This world economy is going rapidly downhill, with many observers attributing it to the US authorities’ decision to allow Lehman Brothers to fail. The ripples from that shock wave led to the seizing up of financial markets across the globe and to a new bout of risk aversion.
The credit crunch has now affected the real economy, as is evident from the global purchasing managers’ surveys, which show the world economy is now contracting at a rate never seen before. Investment plans have been put off and new orders have plummeted. Even economies such as China and India have been severely affected.
Banks are not lending for fear of rising bad loans. Employment has started to fall, with recent US data being particularly dismal. US retail sales numbers show that the American consumer, one of the pillars upholding the current global economic system, has started to tire.
Rising unemployment levels will add further to the pressure. That, in turn, will affect the economies of all those countries that relied on the US markets, leading to cutbacks in production and job losses there. In short, there are worrying signs that the world economy has entered a negative feedback loop that could spiral downward rapidly.
Of course, governments have been throwing huge amounts of money at the problem. Interest rates are being slashed across the world, with the US going in for quantitative easing, a euphemism for flooding the system with money. All kinds of institutions, including banks, mortgage companies and now even auto companies are being given huge hand-outs.
Massive fiscal stimulus packages are being readied across the world. Governments are scrambling to offset the contraction in private sector activity as a result of the bursting of the credit bubble with an expansion of public sector spending.
It is to be hoped that all this immense firepower will prevent a long-drawn-out depression and avoid the calamities of the 1930s or 1990s Japan. But even if we manage to avoid that, the new economy that will emerge will be a very different creature from the high-flying credit-fuelled economy of the last few decades. It will certainly not be “business as usual”.
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