Monthly Archives: December 2010

You’ve read again and again that there was a global financial crisis that started in 2008. Well is that really true? Was there really a global crisis, or was it primarily an Anglo-Saxon crisis? Of course it is true that everyone was affected to some extent by the crisis. But isn’t that always the case in a financially interconnected world? The financial crisis in 1997 was not called a “global crisis”, for instance, even though it affected everyone to some extent… It was called the Asian Financial crisis because that was a good description for what it really was. It was caused by the foreign debt of South-East Asian countries that ended-up creating major financial ripples across the world, including a huge stock market correction in the US.

So what is the best description for the crisis that started in 2008? I contend here that it was primarily the failure of the UK/US “Anglo-Saxon” model of how to run an economy. It wasn’t a failure of capitalism as some claimed when economies started going into recession. It was the failure of the Anglo-Saxon vision that was thought would create a better way of running advanced economies, one that was thought to be superior to the way Germany and China ran their economies…

To start with, we need to take a quick look at the damage caused by the crisis. How bad was it, and which countries were really affected? There are a couple of problems with the usual financial yardstick of quarterly GDP growth rates. Firstly, quarterly GDP rates are hard to understand when one is looking at multiple quarters – especially as the percentages are relative to the previous quarter. So if the US economy grew by 0.5% in a particular Q2 and another 0.5% in the next Q3, in absolute terms Q3 actually grew by more dollars in absolute terms than Q2 due to the compound effect. That is far too confusing a concept when looking at a chain of quarters, especially when some quarters have negative growth. The second big problem is that GDP growth rates are always expressed in local currency terms. So it really makes little sense to say that country A did much better than country B because it grew a little faster in terms of GDP growth rate, if at the same time it’s currency dived by 10%.

A better way of comparing economies is to convert GDP to one currency (I have chosen the Euro for this website) and then look at the absolute value of the GDP of each country in Euro and how that changed over the crisis period. Let’s be clear about what that means – we will compare the economic value created by various world economies on a genuinely comparable basis, over the last ten years.

Take a close look at the chart below. It shows the way selected OECD economies faired over the ten year period from 2001-2010. I have taken the OECD figures for each country’s local-currency-GDP every quarter and converted it to Euro at the average Euro exchange rate prevailing in that quarter. So for example, in Q1 2001, I took the US GDP for that quarter in USD, calculated the average EUR/USD exchange rate for Q1 2001 from historical tables, and then calculated the value of goods and services created by the US economy in Euro terms for that quarter. I then repeated that for the various economies in my chart below. And as you can see I also compared countries based on growth starting from the beginning of the decade, so that you can see how each economy faired on a genuinely comparable basis.

If you have not done this type of comparison yourself, you have got to be surprised by this chart. You would not have predicted what you see above from what you have read in the Anglo-Saxon press. Take a look at who is at the bottom. And now look at who is at the top. Surprised?  You have heard a lot about the PIGS economies, but you didn’t know that they could fly did you..?

But leaving aside that dig at the press, there is a serious objective to this website. I believe that it is critically important for the global recovery that we understand how we got into the current mess in the first place. Only then can we design our way out of it and learn the lessons for the future.

So to begin with, some first observations from the chart:

• We knew that the Japanese economy was struggling – so no big surprise there. (More about Japan later).
• We thought that there was a US productivity boom in the last decade. Well there was no such boom in Euro terms. The value of goods and services created by the US on an internationally comparable basis was at best flat in the last decade. If you then consider that there was significant population growth (approximately 1% each year in the US), then on a per capita basis the US has regressed in the last ten years.
• The UK story is more interesting. We were told that the UK economy outpaced the sclerotic Eurozone, pre-2008.  All that happened was that the UK just about kept pace with the Euro average by borrowing at a record pace. When the music stopped in 2008 the Pound dived and the UK took its rightful place alongside the US – at the bottom of the table.
• And look at what the UK’s competitive devaluation did to the Irish economy. Ireland being so tightly coupled to the UK economy suffered hugely as the pound was devalued.
• Also take a close look at how Spain and Greece performed over the last ten years, and even more interestingly, in the 2008-2010 period. You did not guess that did you from what you have read in the press?
• Finally, the story of the German economy is illuminating. It must have been hard for Germany to follow the prudent path they followed, especially pre-2008, with all of the Anglo-Saxon noise about their economic miracle. There was massive capital misallocation as the Chinese and others were persuaded to invest in the Anglo-Saxon economies while Germany was starved of foreign direct investment. But despite that, Germany grew by 20% over the ten year period – only just sort of the long term growth speed limit for advanced economies.

What then are the big lessons from the crisis and what does the future hold?

• An annual long term growth rate of 2%+ per year is a pretty good rate for advanced economies. When you see annualised rates of 4% and 5% you have to start getting suspicious. (Do you remember the 5% rates the US was reporting a few years ago? Where did that disappear to?).

• There are no shortcuts to getting economies to perform consistently at the 2%+ growth level. Innovation and productivity improvement are the only way to grow the advanced economies. The idea that consumer spending fuelled by lots of debt is a good thing has got to be banished as a bad dream from the last decade. (Apparently a lot of people have still not understood this – it amazes me that we still have newspaper articles that write lovingly about possible “green shoots” of house price increases. When will they understand that that it is just a form of inflation, a form of debasement of the currency, a form of get-rich-quick that is insidious and makes people think they are better-off when they are actually not?).

• The US and the UK borrowed heavily and spent it on consumer goods and services in the last three decades. They now have to repay some of that debt and try to grow despite that head wind. A long term average growth rate of 1% over the next decade (on a per-capita basis) would be a great achievement in the circumstances. The US and UK have got to be realistic about what is possible. On a per-capita Euro-GDP basis I would forecast that the US and UK will not be able to do better than that in the 2011-2020 period.

• The Eurozone on the other hand has a much smaller set of problems than the US and UK. Led by Germany, my forecast is that the Eurozone will achieve a 2% growth on a per-capita Euro-GDP basis from 2011-20. That will be a great performance, given the drag from the Anglo-Saxon countries.

• And Asia – what will Asia do? This has got to be the Asian decade. There is no reason to believe that China would grow any less than 7% per year on a Yuan basis in 2011-20, which is likely to translate into much more than that on a Euro basis as the Chinese Yuan appreciates in the next decade against the dollar and the Euro. India will keep pace with China as a minimum, and these two Asian giants will pull the rest of Asia along. 10% annual growth for the whole of Asia on a Euro-GDP basis must be on the cards for the 2011-20 period.

• What is the future for poor Japan? It is clear that Japan suffered massively from the aftermath of the asset bubble of the late 80s. Two decades later, it is not clear that Japan is fully out of its deflation nightmare. Our Euro-GDP chart shows the damage that was caused in the last decade. Is Japan on the mend? Perhaps. The Asian decade will be a great bonus for the Japanese economy and Japan will need to tread the political minefield of its relationship with China with great care. But Asia is a big place, and China while dominant will not be the only Asian story. It will be great to watch how Japan re-orients itself in Asia – as re-orient it must. Dependence on US exports would not be the way for Japan to grow in the decade to come.

• There must be a lot for the Anglo-Saxon’s to learn from Japanese deflation and the two lost decades. Is there a shortcut to consistent high growth for the US and UK in the coming decade? I don’t think there is.

(c) Carl Chandana 2011