Bill Jamieson How do we get out of this?

COMMENT

BILLJAMIESON | Executive Editor of The Scotsman

How do we get out of this?

A ‘normal’ level of growth may now be a thing of the past.

IT is now being called ‘the Great Recession’. And, according to an economist with one of the world’s top banks recalling the words of Maynard Keynes: “We have involved ourselves in a colossal muddle, having blundered in the control of a delicate machine, the working of which we do not understand.”

How do we get out of this? Four years on from the global financial slump we should by now be well into a sustained recovery. Instead, the world is staring at a prolonged slowdown. The eurozone is in continuing crisis, with finance ministers and central bankers unable to agree a solution that will instil confidence in financial markets. While various ‘solutions’ were floated at the G20 summit in Mexico, yields on Spanish and Italian government debt continued to climb to unsustainable levels.

To this have now been added worries about the ability of the US economic recovery to build momentum, while evidence has accumulated of a pronounced slowing in two of the three main BRIC countries – India and Brazil – and weaker than expected growth in China. The hope that developing country economies would help haul the developed world into recovery has faded. And until the euro crisis is cauterised in some way business and household confidence is unlikely to recover. The eurozone is pinioned between a slow motion bank run and flight to safety which has driven down yields on German government debt while across the continent the cash being hoarded on company balance sheets has now passed $1 trillion.

The conventional response until recently has been to treat this as a cyclical downturn – albeit more severe than ones in the recent past – but one that will correct itself and enable the advanced economies to return to previous levels of growth. But the evidence is pointing to something more serious. It is clear from OECD data that the depth of this slowdown far exceeds any of the preceding downturns of the 1970s. In fact, prior to 2009, when output fell by four per cent, at no time, back to 1970, did the OECD suffer an annual fall in output.

Looking at data going back over 40 years a worrying signal emerges. Decade by decade there appears to be a slowing of growth rates. While this can be said for the OECD as a whole, it is particularly pronounced in many EU economies, including Belgium, Finland, France, Germany, Italy, Portugal

and Spain. Indeed, the decade 2000–2010 has proved to be one of relative underperformance when measured by the growth of living standards.

Assumptions of a return to ‘normal’ annual levels of growth – that is, two per cent and more – are coming under question when we see that growth in advanced economies has been slowing over the past four decades. So the challenge for Europe is far greater than even the immediate crisis suggests.

Meanwhile the most difficult questions remain unresolved. Can governments and central banks agree on a firewall big enough to protect debt-soaked economies while key structural reform is undertaken? Will voters stick with the difficult and painful reform measures required? And amid cries round the world for the eurozone to develop a common fiscal government, will politicians agree to surrender sovereignty?

Four years on from the global financial slump we should by now be well into a sustained recovery. Instead, the world is staring at a prolonged slowdown.

Three roads

There are now broadly three ways forward for Europe. Route one is that, after much huffing and puffing, a substantial increase in the emergency firewall funds is agreed, and eurozone members move towards a common fiscal government.

Route two is a move across the group of 20 leading economies to greater monetary loosening – quantitative easing in technical parlance – in the hope that pouring rocket fuel on the flickering embers of their economies will fire up a spending-led recovery.

Route three is a continuation of the euro muddle – a continuing series of crisis summits, proclamations of support and pledges of coordination but each failing to ignite confidence in markets. Prime ministers, nervous of voter reaction and anxious to preserve what limited fiscal autonomy they have, talk of integration but there is little action. Events continue to proceed in the manner of a slow motion crash.

Meanwhile the latest forecasts from HSBC suggest the economies of the eurozone will contract by 0.6 per cent this year with a barely perceptible improvement to growth of 0.3 per cent next – these aggregate numbers are hiding marked variations in performance between Germany and the others. The UK is forecast to score growth of just 0.1 per cent this year and a recovery to 1.8 per cent next – still trailing the rate achieved in 2010. Global growth this year is likely to be about half that experienced in 2010.

Governments are unlikely to stand idle as this unfolds. The growing likelihood is of a continuing monetary stimulus in the year ahead and a rapid move towards big infrastructure and utility projects. These may not get us totally out of the hole, but they will provide a bridge to hopefully better times. As for the eurozone, a serious crackdown on its bloated public sector payrolls and welfare budgets still looks too much to hope for. n