Why a 2018 crisis would be particularly devastating
Twenty years ago, Lawrence Summers came up with a particularly graphic analogy for market crises: airplane crashes.
Jets, the former US treasury secretary explained, make travel faster, more efficient and safer, although the odd accident is far more stunning and deadly than one that befalls other forms of transport. “In the same way,” Summers said, “modern global financial markets carry with them enormous potential for benefit, even if some of the accidents are that much more spectacular.”
This comparison leaps to mind as Summers sounds the alarm about 2018. Summers’s core policy belief is this: even when the periphery of the global economy (emerging markets) plunges, the centre (developed ones) is solid enough to hold capitalism together. Increasingly, Summers believes that centre might crack in the event of new turmoil—even within the 12 months ahead.
Stock markets, as Summers points out in recent speeches and op-eds, are going gangbusters. That’s despite the US being in the hands of a leader threatening trade wars, redistributing wealth to the top 1%, taunting nuclear states via Twitter, spouting untruths, attacking the media, flouting international laws, trampling on democratic values and cozying up to autocrats Washington used to abhor.
China, Russia, Turkey and Saudi Arabia, Summers argues, are “more authoritarian, more nationalist and more truculent on the world stage than they were a year ago.” North Korea is growing more belligerent, more erratic and more nuclear year after year. Europe, meanwhile, remains traumatized by Britain’s exit from the European Union (EU) and faces myriad populist and far-right insurgencies.
All this begs the question: why, oh why, are equity markets surging as if investors haven’t a care? Why are bond yields so impossibly low from Washington to Tokyo as leaders borrow with abandon? Perhaps Bitcoin’s bewildering bull run is more a symptom of the extent to which markets have lost all sense of reality than an anomaly.
Trouble is, the global economy’s surface looks infinitely better than the foundations beneath it. “Yes, markets are soaring and the economy isn’t bad, but citizens are divided,” says Ian Bremmer, president of Eurasia Group. “Governments aren’t doing much governing. And the global order is unraveling.”
What happens if there is some kind of reckoning? Say if Wall Street hit a 2008-like wall, China’s debt meltdown arrived or Washington started a trade war. A major terrorist attack, conflict on the Korean peninsula, confrontation in the South China Sea or troubles in Iran or Pakistan could slam markets.
At the same moment, “the scale of the world’s political challenges is daunting”, Bremmer says. “Liberal democracies have less legitimacy than at any time since World War II, and most of their structural problems don’t appear fixable. Today’s strongest leaders show little interest in civil society or common values.” Looking at the past two decades, if his team “had to pick one year for a big unexpected crisis—the geopolitical equivalent of the 2008 financial meltdown—it feels like 2018,” Bremmer says.
Summers worries geopolitics and economics will collide. “Financial markets are widely cited, including by US President Donald Trump, as providing comfort in the current moment,” he says. “But a relapse into financial crisis would likely have catastrophic political consequences, sweeping into power even more toxic populist nationalists.”
My objective here isn’t to give readers sleepless nights, but to call out the gaping disconnect between jubilant markets and the chaos that may lie ahead.
Asia learned a great deal from its 1997-98 meltdown. Banks were strengthened, currencies became more flexible, central banks amassed ample currency reserves and governments increased transparency. After that 2013 “taper tantrum,” India, for example, worked to stabilize the rupee, tame inflation and address bad loans in the banking system. The West learned far less from the 2008 Lehman Brothers crash, throwing money at the problem, but demurring on painful reforms. Banks are re-leveraging as we speak.
Market meltdowns tend to happen sooner and faster than punters expect. In 2008, the US responded by cutting short-term rates 500 basis points (one basis point is 0.01 percentage point), while peers in Europe and Japan followed suit. Such a response isn’t available in 2018. Nor is aggressive fiscal loosening. The Trump White House already engineered a $1.5 trillion tax cut the economy didn’t need.
That, Summers says, means the next recession will be “protracted and deep, with severe global consequences.” In 2009, after Wall Street cracked, then-US President Barack Obama cobbled together a global response with Group of 20 nations. Trump has gone the other way, alienating most of the allies Obama worked with to restore global calm.
“I shudder to think what a serious recession will mean for politics and policy,” Summers says. “It is hard to imagine avoiding a resurgence of protectionism, populism, and scapegoating. In such a scenario, as with another financial crisis, the centre will not hold.”
It’s hard to imagine, too, the severity of the next airplane-like crash in global markets.
William Pesek, based in Tokyo, is a former columnist for Barron’s and Bloomberg and author of Japanization: What the World Can Learn from Japan’s Lost Decades.
His Twitter handle is @williampesek.
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