BackYear of rational pessimism
Year of rational pessimism
PremiumJoseph E. Stiglitz is university professor at Columbia University, a Nobel laureate in economics, and the author of ‘Freefall: Free Markets and the Sinking of the Global Economy’.
Two more positive notes for 2011: America seems finally to have awakened to the yawning gap between the rich and the rest—between the top 1% and everyone else. And youth-led protest movements, from the Arab Spring to the Spanish indignados and the Occupy Wall Streeters, have made clear that something is very wrong with the capitalist system.
Economic forecasts are difficult enough; but when it comes to political forecasts, our crystal balls are even cloudier. That said, here is my best guess.
European leaders repeatedly proclaim their commitment to saving the euro, but those who could have repeatedly said that they are committed to not doing what is needed. They have recognized that austerity will mean slower growth—indeed, a recession is increasingly likely—and that, without growth, the euro zone’s distressed countries will not be able to manage their debts. But they have done nothing to promote growth. They are on a death spiral.
The only thing saving the euro in the short term is the European Central Bank’s (ECB) purchases of sovereign bonds, which have kept interest rates from soaring. Like it or not, ECB is effectively financing the sovereigns. German leaders have frowned on this, and ECB has felt uncomfortable, limiting its purchases and saying that political leaders, not central bankers, should save the euro.
But the political response has been too little, too late, to say the least. The most likely scenario is more of the same: austerity, weaker economies, more unemployment, and continuing deficits, with European leaders doing the minimum to fend off crisis for the moment. In short: more turmoil.
The day of reckoning—when the euro breaks up or Europe takes the kind of definitive action that would make a single currency work—may come in 2012, but, more likely than not, Europe’s leaders will do whatever they can to postpone that day of reckoning. Europe will suffer, and so will the rest of the world.
The US had hoped for an export-led recovery but, with economic growth slowing in Europe, its largest customer (and impeding growth in much of the rest of the world), that is unlikely. And, with the worst effects of spending cuts potentially still to come, gridlock—and Republican spite—may mean that the Obama administration’s payroll tax cut will not be extended, weakening household consumption.
That, combined with cutbacks at the state and local level, means that the first real manifestations of austerity’s impact will appear in 2012. (Already, though, public employment is around 700,000 below its pre-crisis level; government, rather than acting counter-cyclically, offsetting weak private demand, has been acting pro-cyclically, exacerbating the economy’s problems.) Meanwhile, the consequences of failure to deal with the housing crisis—which triggered financial markets’ near-meltdown in 2008—are continuing to be felt: further decline in real estate prices, more foreclosures and, thus, even greater stress on US households.
No one in either US political party seems willing to face the fact that fixing the banking system, though necessary, was not sufficient to restore the economy to health (or that the financial system was never really fixed). The American economy before the crisis was being maintained on artificial life support by a housing bubble that led to unsustainable consumption. There is no way back to 2007.
But neither party has been willing to admit what is really wrong, or advance an agenda that would address the underlying ills. Platitudes and placebos—vapid calls for more job creation, fiscal restraint, reining in entitlement programmes, and so forth—will characterize America’s election year. Neither side will step forward with a programme for restructuring the economy and reducing the inequality that is sapping the country’s strength.
I have been a big critic of markets, but even America’s market participants now sense that political leaders are not up to the task. If investors suffered from irrational exuberance in the 1990s, they are likely to suffer from rational pessimism in the coming year. After all, Americans will have to choose between a leader who has proven that he can’t lead the US out of its economic morass, and one who has not yet proven his inability to do so—but who could make matters even worse through policies that increase inequality and slow growth.
I hope that events prove me wrong, and that my pessimism turns out to have been excessive. But I am afraid that the risks are more on the downside. Indeed, 2012 could prove to be the year in which the experiment with the euro, the culmination of a 50-year process of economic and political integration in Europe, comes to an end.
In that case, rather than bringing the hoped-for end of the Great Recession of 2008, a downturn that has lasted too long and caused too much suffering, 2012 may mark the beginning of a new and more frightening phase of the world’s worst economic calamity in three quarters of a century.
© 2011/Project Syndicate
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