Global Trends by Martin Khor

Monday 1 February 2010

Be wary about hype on “global recovery”

Three eminent economic experts last week warned developing countries to be cautious of the

current talk of a global economic recovery and instead to prepare policy options for a changed and more difficult world

------------------------------------------------------

Developing countries should be cautious about the current hype about a global economic recovery and instead prepare policy options in a world where they have to rely less on exports for future growth.

This sombre assessment came from three eminent economic experts who warned that the world economy is not out of the woods yet.  More than a hundred developing countries have not begun to share in the recovery proclaimed by the media.

Dr. Yilmaz Akyuz, special economic advisor of the South Centre, Dr. Supachai Panitchpakdi, Secretary General of the UN Conference on Trade and Development and Professor Deepak Nayyar, former Vice Chancellor of Dehli University, were speaking at a workshop organised by the South Centre on 28 January.

Held at the United Nations building in Geneva, the workshop brought together over a hundred diplomats and researchers from developing countries and international organisations.  It was chaired by the former President of Tanzania, Benjamin Mkapa, who now chairs the South Centre. 

Akyuz, who is also a former Chief Economist at UNCTAD, said there is consensus that recovery has started, with positive growth expected in all major economies this year.  But there are problems ahead.  The crisis intervention policies in developed countries, based on increased government spending and monetary expansion, are creating another bubble, with financial institutions out of touch with the real economy again.

As policy makers recognise the risks of the new bubble, there are signs of an “early exit” from the stimulus plans, such as the end of interest rate cuts and phasing out of additional spending.

As the effects of the stimulus packages fade away, economic activity may either lose momentum or even turn down, warned Akyuz.  And if the stimulus policy is reversed too soon, there could be a new and deep economic dip. 

With the United States running trade deficits, it now needs to adjust, with a shift away from relying on consumer spending to export-led growth.  The US President's target of doubling exports in five years (in his State of the Union address last week) is in line with this.

The consequences of the US adjustment can have adverse effects on developing countries, predicted Akyuz.  Interest rates are likely to go up, thus increasing the cost of financing and the burden of debt repayment, while a possibly strong dollar would weaken commodity prices.

Can China replace the US as the locomotive for world growth?  Akyuz said there is expectation that China would increase its domestic consumption as its exports will face sluggish markets.

Developing countries that are export-dependent may thus hope that their exports to China will be maintained at least, and thus offset their loss of exports to the US.

However, according to Akyuz, much of the imports entering China have been inputs used to produce Chinese exports.  Even if China maintains its high growth by switching from exports to local consumption, this will not help developing countries as much, because there is little import content in the goods that the Chinese produce for their local consumption.

“Thus China is not a good substitute for the US or Europe as a market for other developing countries' exports, even if it were to maintain over 10 per cent growth based on domestic demand,” concluded Akyuz.

The other two major economies, Germany and Japan, are also not likely to boost their economies and increase their imports.  Thus, there will be sluggish and erratic global growth, and instability in capital flows and exchange rates.

Akyuz also predicted a rise in protectionism and a backlash against globalisation, both in the developed countries.  Developing countries will thus have to prepare for testing times ahead..

Dr. Supachai warned the developing countries not to be misled about the talk about an “early recovery.”  In his estimate, more than 100 developing countries are still in recession.  The stimulus plans of developed countries cannot be sustained because they cannot raise more of the huge funds already used.

The UNCTAD chief added that the recovery is only partial, taking place in some sectors (the stock market and real estate), and there is still to be the unwinding and de-leveraging from household and corporate debt.  After a recession, it takes 3 to 5 years for the unwinding, but as this is a Great Recession, the time needed would be 5 to 7 years, he predicted.

UNCTAD data showed a 39% drop in foreign direct investment last year, with more than a 50% drop in some developing countries.  There is no robust FDI rebound anticipated this year. Supachai also painted a bleak picture on trade, whose volume fell by 15 percent last year and is expected to rebound by only 5% this year.

The data show that we are in a delicate period, which Supachai called a “post cardiac arrest” situation.   “We have not been successful in getting the global economy out of recession yet, and we should not fall into a business as usual mode which is being promoted by big bankers and those they try to influence,” he said.

Supachai proposed an expansion of South-South cooperation, with developing countries increasing trade among one another and pooling their financial resources, including in new regional monetary funds.

The fluctuations in commodity prices should be addressed, and global economic governance should be reformed.  The financial system should also be changed, so that banks be confined to doing narrow banking business (collecting savings to lend out) and not anything more fanciful.

Prof. Deepak Nayyar agreed with Akyuz that China could not be expected to take up the slack caused by US adjustment.  The economic prospects of developing countries depend  on recovery in the developed countries, especially the US, but even so the recession could still become a Depression.

The crisis should induce a rethinking of development, said Deepak.  There should be a reform in orthodox macro-economic policy thinking which should not focus only on inflation control, and there should be caution in financial liberalisation.

Developing countries should also re-think their relative reliance on external and internal markets and financial resources.  Domestic markets are critical and external markets cannot be substitutes.  It is also time to recognise the pro-active role of a developmental state, including in implementing industrial and technology policy.

At the international level, there must be coordination of policies of countries.  Fortunately, developing countries are becoming more important in output, trade and the holding of foreign reserves. They can thus have a greater say, but if they organise themselves better.

The conclusion from the workshop speakers was that developing countries should draw their own lessons from the global crisis, not to be complacent about the “recovery”, and re-think development strategies and policy options, as well as be advocates of international financial reform.

As Supachai said, the chance to reform the financial system after the Asian crisis in 1997-98 was missed and another bigger crisis has now hit the world.  We may miss the boat again, unless something is done now.