Transcript The Global Economy: Where Do We Go from here?

The World Economy:
Where Do We Go
from Here?
GLOBAL ECONOMIC RISKS AND
OPPORTUNITIES IN 2011
Joseph E. Stiglitz
London
May 18, 2011
THE BIG QUESTIONS

Where are we now, four years after the breaking
of the bubble, and almost three years after the
collapse of Lehman Brothers?

How did we get here?

What are the choices we have?

What are the choices that are likely to be made—
and what will they imply?
A DIVIDED WORLD

Global growth reasonably good—for 2011,
projected to be about 4.4%



Slightly lower than 2010
But much better than 2009, when it shrank .5%
Continuing weakness in US and Europe
Europe 2011 projected to be only around 1.6%
 But large differences within Europe—Germany 2.5%


Strong growth in Asia and other emerging
markets

China projected to grow at slightly less than 10%

Though government is trying to cool economy
PROSPECTS FOR US AND EUROPE:
A JAPANESE-STYLE MALAISE


Continuing weaknesses in Europe and the U.S.
Growth too slow to create enough jobs to bring
down unemployment

Official unemployment rate 9%
Teen unemployment 23%
 African-American teen unemployment 37.5%

Still, almost 1 out of 6 of those who would like a job
can’t get one
 Jobs deficit almost 25 million
 More than 40% of the jobless are long-term
unemployed

FUNDAMENTAL PROBLEM

Lack of aggregate demand

Before crisis, US economy (and much of the world)
was fueled by unsustainable housing bubble


Savings rate plummeted to zero
Breaking of bubble left in its wake legacy of excess
capacity in real estate and debt
WHY PROSPECTS OF US RECOVERY ARE SO
DIM
•
Consumption likely to remain weak, given overhang of
debt, high unemployment, weak wages
•
•
And it would be bad for long run prospects if US returned
to profligate consumption pattern
Investment likely to remain weak, given excess
capacity, overhang from excess investment in real estate
during boom years
–
Small businesses cannot get access to credit
•
•
•
•
Source of job creation
Banking system—especially the part engaged in lending—
remains weak
Most borrowing is collateral based; collateral real estate; real
estate prices down markedly
Exports uncertain, given weaknesses in global economy
•
US lost capacity for exporting in many industries
WEAK PROSPECTS FOR US

End of stimulus implies fiscal contraction
Stimulus worked, but was too small and not well
designed
◦ Administration underestimated depth and
duration of downturn
◦



Thought that the underlying problem was just a banking
crisis; repair the banks and the economy will be repaired
Even if banks were working perfectly, economy would be
weak
Exacerbated by declines in state revenues
States have balanced budget frameworks
◦ Responses of states—cutting expenditures rather
than raising taxes—bad for short-run stability
◦ Problems exacerbated by federal aid cutbacks
◦
WHAT US NEEDS –
AND WHAT WE ARE LIKELY TO GET

Needed: large second round of stimulus

Aimed at high return investments (in education,
infrastructure, technology)
Stimulating the economy today
 And providing basis for long term growth
 Helping address some of US long term problems
 Aid to states, to prevent further cutbacks (total government
employment now less than in 2008)


Can the U.S. afford stimulus?
Can’t afford not to
 Long-term fiscal position will be improved if government
spends on investments

WHAT US NEEDS –
AND WHAT WE ARE LIKELY TO GET

Actually getting:

Two-year extension of Bush tax cuts
Likely to stimulate economy only a little
 But will probably increase deficit substantially: low bang
for buck


One-year extension of payroll tax
Will have some positive effect
 But what happens in one year’s time?

WHAT US NEEDS – AND WHAT WE ARE
LIKELY TO GET IN DEFICIT REDUCTION

US had a surplus of 2% of GDP in 2001

Remarkable turnaround—to 10% of GDP

Four major causes—suggesting solutions
WHAT US NEEDS – AND WHAT WE ARE
LIKELY TO GET IN DEFICIT REDUCTION

Four major causes—suggesting solutions

Economic downturn


“Put America back to Work”
Tax cuts
Argued for on the grounds that we were about to pay down
all of national debt, and without debt, Fed couldn’t conduct
monetary policy
 Couldn’t afford tax cut then—and even less so now


New Medicare Benefit—with government not allowed
to bargain with drug companies (costing $1 trillion
over 10 years)

US would have no deficit if our health care system was as
efficient as that of Europe
WHAT US NEEDS – AND WHAT WE ARE
LIKELY TO GET IN DEFICIT REDUCTION

Very expensive wars






Up front costs over $1 trillion
Future costs for disability almost $1 trillion
Total economic costs over $3 trillion
New war on terror—without ending Cold War
Could get more security with less spending
Further measures that could be taken
Ending corporate welfare (subsidies to coal, oil, and
ethanol)
 Restructuring taxes to encourage investment
 Better sale of national assets (spectrum, timber,
natural resources)

BOTTOM LINE



There is an alternative to austerity
Restructuring expenditures and taxes and
can stimulate the economy—and lower
national debt in long run (and maybe even
in the short run)
Austerity will slow the economy today and
in the future, reduce tax revenues and
increase expenditures—minimal
improvement in fiscal position
WHAT WE ARE LIKELY TO GET IN DEFICIT
REDUCTION

Gridlock—Two different visions

Accounting tricks—basis of compromise

Resolutions about cutting spending in future

Fiscal Stringency today

A combination that will not reassure markets,
but will dampen the economy
WHAT US NEEDS AND WHAT WE ARE
LIKELY TO GET

Restructuring mortgages
¼ of all mortgages underwater
◦ Nothing likely to happen
◦

Inducing banks to lend at affordable interest rates
◦
◦
◦
◦
◦
◦
Money went disproportionately to banks that were not
engaged in SME lending
Restructuring of banking system led to less competition,
increased gap between lending rate and deposit rate
Dodd-Frank bill did little to redirect attention of banks
towards lending
Securitization model for housing has not been repaired—
and not likely to be—implying increased reliance on banks
Government has been buying all mortgages—not a
sustainable policy
Deficit reduction pressure likely to highlight tax
preferences for real estate, leverage
MONETARY POLICY LIKELY TO BE
RELATIVELY INEFFECTIVE

Quantitative easing has considerable risks, few benefits

Short-term interest rate already near zero, small change in
long-term interest rates not likely to have much effect

Large firms awash with capital

Banks unlikely to increase significantly lending to
SME’s at more favorable terms

Other channels quantitatively small (except possibly
competitive devaluation)

Impact on inflationary expectations can make QE
counterproductive

Some interest rates, such as 5- and 10-year Treasury rates,
have already increased over the last 6 months.
MONETARY POLICY LIKELY TO BE
RELATIVELY INEFFECTIVE

Costs

Expected capital loss by government

Lower income to older individuals relying ongovernment
interest rates

Increased uncertainty—
Bubbles
 Inflation
 Future conduct of monetary policy
 Responses of competitors to competitive devaluation—likely
fragmentation of global financial markets

EUROPE IS EQUALLY FRAIL

Some countries in particularly bad fiscal position

But even those that are not (such as UK) are
engaging in austerity
◦
◦

We were all Keynesians, but for a moment
Austerity will slow growth markedly
Uncertainty in euro area
◦
◦
Took away interest rate and exchange rate mechanisms
for adjustment, put nothing in place
Problem is not a surprise—it was predicted at the onset
FROM BANK BAILOUTS TO SOVEREIGN
BAILOUTS
◦
Bank bailouts meant socializing losses (Ireland)
◦
◦
Bad economics, bad politics
Hard to ask ordinary citizens to bear consequences for mistakes
of private bankers—when they walked off with so much money
◦
Even without bailouts though crisis caused by financial
sector has weakened fiscal positions
◦
But with the potential of future bailouts, bank balance
sheets and governments are intertwined
◦
◦
Future bank losses likely to be borne by public
Including those arising from real estate (Ireland) or sovereigns
FROM BANK BAILOUTS TO SOVEREIGN
BAILOUTS
◦
Bailout measures only temporary palliative—haven’t
changed basic economics
◦
Political issue: will they be able to create more
permanent institutions (“solidarity fund for
stabilization”)
◦
Or will they be even willing to roll over the debt
◦
Uncertainty will cast pallor over Europe and global
economy
STRONG GROWTH IN ASIA AND OTHER
EMERGING MARKETS

Asia is different

Had learned lessons from previous crises—need for
good financial regulation

Strong public finances provided them resources to
respond to crisis

Adopted effective Keynesian policies—and they
worked

Strong infrastructure investment will simultaneously
provide basis for long term economic growth
STRONG GROWTH IN ASIA

Helping other developing countries (Latin America,
Africa)

But Asia is still too small to restore growth in
advanced industrial countries

Partial decoupling
STRONG GROWTH IN ASIA

Big Question: Can Asia sustain growth with
Europe and America in malaise?

Likely answer: YES—huge domestic markets to be
developed

Will need to continue restructuring away from
export-led growth

Green investments will be important
Japan: Still in a Malaise?

Facing both macro- and micro-problems




Proximity to high-growth countries in Asia major advantage
But need to recognize rapid changes in dynamic comparative
advantages
Earthquakes and its consequences
Worry that debt levels are unsustainable
What would happen if interest rates should rise, to levels
facing other countries with comparable debt/GDP ratios?
 But under current conditions, more austerity could (as
elsewhere) lead to economic downturn
 Need to focus on direction of government spending, e.g.
investments in technology, improvements in quality of
education

Both macro- and micro-problems

Non-competitive exchange rate
In volatile world, stability of Japan an advantage
 But the advantage has turned into a disadvantage, as
excessively high exchange rate makes exports noncompetitive
 Other countries (emerging markets) engaged in
massive interventions
 Japan needs to consider further interventions


Strong manufacturing sector
But intense competition, with declining returns
 Long recognized that there is a need to strengthen
other sectors
 More active industrial policies (arguably basis of
earlier successes)


Demographic transition


Exploring problems that will be faced by many other advanced
industrial countries
Adapting



And responding—



Opening up migration?
Encouraging population growth?
Political economy



Changing retirement ages
Cutting retirement benefits
Aging population distorts spending toward elderly and away from
investments in young
With adverse efficiency and distributional consequences
Focuses attention of BIG questions

Sustainable growth


World will have to learn to live with stable populations (global warming)
GDP increases do not accurately reflect improvements in wellbeing
GLOBAL PERSPECTIVE
•
•
•
Political gridlock in US combined with new
enthusiasm for austerity likely to prolong recovery
Underlying problems in US not being addressed
In world of globalization, what matters is global
aggregate demand; underlying weaknesses due to
Growing inequality
– Precautionary savings—build up of reserves—in aftermath
of East Asia crisis
– Crisis may have exacerbated problems, not reduced them
– New global reserve system could make a big difference—
but the US is resisting change
–
•
With end of fiscal policy, ineffectiveness of monetary
policy, attention will switch to trade —protectionism
and competitive devaluations
–
Heightening tensions, uncertainty
CURRENCY WAR

Beggar-thy-neighbor policies won’t lead to global
recovery

Worry about asset bubbles (especially in emerging
markets) is leading to currency interventions, capital
controls, taxes, etc

Global imbalances are a major source of worry
◦ Didn’t cause the last crisis
◦ But could cause the next
◦ Moderate changes in exchange rates not likely to
affect global imbalances significantly
◦ But large changes in exchange rate could
contribute to global instability and impair recovery
WHAT THE WORLD NEEDS

The problem—both before the crisis and today—
is not a savings glut, but the failure of financial
markets to recycle savings to where there are
high social returns
Infrastructure and technology, especially in emerging
markets and developing countries (especially Africa)
 Retrofitting the world to respond to climate change



Had Copenhagen succeeded in ensuring a high price of
carbon, demand for investment would have increased
markedly, and, if finance were available, that could have
led a “green” recovery
The ultimate market failure: unused resources and
unmet needs
WHAT IS NEEDED:
•
•
•
A GROWTH COMPACT
If US, Europe reignite growth, currency
realignment would be much easier
Both China and US need to increase wages,
reduce inequality
Both China and US need economic restructuring
–
US: away from consumption, away from sectors in
which they have lost global comparative advantage;
need to repair dysfunctional financial sector
–
China: away from dependency on exports, toward
service sectors; recycle savings in a way that is more
productive
WHAT IS NEEDED: A GROWTH COMPACT


China and US and rest of world need to improve
energy efficiency, respond to challenge of global
warming
Infrastructure and other investments to
“retrofit” economies all over the world to
changing economic circumstances and
environmental demands could be crucial element
in pulling the global economy out of its current
malaise
CONCLUDING COMMENTS
•
•
We have pulled back from the brink of disaster
But the world faces important uncertainties
Most likely prospect remains Europe and US mired in
a slow and unsteady recovery
– Strong growth only in Asia
–
•
•
•
–
Not just “more consumption”: the planet will not survive if
everyone attempts to imitate US profligate style
But more investment—including those necessary to reduce
environmental consequence of growth
And growth over next decade likely to be somewhat slower,
less resource-intensive
With differences in conditions and perspectives
making global coordination—the kind of coordination
that might succeed in ensuring a shared and stable
growth--unlikely