The G-20 meeting in Washington has ended. Heads of governments have listed both short-term and medium-term changes that need to occur. Reuters says that the leaders backed fiscal measures to boost demand rapidly. Bare Talk would like to add a caveat to that.
Growth at 5% per annum that the world economy experienced for the last five years is not sustainable. Climate change and resource availability emerged as key constraints. Easy money boosted aggregate demand that was of low quality and unsustainable.
So, the world now has to go to the purgatory. In other words, five years of 5% growth have to be offset by a growth of around 1-2% per annum for the next five years. That is the only answer. A person suffering from indigestion from overeating might appear ill, but the answer is not to overfeed him again. It serves no purpose in re-equipping the kitchen, too. He is not going to eat, nor should he.
So, what is the answer? As the person works his indigestion out of the system, make sure he is not dehydrated and that he is not going to die of other complications. Life support systems (targeted and not overambitious fiscal stimuli) are necessary and must be provided.
In the US, for example, begin a programme of targeted mortgage relief to those who have bought only one home for their own use and restrict relief for those who bought homes with prices that were within some acceptable multiples of their annual income, based on historical patterns. Lock in upside for the government from any price appreciation that might come later. Remove temporarily all other specific tax reliefs meant for the rich to pay for this fiscal support measure. Otherwise, any attempt to make him look and feel healthy by feeding him the same food that caused the indigestion would be ultimately fatal.
The second thing to note is that the problem was not one of just American mortgages, securitization and credit default swaps, but excessive risk-taking on a global scale based on the low cost of funding, aggravated by failed regulation, oversight, global market correlations, and fanned by politicians in developing countries who acted as cheerleaders for their own leverage excesses. To lay the blame at the door of US alone is both incomplete and incorrect.
Although it is not too difficult to figure out what needs to be done, two explanations as to why they are not being pursued are possible. First, the world of finance has become such a big Ponzi scheme that governments dare not take any chance with growth. A year or two of low growth, and the whole thing might irretrievably unravel. Second, governments are genuinely clueless. There is plenty of evidence to support the two—the recent decision by the US treasury to suspend the troubled asset relief programme (TARP) from buying impaired mortgage assets especially points to the second explanation. TARP was meant to buy troubled assets from banks. Under sustained pressure, it morphed into a bank recapitalization programme. Now, it has been diverted to support other areas of troubled loans. This confirms that most policymakers do not have a clue about what is coming, how long it will last and when it will end. Most of them, and us, are making things up as we go along.
If we could not anticipate what was coming, it would be presumptuous to pretend as though we know when and how it will end. Hence, all forecasts of a recovery in 2009 or 2010 come with a large uncertainty band and are more statements of hope than forecasts.
What is less uncertain is that after the inauguration of the new president, the US will embark on an aggressive monetary and fiscal reflation. That will involve, among other things, a weaker dollar.
At the same time, it is difficult to come up with a list of candidate currencies that would take on the other side of the bet against the US dollar. In an ideal world, currencies that did not participate in the dollar weakness from 2002 to 2007 should be the ones to shoulder the burden now. They happen to be the Asian currencies predominantly.
Indications are that Asian countries are not persuaded by the logic of inevitable currency appreciation and domestic demand. If anything, China appears keen to strengthen its creaking export machinery. However, it would not take long for them to find the export avenue shut. US retail sales have contracted for four months in a?row.
With export growth ruled out for at least two years, if not longer, Asian domestic demand has to be the focus of governments. Domestic demand cannot be safely stimulated without stoking inflation unless currencies are allowed to move more freely than before, in line with fundamentals. On that rest our hopes for genuine Asian decoupling to emerge from the present pervasive gloom.
V. Anantha Nageswaran is head, investment research, Bank Julius Baer & Co. Ltd in Singapore. These are his personal views and do not represent those of his employer. Your comments are welcome at email@example.com