11 October 2011 at 9:22 GMT
Though the world economy will see robust growth of 3.8 percent this year this figure papers over a chasm between developed and emerging countries. While the developed economies led by the heavyweights (U.S. and Eurozone) are struggling to cope with the drag from deleveraging, emerging markets have hiked rates as inflationary pressures have mounted due to strong domestic demand. Domestic demand in emerging countries remains strong and should offset weakening foreign demand from developed economies.
Developed economies struggle to grow amid austerity
What continues to be labelled a banking crisis, in particular now that the Eurozone is on the brink of accepting defeat in the battle for status quo in Greece, is in reality a household balance sheet crisis. The failure to understand the reasons for the global recession and the continued weakness in the major developed countries means that the establishment proposes solutions, which are not going to help much. While we have long championed deleveraging and debt restructuring as the means to quickly revert to a healthy economy, we concede defeat.
Policymakers will not sacrifice short-term pain for long-term gain and are rather bound to repeat in various shapes and forms the erroneous solutions already attempted. These include demands for austerity in countries, which do nothing but push these countries further into recession and hence drive their debt-to-GDP higher, engaging in quantitative easing, and the fine art of kicking the insolvency can further down the road.
The drag from private sector deleveraging will continue for the rest of the year and into next year despite signs of easier credit conditions in some areas of the economy. The austerity-imposed fiscal drag will further undermine wealth in the coming quarters, especially in Europe where a failure to allow both winners and losers has resulted in a game of cat and mouse where the sovereign debt crisis rears its ugly head every few weeks before going back in hiding as policymakers plough money into the fledgling economies as the can is kicked a little bit further.
Given these obstacles, the outlook for growth this year has been and continues to be meagre and with an inventory cycle which has just about run its course, housing markets battling to find a foothold and plenty of excess capacity in labour markets as companies remain cautious, the developed economies are expected to remain in a ‘muddle through’ mode for the rest of this year and into the next.
US: Private sector deleveraging at a slower pace will secure a moderate improvement in consumer spending in Q4 while residential investment remains paralysed by a non-existent housing market. The government spending drag is expected to be mitigated if a stimulus package finds support in Congress.
Eurozone & UK: Austerity will weigh on public spending in Q4 and beyond while private demand will be challenged by a soft labour market. Sovereign debt concerns spreading to Spain and Italy will further undermine consumer confidence and companies’ appetite for investment and hiring.
Japan: The comeback in the second half of the year was not enough to combat the first half weakness due to the March earthquake. GDP is expected to decline 0.6 percent for the year. Net exports are restrained by a strong JPY (at decade high).
Emerging economies: robust growth, but tightening cycle has just about run its course
The emerging economies of the world are a big part of the reason why the global economy will grow robustly in 2011, but there are nevertheless cracks starting to appear. The weaknesses in developed economies are spilling over into emerging economies through softer global trade growth and tighter monetary policy. The tightening cycle began in 2010 in China, India and Brazil in an attempt to fend of domestic inflation while the remaining BRIC-member Russia started tightening earlier this year. With weakness in global trade fighting inflation is no longer the only point on the agenda at the central banks.
The ability of emerging market economies to act swiftly in the face of adversity to bolster private demand by moving towards easier – or just less tight - monetary policy remains a potent weapon and one which is expected to cushion the blow from a further deterioration in global trade growth; though we should not discount the slowdown in manufacturing in some emerging markets as well. Overall, we look for domestic demand to mostly counterbalance a smaller contribution from foreign trade to economic activity in emerging markets.
China: Tighter monetary policy has not made much of a dent in Chinese growth as real interest rates remain low enough to promote speculative behaviour. Meanwhile, net exports and domestic investment are expected to power the economy to 9.4 percent GDP growth in 2011.