Global stock markets seem to have agreed with US President Barack Obama’s assessment that the G-20 meeting held in London last week was a “turning point” for the recession-stricken world economy. Markets rallied as the leaders of 20 nations decided to provide a $1.1 trillion boost to the global economy. Indian share indices, too, touched a 2009 high.
Illustration: Jayachandran / Mint
The G-20 deal itself is undoubtedly welcome, since it signifies solid financial commitment rather than the hollow statements we heard in November. But will those $1.1 trillion prove to be a magic pill for an ailing economy? That seems unlikely. Stock market traders and commentators have let their enthusiasm run ahead of the harsh reality, some even going so far as to say that last week’s bounce marks the beginning of a new bull run.
The $1.1 trillion that the G-20 has agreed upon is more of a backstop arrangement to prevent any further financial crises. The $500 billion given to the International Monetary Fund and the $250 billion promised to emerging nations when there is a run on their currencies is likely to help small, dollar-starved economies stay afloat. The $250 billion of trade credit is more likely to have a direct impact on the economic fortunes of the world, since it may help prevent a further slide in global trade.
Most forecasters believe 2009 is going to be a terrible year for the world economy, despite the fact that governments around the world have been trying to support demand through rock-bottom interest rates and higher fiscal deficits. There are still too many structural problems, especially in the developed nations, to bet on a quick rebound in global growth this year.
Harvard University economist Martin Feldstein has calculated the enormity of the demand destruction in a recent article: “The fall in share prices and in home values has destroyed more than $12 trillion of household wealth in the US, an amount equal to more than 75% of gross domestic product. Previous reactions to declines in household wealth indicate that such a fall will cut consumer spending by about $500 billion every year until wealth is restored. While a higher household savings rate will help rebuild wealth, it would take more than a decade of relatively high saving rates to restore what was lost.
The worst of the financial crisis may be behind us, but the road ahead still promises to be a very rocky one.
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