurt could bring about structural reforms - a synonym for centralised labour-market regulation and fiscal harmonisation.
The challenge for the ECB is it is aggravated that low interest rates lead to high government spending in most European countries, rather than by the private sector. High and unproductive government spending crowds out private business and stagnation follows.
The fragility of public finance generates uncertainty, suffocates demand and originates deflation which makes debt-servicing increasingly onerous.
Will the ECB be able to break this vicious spiral of slow growth and overblown public debt?
The possibilities are limited and all foreseeable outcomes are painful.
National governments will be under tremendous pressure to carry out structural reforms - liberalisations and spending cuts - and possibly default if the ECB abstains from engaging in an accommodating monetary policy. This will be a major shock, but will open favourable long-term growth prospects.
If the ECB keeps treading water and blames lack of growth on poorly-coordinated policymaking within the EU, then the future will see a gradual process of policy centralisation where crises will be averted by resorting to regulation and the guarantee of selected bailouts.
Global scenarios for years to come will be defined by the prevailing outcomes in China, the US and the eurozone and by the interaction between them.
Publication Date:
Mon, 2014-08-18 11:43
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