Sunday, March 29, 2009

Economic Recovery

Economic Recovery is in the Brain!

As the global economy saw a sustained and uninterrupted growth of just about a decade since the east- Asian crisis of 1998-9, the USA became first to strike back with a vengeance as if she was waiting to destabilize the world economy with a purpose. The blame game began – it is the sub-prime lending, crash of the housing market and so on; but the real culprit was the inefficient and unregulated banking sector in the US and selected European countries. Remember even the erstwhile east-Asian crisis was triggered by the failure of the banking sector who could not sustain FII and FDI flows and the panic subsequently robbed the capital markets across the region through contagion. This time it is not the financial constraints per se, rather glut of easy and cheap money channeled into the American financial system from across the world, mainly through federal bonds and speculative investments in real estate. USA has been the favorite destination for keeping ‘global sovereign funds’ as a store of value through the purchase of federal bonds and investments in private markets. For example, most of surplus petro-dollars from the Middle Eastern countries, the national savings from China and Japan are dominantly parked in the American bond and stock markets and by the end of 2008 US had the largest negative trade balance in the world of $821billions.

Another fact important is that financial crisis that hit the real estate in the US came unannounced; the undercurrent of this ‘financial tsunami’ was not at all visible. Murmurs of overheating of economies were heard during 2008 but they were taken as positive indications for promoting high levels of production and marketing activities thus benefitting corporate sector. But subsequent to the crisis inter-banking activity came to standstill and developmental fund channel for industrial production, trade and services was desiccated. Many expansion plans and future investments were put on hold. A grand psychological deficit took shape which further drained the financial markets, that not only damaged institutions and business but also individuals and households. In spite of the fear of loss of value of cash savings, individuals preferred to withhold cash or should we say stash cash under the pillow thus damaging the business and marketing activists. Such a forced and unwarranted savings create disaster especially during the slowdown as this behavior reduces domestic demand and brings down the overall economic activity leading to massive unemployment, although there could be initially a decline in rate of inflation. Such a behavior normally snowballs into deep crisis. The efforts to stop such disaster have lead to what is now known as economic bail out plans but amidst serious criticisms.

As a fall out of the meltdown a number of less developed countries are affected. The Economic Intelligence Unit predicts that 95 countries around the world are facing a threat of social unrest which can disrupt economies and topple governments. Volatility and uncertainty in food and fuel prices, and associated pricing and trade policies needs to be at the top of the economic agenda of low income and transition economies so as to keep a watch on the welfare of millions of the downtrodden spread across both the rural and urban areas. Many businesses are resorting to wage cuts or reduction in working hours, depleting inventories and so on. The durability and resilience of an economy during the crises is linked with its own diversity and vastness in terms of the sectors of economy, for example, single or fewer commodity export economics would get affected much more from a sharp fall in global prices of such commodities; compared with economies with a diverse basket of goods and services in its markets. An extension of this phenomenon is geographic diversity and a broad spread of multiple economic activities across all parts of a country including rural areas and semi-urban corridors. Thus the key is in economic and geographic spread and not in its concentration, notwithstanding the most recent prescription of the World Bank vehemently promoting economic concentration in the guise of economics of agglomeration (World Development Report, 2009). Note that such counter arguments and conflicting policy orientations between economics of specialization, agglomeration and even division of labor are as old as economic thought itself and it is easy to recommend a balanced view on it; but what is relevant today is that there cannot be a single prescription and that countries face very different economic situations. Thus, there have to be a range of economic prescriptions depending upon the nature, depth and breadth of global integration and level of economic development itself.

The rich economics are putting financial bailout packages to banks and industrial houses under sever criticisms that such efforts are akin to nationalization and getting closer to socialistic virtues which are not respected in liberal market economics. The economic bailout plans mostly in US but also in the UK and to a limited extent in other European countries are intended to bring back vibrancy of economic activity through promoting businesses. But this is better said than done, as businesses can be promoted only when psychologically they are again ready to take risks and initiatives for furthering production, distribution and trading activities. A saving grace during this state of madness has been not so high increases in basic food items although there are indicators of food price increase during this year and the year after. Food prices have either declined or remained same, but there are pressures that they may increase which will mean that the poor will be affected.

It was common knowledge that India and China were engines thrusting economic momentum of the globe during previous decade and expected to do so during next half a century or more. But the meltdown has affected both - China much more than India. This is because of China’s high degree of global integration in spite of not being a member of WTO for a long time. China has recorded industrial unemployment never heard of and economic growth rate is expected to be half of decadal average. India on the other hand not fully integrated globally both in terms of exports and financial inflows are affected somewhat less. It has not yet seen massive unemployment although a recent ‘labour bureau’ estimate puts is at about 500,000 job losses but it is nowhere near to 2.5-3 millions reported from China. Indian has continued to receive FDIs almost at the same rate and reached the peak last month. Thus what appeared a problem for India that its economy was growing due to domestic demand has become a blessing in
disguise, and supporting reasonable growth during the downturn. Even the IMF (18th March 2009 news papers) has accorded accolade for India for its responsible economic policies and sustaining growth in the vicinity of 6 % during the current year.

A natural response to protect an economy from the global forces of meltdown could be to insulate itself through protectionist policies. A few countries have precisely done the same especially in areas of financial flows and food exports. But what appears a curse in transferring and augmenting the impact of the meltdown, is precisely what will work to ward off such an evil. Multilateralism and open borders still are the solutions to reduce the impact jointly and ultimately get a set of countries out of recessionary situations. At the national level it is prudent to sustain expenditures on programs such as for mass employment generation (NREGA) which enables the rural poor to sustain income and consumption. Fiscal deficits will be under stress but that is what the national governments are expected to do, manage fiscal and financial flows prudently.

No comments: