A political shadow looms over the world economy
Optimism about the global economy is tempered by fears of populism
by Martin Wolf
Christine Lagarde, managing director of the IMF, which is holding its annual meetings this week © EPA
Optimism tempered by fear. That is the mood at the annual meetings of the International Monetary Fund and World Bank in Washington DC. The capital of the US has also been the heart of the liberal international economic system for more than 70 years. Yet the Trump administration sees this great success as a plot against America. Political clouds now cast dark shadows over a brightening economy.
Over the past decade, three successive shocks have battered the world economy: the financial crisis of 2007-09; the eurozone crisis of 2010-13; and the commodity price collapse of 2014-15. But all is now calm. The IMF’s World Economic Outlook expects that only six of the 192 economies it covers will fail to grow in 2018. Global growth is currently forecast to reach 3.6 per cent (at purchasing power) this year and 3.7 per cent in 2018, well above the miserable 3.2 per cent of 2016.
Among important high-income economies, the outlook is better now than in April for all but the US and Brexit-hit UK. The eurozone economy is forecast to grow by 2.1 per cent this year and 1.9 per cent in 2018, close to the 2.2 per cent and 2.3 per cent of the US, though the UK economy is, all too plausibly, forecast to grow by a mere 1.7 per cent in 2017 and then 1.5 per cent in 2018.
True, reasons for worry remain. That might even be a good thing: euphoria has so often proved a harbinger of crises. Financial risks are evident in many high-income countries, as well as in China. Debt levels are generally high by historical standards and, in some cases, rising. Assets are also generously priced by historical standards: the valuation of US stocks is not that far from the historic peaks reached in 1929 and 2000.
As important, economically and politically, growth in high-income countries remains structurally weak: productivity growth is limping and labour markets have been generating surprisingly slow growth in wages and disposable incomes. In some cases, notably the US, employment ratios are also low by historical standards.
Moreover, while high-income economies have been healing from the Great Recession, its effects remain very much with them. The aggregate real gross domestic product of the high-income countries is about a sixth smaller than it would have been if pre-crisis rates of growth had continued.
Yet the recession’s political effects may well be far more important. The crisis and its lingering aftermath have damaged confidence in elites. This shock came on top of a host of uncomfortable social and economic changes.
Taken together, these upheavals have, as so often before, opened the way to demagogues, promising simple solutions to complex problems. This happened in the Brexit campaign in the UK, where a small majority was induced to choose a journey to an unknown destination. This has happened in Catalonia, launched on a potentially devastating journey to independence. It has happened, above all, in the US, where the implications of Donald Trump’s election remain almost as obscure as they were on the day of his inauguration.
Inevitably, the transformation of US policy is far and away the deepest worry. This might still amount to little more than sound and fury signifying nothing. But it is also far too early to be confident of that. The administration seems set on vast tax cuts at a time of near full employment. It suggests that this will somehow create a huge upsurge in growth. That is not inconceivable, but it is hugely unlikely. More likely are rising inflation, a sharp rise in interest rates, a higher dollar and a huge surge in the current account deficit.
Meanwhile, the administration is also set on the opposite objective of reducing the external deficit through a series of negotiations, starting with Nafta. The aim of fixing an overall current account deficit through bilateral trade negotiations is not only intellectually incoherent, but clashes directly with its fiscal policies. It may be nonsense, but it could lead to the cumulative unravelling of the global trading system.
As important might be the choice of the next chair of the Federal Reserve. We have learnt many times the enormous impact of that choice in shaping not just the US, but the world, economies. It is a job in which the wrong person can do an enormous amount of damage.
Beyond this is the fear of global conflict. Of great long-term significance could be the determination of the president to decertify Iran’s compliance with the deal on nuclear arms, without supporting evidence. This would demonstrate that a deal with the US means nothing.
Quite as dangerous would be an attack on North Korea, which would almost certainly devastate an important US ally, South Korea. That would demonstrate to America’s other allies that they are also dispensable.
Maybe, as economies improve, the anger that led to the populist upsurge might dissolve. The question is whether such a political recovery might prove too late. This is a time of high uncertainty.
The demagogic tide might amount to little, in the end. But inevitably these risks shadow the talks in Washington. Markets happily ignore it. Markets might be wrong.
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