Post-Crisis Rationalizations: The three-lane highway to recovery?

C.P. Chandrasekhar

In the effort to restore economic optimism and talk up global growth, the favourite phrase doing the rounds today is “multispeed recovery”. Unevenness in growth, which was earlier seen as a sign of global imbalance, is now being celebrated as cause for optimism.

World Bank President Robert Zoellick speaking on global economic prospects, and business leaders and experts debating in Davos, have recently argued that all segments of the global economy are on a highway to recovery, even if on lanes that permit different speeds. There are at least three speeds at which the recovery is expected to proceed during 2011: 6 per cent in the emerging economies led by China and India, 3 per cent in the US and less than 2 per cent in the euro area. Put together, these are presented as a significantly positive rate for the global economy as a whole. While the working people in a host of countries, developed and developing, may be short of jobs and incomes, a truly global perspective seems to provide cause for optimism.

This desire to talk up the world economy stems from two sources. Three years after the recession triggered by the financial crisis began in December 2007, employment and growth in the metropolitan centres of global capitalism remain disconcertingly low. The challenge this poses to the legitimacy of the market mechanism, triggering violent protest first in Europe and now in West Asia, needs to be addressed. What better way than holding out the promise of growth even if it comes from developments either in distant lands or in the future?

The second reason is that financial markets across the globe, which bounced back using the large volumes of cheap liquidity pumped into the system in response to the crisis, are less confident and seem likely to slide downwards again. Imbuing the markets with optimism is therefore important as well. Uncertainty regarding the recovery generated by developments such as the sovereign debt problems in Europe is partly responsible. Not surprisingly, institutions and fora geared to promoting the legitimacy of market-driven systems are keen to talk up expectations of growth.

The reality is less accommodating. In each of the segments of the world economy separated by speeds of recovery there are dark clouds in the horizon. Take emerging markets, for example. Those recording the highest rates of growth are experiencing symptoms of overheating in the form of inflation in goods and/or asset prices. In China, where growth exceeded 10 percent in 2010, annual inflation stood at 5.1 per cent in November, which was the highest in two years. Housing prices too rose 7.8 per cent over the year by December.

In India, the quick recovery in output growth has been accompanied by persistent inflation, initially focused on food prices but now increasingly generalized. In addition, across emerging markets the inflow of foreign capital fuelled by the availability of cheap credit in the developed countries is resulting in currency appreciation that undermines export competitiveness and hurts growth.

Shift now to the slowest of the lanes on the three-speed global growth highway: Europe. There is no dispute over the fact that fiscal austerity, whether induced by the possibility of sovereign default or voluntarily adopted, is likely to keep growth in this region low well into the foreseeable future. What is disconcerting is that, all the austerity notwithstanding, the prognosis is that the sovereign debt problem in many countries will just not go away but may have to be addressed with restructuring that could convert slow growth into a veritable decline.

Finally, there is the middle lane through which the world’s most important economy, the US, trundles. There are indeed signs that the US seems to be recording some improvement in growth, even if that growth is jobless. But there are two dangers. The first is that the recovery seems to be financed with debt which makes it vulnerable. The second is that the growth in US consumer spending might encourage emerging markets to return to relying on export-led growth. That would only see a return to the global imbalances associated with the last crisis.

In sum, while the mood in Davos was to stress that the world’s economies had got onto a three-lane highway to recovery, the evidence being ignored suggests that we are approaching toll gates that would slow the traffic. Moreover, the road beyond may be so narrow that it could halt the flow.