Day: October 18, 2008

Recession in China?

OK, that may be a bit of a stretch. But there’s little doubt that the global recession will take its toll on China’s double-digit growth rates.

One (emailed) response to our recent Washington Post op-ed criticized us for overlooking the role of China (although we did discuss China in the following Forbes article). In particular, the reader said, “it is my opinion that China holds all of the cards and I believe they will likely play some of them early in the next U.S. administration” – this because of China’s role in financing the U.S. deficits by investing in Treasuries. This may be true in the long run, although of course China cannot try to damage the U.S. economy without also crippling its own export-dependent economy. More immediately, though, China is facing an old-fashioned slowdown of its own.

All Things Considered did a story this past week on the impact of the global slowdown on Chinese exporters. One figure jumped out at me: 80% of the toy factories in Guangdong province have closed.

Also, the Baltic Dry Index, a measure of bulk cargo shipping costs and hence of global demand for heavy stuff (largely commodities) has fallen off a cliff this year (see the second chart in that post) – one reason why the Shanghai Composite Index is down more than 60% this year.

China is a place I won’t claim to understand. But as we all know, the Chinese government relies on an unsteady equilibrium in which it uses economic growth to legitimize the political system and convince the growing middle classes not to question the political order. Tocqueville’s observation (which I alluded to in my previous post) about the tendency of political strife to arise not out of prolonged abject misery, but when increasing expectations are dashed, could turn out to be particularly appropriate for China.

Update: Thanks to Randy for his comment (below). I fixed the error regarding the Baltic Dry Index.

Update: The Economist has a post with almost the same title as this post – but no question mark.

Emerging Market Developments

One of our readers raised some good questions about emerging markets on another post, and I’ve been planning to give you a brief update about events outside the G7, especially since we’ve been warning about potential problems.

First, according to Satyajit Das on Planet Money, Iceland’s stock market has lost 80% of its value, its currency has lost 95% of its value, and people are beginning to wonder if the country will have enough foreign currency to import enough food. In Iceland, as many people have reported, the main issue is a rapid de-leveraging as a banking sector that grew rapidly using foreign borrowing collapses as credit dries up.

Second, Hungary and Ukraine are looking for aid packages – Hungary received 5 billion euros from the European Central Bank, Ukraine was looking for $14 billion from the IMF. Dominique Strauss-Kahn, the managing director of the IMF, said, “Many countries seem to be experiencing problems because of the repatriation of private capital by foreign investors or the reduction of credit lines from foreign banks.” In other words, in a global credit crisis, people don’t want to lend to emerging markets. (The FT also published more analysis of Eastern Europe by Stefan Wagstyl.)

Finally, Newsweek has a story about the crisis in Pakistan. While domestic political instability certainly predates the financial crisis, now the economy is also under pressure. One problem: “Whereas the previous government was able to finance its current account deficit through privatization proceeds, bonds issues, and foreign direct investment, these channels have dried up with Pakistan’s security woes and the global credit crisis.” As of today, Pakistan is potentially looking to the IMF for an aid package. I assume most American readers know why instability in Pakistan is a bad thing.

One common thread is that, when lenders stop lending, emerging markets are among the first to lose access to money. Iceland is perhaps the most extreme case, where entire economy had the characteristics of an overleveraged Wall Street bank. But other countries with significant foreign-currency debts are suffering from crises of confidence by external lenders who want to get their money out before everyone else does.

Besides potentially causing steep domestic recessions and severely reducing the purchasing power of local populations, emerging market problems spill back into wealthy countries in at least two ways. First, as banks (or countries) default on their debt, lenders in those wealthy countries have one more asset they have to write down on their balance sheets. Second, the fewer strong economics out there, the fewer people available to buy our exports. Finally, the other thing we should be concerned about is political instability. Economic crises – especially after periods of increasing prosperity (see Alexis de Tocqueville) – have a way of triggering political crises in which unsavory authoritarian governments, or at least anti-Western, anti-capitalist governments, come to power. Let’s hope it doesn’t come to that this time.

Slouching Toward Recession

In any other week, the blizzard of bad real-economy news this week would have been a major story. Not this week, though, when the bailouts announced on Monday and Tuesday left the economic world in a state of cautious optimism and the stock market actually closed up for the week (admittedly, after a terrible previous week). Let’s just summarize:

Construction: Housing starts in September were 31% down from a year before, lower than expected, and building permits were down 38%.
Retail spending fell 1.2% month-over-month in September, after declines in the previous months.
Industrial production fell 2.8% month-over-month, far more than expected.

And remember, the acute phase of the credit crisis only began in the middle of September when, in the space of four days, Lehman failed, AIG was bailed out, and Paulson and Bernanke announced that we were all in serious trouble. The mood of general panic that set in then and only began to dissipate this past week is only partially reflected in these figures. In case anyone isn’t sure why these numbers matter: when consumers buy less, and companies produce less, that’s when companies lay people off.

I don’t think I’m frightening anyone here, since just about everyone thinks that we’re already in a recession. I just want to reiterate the point that even if the credit crisis begins to lift, the preceding slowdown in the real economy has become a major problem that will need major action to solve. Hence the importance of the discussion of fiscal stimulus that is kicking into gear among both economists and politicians.

The G8 called but they didn’t leave (much of) a message

On Wednesday, a colleague drew my attention to the fact that the G8 had issued a statement on the global economy from Grand Rapids, Michigan. I quickly glanced at their points and thought they didn’t add much beyond what had been said at various G-numbered, EU-type, and other subgroups over the weekend: we’re doing a lot, things will get better, trust us, etc.

Still, I was impressed that the G8 had got together quickly and, of course, the fact that Russia had joined hands with the G7 (this is how you get to 8) might be significant given the strains currently apparent in Russia and apparently looming elsewhere. So the following morning I opened the Wall Street Journal to learn more about the form of their meeting and background on the context, including any supplementary communication of messages (i.e., any such statement usually comes with spin.)

To my surprise, I found no mention in the Journal that day (sorry if I missed it; let’s say it wasn’t an article the front page, and if it was in the short highlight points, it was in very small print.) I had an opportunity on Friday to ask someone who tracks the White House closely, and he confirmed the statement came after a phone call or series of calls involving President Bush (who was visiting Michigan) and generally was not much of a news event.

Now, I wouldn’t want to make too much out of this particular incident. And I do think that, overall, policymakers at the G7 level and their close colleagues elsewhere have had a better week. But I do begin to wonder if people are relying on G7-G8 stewardship of the global economy as they have in the past.

And rule #4 in the crisis manager’s handbook is quite clear: when you have nothing to say, say nothing.