Listener: 29 September, 2012.
The world economy remains fragile. There may be another major economic crisis, but if not, things will continue to drift – or possibly sink. Here are some of the major known unknowns facing the world – and us. It’s hard to say much about the United States economy. The country is in policy gridlock until the November election. What happens after that depends on the resulting political balance. The stasis may continue, with the world’s single largest economy continuing to drift, to the detriment of the rest of world, too. Greece may or may not leave the European Monetary Union (EMU), but the underlying issue is much larger: what to do when there are major structural imbalances among members. The EMU’s architecture places the responsibility for dealing with them largely on the individual countries: one with excessive debt has to reduce its national expenditure. But because disinflation affects people, mass protests occur; Greece, among others, is heading into a political deadlock.
The EMU leadership is fiddling around with banking reform – necessary but it’s not enough. My guess is there has to be some fiscal transfers among the economies, a policy currently unacceptable to Germany, which will be the major bearer of the burden. Expansionary policies by the strongest economies are also needed. Again Germany is reluctant. “Grexit” – a Greek exit – won’t even solve that country’s problems, either. Having some control over its exchange rate would give it an additional policy instrument, but the Greeks would still have to reduce their aggregate spending, with much less support from the EMU. (The adjustment might occur via severe inflation.) Even if Greece leaves and the contagion does not extend to Cyprus, Italy, Portugal, Spain and perhaps Slovenia, the EMU still has to get its architecture right. Unless it does, a Greek-like crisis will occur in some other member some other time.
Unexpectedly, the US is facing a severe drought and its agricultural production is down. That will probably affect the world food system as food prices rise. That may lead to food riots and starvation elsewhere. The effect on our meat sales is likely to be perverse at first. Higher grain prices will probably raise the US livestock slaughter rate. As more meat goes onto the international market, the price will weaken. Later, the smaller herds will mean less meat produced, and our farmers with grass-fed animals will benefit (providing they have not gone bankrupt). Our struggling dairy industry may already be benefiting from the feed shortages.
China is more problematic than the media commentaries would suggest. Its strong economy has protected many (including us) from the global financial crisis, but it is weakening. The country’s property bubble seems to have burst and the market looks a bit like the US in 2007. Because the Chinese Government owns most of the banks, it may react differently from the Americans and Europeans. We just don’t know. There is growing evidence that Chinese manufacturers are building up their inventory as they continue production (and employment) despite sales being down. Presumably they are being bailed out by the Chinese banks, which are also coping with the property bust. Manufacturers will cut production when their credit runs out. That will directly affect the whole of East Asia, from where they source their components.
New Zealand won’t escape – our coal, dairy and wool prices are already down. The Auckland property market may be especially hit. It has been fired up by Chinese purchases, presumably funded from their banks. If the Chinese banks have a credit squeeze, they may call in loans. Not only will Chinese purchasers pull out of the market but there may be some distress selling. That bubble may soon be popped. You may have noticed some New Zealand businesses are reporting poor profit performance and the trickle of layoffs and plant closures is becoming a flood. They are not alone. It is happening throughout the world. I am unable to write a column on the unknown unknowns.