Deciphering an uncertain global outlook
Fiscal uncertainty, rising energy prices in Europe and political gridlock are among the myriad events that could prove disruptive in the near term, explains Robert Fauver
What are the prospects for the global economy given recent developments?
The outlook for the global economy has weakened since the early summer. Several factors are underlying the slightly worse outlook: first, the return of the second generation of the COVID-19 problem, with the Delta variant setting everyone back. Certainly, it has affected expectations. Last spring everybody was excited, welcoming the change, life was getting back to normal, and consumer and business confidence levels were rising. The variant, which started putting people back in hospitals, started closing down some restaurants and businesses, making people again hesitant to go back to work, has dampened expectations and confidence.
Second, in Europe there have been some disturbing energy problems. The cost of gas and electricity has gotten quite high, perhaps being victimised by outsiders controlling natural gas supplies. Scarcity problems for oil and gasoline in the United Kingdom and the rise of electricity and natural gas costs on the continent have dampened their outlook as well. The only country whose outlook has not changed very much is Japan, but it wasn’t all that great to begin with, and Japan is maintaining a 0 to 1% real growth rate.
In the United States, given the slight slowdown, should policy makers shift to relying less on monetary policy stimulus and more on fiscal policy stimulus, or less on both?
We have overused monetary policy in the US and throughout the western world. Given the status of deficit financing in the US, we have overused fiscal policy as well. I would recommend for the United States at least a cutback in fiscal stimulus and a cutback in monetary stimulus. We need to get back to positive real interest rates in order to encourage more savings and investment.
What are the prospects that President Biden will secure the major spending packages he wants, including on infrastructure? If he does, what will the impacts be on growth?
In late September the House of Representatives and Senate were in a significant intra-warfare battle within the Democratic Party, which controls both houses. But they cannot agree between the progressives in the Democratic Party who wanted at least $5 trillion in spending on both real infrastructure and social infrastructure and the moderates who think $5 trillion is a bit much. We have seen debates where the progressives have demanded that both bills be voted on simultaneously. The moderates want to do the old-fashioned infrastructure bill separately. So it’s very unclear what the odds are for passing.
If the bill passes, it will not be stimulative because the tax increases in the package will have a significant effect on consumer spending and corporate spending. The administration is of the belief that if you raise taxes on corporations it has no effect on other parts of the economy. History tells us that when a corporation’s tax bill goes up, so does the price of its products, and that leads to inflation, and it leads to the fact that everyone else is paying for the cost of the tax increase, and not the corporation. So there’s a fallacy in their thinking on who pays, in the end, for taxes.
Is the political gridlock in Washington affecting confidence, expectations and growth?
We’ve seen financial markets in downward mode on and off for the last month or so, as the tension on the fiscal side has ramped up. I am fully confident that we will solve the debt ceiling problem without a major contretemps. We have hit this before. Everybody uses it as a whipping post, whether it’s your debt ceiling or my debt ceiling, depending on which party is in control. We have never postponed or reached the end. Government spending is another problem. I would not be surprised if we had a government shutdown. But that would not affect markets the way a debt ceiling problem would. We have had government shutdowns for anywhere between one day and 20 days. The country moved right along with the government “shut down” because essential workers continued to show up. The major services – social security, healthcare – continue. So it’s not truly a shutdown.
Will the recovery plans from the Europeans provide the needed stimulus or will soaring energy prices there and the United Kingdom harm European growth?
The raise in gasoline and energy prices clearly surprised the European governments. They had not expected this sudden sharp increase, so whatever stimulus packages they had already put into place would not be sufficient to overcome the negative effects of the energy and gasoline problems. They can relatively easily adjust to that. I have yet to see any evidence that they are changing their policies.
What are the prospects for growth in Japan, especially with the change in the leadership and the elections in late November?
The outlook for the Japanese economy continues to be between 0.5% and 1.5% – pretty steady. It seems to be virtually independent of the political situation. Shinzo Abe had a long run as prime minister, which had been unusual in recent years. So the change in government is not a big deal. The addition of two female candidates out of the four in the leadership race was nice to see. It’s a good change in the LDP’s approach to women in politics and it speaks of continuing change.
Will the liquidity problems faced by property developers such as Evergrande further slow China’s growth, and even catalyse a financial crisis?
China’s banking system makes Japan’s bad loan problems of the 1990s look like nothing. Clearly China has massive horribly performing loans, mostly by the banking system to state-owned enterprises and quasi state-owned enterprises for political, non-economic reasons. The first day the shakeup started, we lost several hundred points on all the major exchanges, partly because of the spillover effect but also partly because it is underestimated how much US investors have become involved in the Chinese market, and European investors in some cases as well. I know of US investment both direct and in some stocks and partnerships that will shake up outside China should this liquidity problem continue for long. Chinese monetary policy historically has been credit control because interest rates don’t really work. It’s not a deep liquid financial market, so normal monetary policy of interest rates and money supply don’t have the same effect in China. Credit rationing is a more difficult monetary policy to implement because when you’re having a liquidity crisis you would like to flood the system with money, but if credit is your only approach, then loosening the credit bands doesn’t necessarily mean you’ll have borrowers.
What should the G20 leaders in Rome do to manage the global economy in these uncertain times?
It’s difficult! We have not had monetary and fiscal policy coordination and cooperation in the G7 for the past 15 or 20 years and never really had cooperation and coordination within the G20. Ergo it’s very difficult to figure out what leaders could do unless their finance ministers and central bank governors in a pre-meeting have decided it’s time to cooperate. I see very little evidence within the G20 that it’s time to turn the page and become a proactive fiscal and monetary policy forum. Good words is about the best they can do.
Some people have high hopes for more because of Mario Draghi, with his immense expertise and experience.
Yes, Draghi has been within the Italian system and within the European Union system for a long time. But I don’t know that G20 members are ready and willing to coordinate policies and jointly figure out what the problem is. The emerging market members are facing some debt problems, so it’s not as likely that they would be ready to spend more or enter into some kind of fiscal stimulus. They might be encouraging us to do more policy attempts at growth. There’s very little room for the US to be expansive, and I don’t see much room in the monetary policy sector, within either Japan or Europe. Fiscal policy in the EU is still constrained by its charter and agreement to vote jointly. So it’s difficult to imagine, given the state of play over the last four or five years of efforts to stimulate economies; there’s very little scope for renewed or new efforts to stimulate. Draghi could well put together some political statement of encouragement for central bankers and treasuries. I don’t think it would go much further than a statement along the lines of trying to reduce inflationary concern.
Should G20 members be worried about President Biden’s prospective turn towards protectionism?
So far the Biden trade policy has been a mixed bag. The packages coming through the Senate and House on infrastructure spending would step on the agreements on government procurement that we worked so hard to put together in the World Trade Organization and the old Uruguay round. That’s discouraging in itself. They’re against the Comprehensive and Progressive Agreement for Trans-Pacific Partnership because it didn’t protect the environment and worker rights enough. I am willing to bet they’ll focus more on union-supported trade agreements and environmentally supported trade agreements, which together may be non-starters.
