Listener 26 September, 1998.
Keywords: Macroeconomics & Money;
Kenneth Branagh’s uncut version of Hamlet reminded us that while the depressed prince dithered and the court of Elisnore intrigued, Fortinbras of Norway invaded and conquered Denmark. Is there a parallel with the pettiness in our parliament, while the economy goes into what looks to be a deep recession? It had begun its downswing stage of the business cycle by the middle of last year, before the Asian crisis began. So the looming collapse of Asian export markets and commodity prices reinforced what was going to be a difficult time anyway.
I am not sure the public debate about the economy is any less petty. Because I was teaching, I did not hear the actual announcement of the Reserve Bank’s August monetary policy statement, but after class I switched on the radio to hear bullish optimism. The actual text says that RBNZ thinks output and productivity is stagnant and employment falling. The financial sector commentators were excited because interest rates were falling, which is not much good if you are a saver or have not a job to service your debt. The RBNZ forecasts the economy will boom next year, assuming the Asian crisis is not too severe. Monetary changes take time to impact on the real economy (via their impact on physical investment). If we really expect a boom twelve months out, monetary policy should be tightening rather than loosening; interest rates should be stable or even rising. The Reserve Bank’s monetary stance only makes sense if its expectation is the international economy is into a severe recession.
It is not easy to judge the world economic downturn. Visitor Paul Krugman said he thought that Asian Crisis was as bad as the Great Depression of the 1930s. It is worse than the recent Latin American crises which were just bank and foreign exchange problems. Asian non-financial businesses are in serious trouble, with very high debt to equity ratios, which means they are very vulnerable to financial shocks. While such shocks happen quickly, the experience of the 1987 crash reminds us that it may take years for the impact to be evident on vulnerable businesses and the real world.
More problematic is the impact of the Asian contraction on the rest of the world. A common view is that the trade and capital linkages between Asia and the US and Europe are sufficiently small to isolate the West Pacific contagion. That was not what they were telling us during the Asian boom. Linkages which were strong and positive in the upswing are suddenly said to become insignificant during the downswing. The Russian economy, the size of Denmark’s and Norway’s combined, is not creating a world economic crisis. (The worry is geopolitical. Scandinavians dont have nukes.) It is confirming concern about weak financial fundamentals. Production-wise the Atlantic economies may be sound, but in late 1996, Alan Greenspan, Chairman of the US reserve bank (“The Fed”), was arguing the US share market was overheated. The “irrational enthusiasm” continued.
But even if the Atlantic economies experience only a mild recession – a check in their economic growth rate rather than a contraction – New Zealand’s export exposure to Asia is about half, including those to Australia. (Why do you think the Australian government is going six months early to the polls, despite its electoral situation looking difficult? Is it their economy is deteriorating? No doubt Mrs Shipley has taken note.) Obviously one wants to be optimistic, particularly if you are commentator from a financial institution trying to unload a lot of financial paper onto the unsuspecting public. But commonsense tells New Zealanders to be cautious about their economic prospects for at least two years. All very intriguing – and depressing.
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A Sober “Economist”?
Three weeks after the Reserve Bank, the Treasury released its more pessimistic macroeconomic forecasts. It has economic output contracting this year rather than the stagnation the Bank foresees. Its rebound next year is weaker. Private forecasts will probably follow the Treasury lead, and predict a more subdued economy than they did last time.
The cover of the London Economist of the same week illustrated the world economy in meltdown. It had a question mark, but the editorial sees the world economy struggling far more than either of our official forecasts assume. “For the first time since the early 1980s, global slump is a thinkable, even plausible outcome.” Most of East Asia is in recession, as in Russia, and the “Economist” thinks that China and Latin America are on the brink. Britain and Canada are slowing. The yoyo world sharemarkets do not inspire confidence either. I cant understand the outrage against the macroeconomic forecasters, when those in the sharemarket cannot make up their mind one day to the next.
If the Economist is correct, the prospect of an export led rebound in 1999 is unlikely. Either there will be a domestic led recovery which will result in high foreign borrowing, which may collapse overseas confidence and lead to long run stagnation. Or there will be no immediate recovery, and the economy will contract next year too.