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December 29, 1997
Is the Asian Crisis a Boon to U.S.
Or First Whiff on Next Recession?
By JACOB M. SCHLESINGER
Staff Reporter of THE WALL STREET JOURNAL
WASHINGTON -- Is the Asian financial crisis a welcome
tranquilizer for the U.S. economy or the first tremor of the
Clinton recession?
That's the big question for 1998.
Optimists, who prevail among mainstream economists, argue that
Asia's problems are a well-timed piece of bad news, a
much-needed brake-tapping to America's economic juggernaut.
By cooling demand for U.S. exports, they say, the Asian turmoil
reduces the odds of a new burst of inflation or a recession induced
by a Federal Reserve interest-rate boost. Much like the 1987
stock-market crash, it could turn out to be a pause that refreshes.
The Worried Minority
But a growing minority of economists -- and, privately, some U.S.
government officials -- are beginning to worry that the rosy
forecasts rely too heavily on old equations that miss new realities
of the global marketplace. The economy is acting in ways never
before seen by economists trained in postwar America. The very
fact that inflation is falling despite an unemployment rate below
5% suggests that the old models are old hat. So does the fact that
the bursting of a real-estate bubble in Bangkok, Thailand, was able
to trigger a chain reaction that temporarily shook the U.S. stock
market.
The Asian crisis "raises questions about whether we've let some
genie out of the bottle we don't fully comprehend," says David
Hale, an economist at Zurich Kemper Investments in Chicago.
"The speed with which the problem has spread and the scope of
countries affected has been quite unprecedented. We shouldn't be
complacent."
Striving to make sense of current events, some economists are
combing through history books. Bradford DeLong, a former
Clinton aide now at the University of California at Berkeley, says
the late 1990s may resemble the late 1920s, when a "wave of
currency crises and devaluations that destroyed the financial
systems came as a complete surprise" to policy makers.
Oil Shock Recalled
Princeton University's Alan Blinder, a former Federal Reserve vice
chairman, cites a later parallel: the oil shock of the early 1970s. "It
was a new kind of event, and it took a while before people knew
how to cope with it," he says. The result: "substantial policy errors"
that prolonged the U.S. recession in the mid-1970s. The Asian
crisis, too, "is a new sort of event," he says, "and it does leave you
rationally worried about policy mistakes."
The upbeat consensus forecast certainly has its logic. Despite the
rhetoric about globalization, the U.S. still has a highly insular
economy. Just 11% of gross domestic product comes from
exports, and less than 10% of exports go to the most-troubled
Asian nations. While overseas business is bound to slip a bit as
Asian growth slows, demand at home -- from both consumer
spending and corporate investment -- remains surprisingly strong.
The consensus: Inflation-adjusted GDP growth next year will be a
healthy 2.5%, even though held down about half a percentage
point, mostly by lost export sales.
Absent the Asian crisis, these forecasters contend, the Federal
Reserve would have raised interest rates and probably caused the
same slowing of the economy anyway. "This is the immaculate
slowdown," says Joel Prakken, chairman of Macroeconomic
Advisers L.L.C., a forecasting firm based in St. Louis. By cooling
things off without a Fed move, the Asian crunch "allows us to
project lower interest rates into the future, which is very good for
potential growth," he adds. "This could actually be a boon to us."
Best Time for Bad News
Says Mervyn King, deputy governor of the Bank of England: "If
we had to experience this at all, this was the stage of the [business]
cycle to have it."
But the pessimists note that even in normal times, forecasters are
lousy at predicting economic turning points and are likely to do
even worse when the old rules are in flux. Moreover, forecasting
models tend to be built on assumptions that people behave
rationally, but actual events are often driven by waves of
irrationality. And such waves worry the pessimists.
Still-unknown pieces of the story: how long the crisis will last and
how far it will spread among developing countries. It raced from
Thailand to Indonesia to South Korea. And nervous speculation
has, in recent weeks, circled Hong Kong, Taiwan, China, Russia,
Ukraine and Brazil.
A year ago, investors in the U.S. and elsewhere viewed "emerging"
markets as a hot place to invest. Now, many are getting out,
causing currencies to fall and interest rates to rise in a lot of those
markets. Another shock, such as a Korean default, could cause
more currency drops and rate increases, pushing up capital costs
and slowing growth in much of the developing world. The U.S.
economy would be much more powerfully affected because
developing countries together absorb about one-fourth of
American exports.
Japan's incipient recession, moreover, will almost certainly deepen,
probably reducing the American goods sold there; they totaled
$68 billion in 1996. And the woes of Japanese banks, which
include six of the world's 10 largest, exacerbate the worries. If
Japanese bureaucrats don't handle the problem skillfully -- and
apprehensive U.S. officials have little confidence in them-the
implications could be enormous. The global banking system
depends on major banks around the world providing each other
with billions of dollars in short-term loans, extended with
confidence of quick repayment. A major bank failure in Japan, if
mishandled, could disrupt that flow of payments and cause the
system to seize up -- the financial equivalent of a stroke.
No one is predicting that disaster, of course, but from Fed
Chairman Alan Greenspan on down, it stirs serious concern.
Jeffrey Shafer, a former Clinton Treasury official, says that if he
were still in his old job, "I would be staying up at night worrying
about a major meltdown of banks in Asia, especially in Japan."
Export Drives Likely
Even without a Japanese banking crisis, Asia's problems will have
effects on the U.S. economy that the forecasting models may fail
to recognize fully. In addition to falling U.S. exports to the region,
there is the prospect of struggling Asian companies unloading
goods at bargain prices just to cover operating costs. Their exports
will also be helped by their depressed currencies, which make
products cheaper in dollar terms. The result: U.S. companies will
feel intense pressure from Asian competitors to cut prices. And the
pressure on prices is growing just when tight labor markets are
pushing up U.S. wages. That combination creates a profit squeeze
that could eventually reduce business investment and
employment.
Still unclear is how big a toll slumping profit expectations may
have on the stock market, which has floundered recently in
response to Asia's problems. A sharp drop in stock prices could
deal another blow to the economy.
Also hard to quantify are the ripple effects from Asia. Bison Gear
& Engineering Corp., for example, does no business there and has
no Asian competitors selling goods here. Nevertheless, the small
Chicago-area maker of electric gear motors is bracing for a drop in
business because it supplies bigger U.S. companies that do have
Korean competitors. "We're concerned about the impact on some
of our customers with possible inroads being made by Koreans
lowering their prices," says Ronald Bullock, Bison's president.
Worsening matters still more could be a turn toward
protectionism and isolationism in the U.S. The failure of Congress
to pass fast-track trade legislation this year surprised most analysts.
And its failure to approve $3.5 billion for a new global bailout
fund undercut the International Monetary Fund at the very
moment the IMF was trying to deal with the Asian crisis.
U.S. Trade Deficit
Economists predict that a flood of cheaper Asian imports will
widen the U.S. trade deficit by more than a third over the next
couple of years to as much as $300 billion. If that happens just as
the economy slows, Congress might take other actions next year
that would cast doubt on the U.S. commitment to the global
economy, aggravating the problems.
The troubled Asian economies "can't export their way out; that
will hurt the very countries that are trying to help," says Rep.
Richard Gephardt, a leading opponent of President Clinton's
recent efforts to push new trade pacts. The Missouri Democrat
thinks a looming deficit will help his bid to create what he calls a
more "compatible trading system," with conditions such as labor
and environmental rules attached to pacts -- conditions that some
see fueling trade tensions.
None of these problems -- a surging trade deficit, a falling stock
market, a drop in investment, a move toward protectionism, a
glitch in the global finance system -- would probably be enough,
alone, to halt the U.S. juggernaut. But such problems tend to
come in bunches. Some analysts fear that the optimism that has
fueled U.S. economic growth for the past few years could
suddenly evaporate. Just as events of the past six months have
shattered the overconfidence of Asians, who had become
mesmerized by talk of the "Asian miracle" and the "Pacific century,"
the next few months could puncture the "irrational exuberance" of
Americans. And it is such a reversal of expectations that sets off
economic downturns.
Right now, however, the optimistic scenario is what impresses
most economists. With the economy galloping along, a drop in
exports won't have much of an impact, and the Fed isn't likely to
raise interest rates, they contend. As for the stock market -- well,
people have been predicting for years that it would run off a cliff,
and they have been wrong.
Indeed, half the 20 top executives recently surveyed by the
National Association of Manufacturers say their exports will be
affected only "marginally" by the Asian crisis, and most say they
are sticking with bullish forecasts and spending plans. Four out of
five expect profits to rise again next year; half expect GDP to grow
at least 2%. A survey released last week by the National Federation
of Independent Business concluded that the group's
small-business members still foresee "record plans to hire, record
job openings, record capital spending" in 1998.
Faith in the IMF
The good-news outlook generally assumes only a brief
interruption -- maybe a year or two -- in Asia's rapid growth; then,
the region will once again be absorbing American exports when
U.S. domestic demand slows, as it inevitably will at some point in
the next few years. That forecast, in turn, rests on faith that the
IMF has the right medicine for the Asian flu and that the afflicted
countries will take it. Asian countries will actually emerge stronger,
some say, because they will pursue sounder free-market policies.
Some American companies even anticipate a windfall as major
competitors are beaten down. "The large conglomerates in Korea,
in particular, will have to cut back on their investments. Some of
them will not be able to borrow at any price," says Vladi Catto,
chief economist at Texas Instruments Inc. As a result, they won't
be able to expand to take on U.S. companies. Led by Samsung
Group, a huge buildup in Korean memory-chip capacity has
helped push down prices 60% a year for the past two years, Mr.
Catto says. As Korean companies lose their access to capital, he
adds, that expansion will stop, and Texas Instruments will benefit.
Longer term, a few executives foresee a new Asian corporate
culture that will help U.S. companies compete, a culture focusing
more on profits and less on a headlong rush for market share at
any cost.
"A lot of their investment was growth-driven," says Thomas C.
Humphrey, president of DuPont Co.'s Asia/Pacific operations,
which face intense competition from Korea, Indonesia and
Malaysia in fiber products and specialty chemicals. "That
environment is going to change, where they'll be more
accountable for how they invest," he adds. "That's going to be
healthy for companies like ours."
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