worthwhile read..
morganstanley.com
Stephen Roach (New York)
This summer’s firestorm in financial markets spells downside risks to the global economy. It’s just a question of degree, in my view. Around the world, our economists are tinkering with their models, preparing for the inevitable downward revisions to their growth forecasts. In the works is the first significant recasting of our 2003 global growth outlook since we unveiled it late last year.
Globalization has its pluses and minuses. But the cross-border connectivity of world financial markets that it has spawned is the stuff of a potentially lethal contagion. We saw that with a vengeance in 1998, and we’re seeing strong hints of it again today. The impacts, of course, differ from country to country and region to region. But the combination of negative wealth effects, dislocations in credit markets, and heightened volatility and uncertainty have put deteriorating financial market conditions on a collision course with recovery in the broader global economy. Moreover, the increased linkages on the real side of the world economy -- still dominated by a striking US-centricity -- only serve to magnify the problem. Gone are the days when asynchronous business cycles in various countries provided natural offsets for the global economy at large. In an era of globalization, the world is more synchronous and, therefore, more prone to extremes. That’s the stuff of both virtuous and vicious circles.
That’s especially the case when the engine of the world economy -- the United States -- starts to sputter. With America continuing to play the predominant role in shaping aggregate demand for the world at large, a faltering in US growth prospects has profound global implications. In my travels around the world in the past several months, there’s only one question that seems to come up in client discussions -- the outlook for the US economy. Despite all the work we have done in analyzing the macro-dynamics of Europe, Asia, Latin America, and Emerging Europe, the conversations these days always seem to start and end with an examination of US growth prognosis. With America having accounted for approximately 40% of the cumulative growth in world GDP since late 1994 -- double its share of global output -- it’s not hard to figure out why. Outside of the US, the world economy is still lacking in autonomous sources of domestic demand vigor, leaving it very much dependent on the US-led external demand of the global trade cycle. And so when America sneezes, the rest of the world quickly catches that proverbial cold.
Suffice it to say, America has sneezed. Dick Berner has now sounded a clear note of caution and is preparing to mark down his long-standing 4% growth forecast for the second half of 2002. The revisions are likely to be relatively modest -- maybe 0.5-1.0 percentage point lower -- and stop far short of the double dip that I still think is in the cards before year-end. But Dick has now made it clear that he is worried about more than just a minor hiccup on the growth front (see his most recent Forum dispatches, "Tipping Point?" of 22 July and "Hesitation Watch" of 26 July.) Recent reports of a deteriorating capital-spending picture -- as evidenced by weakening trends in nondefense capital goods orders and shipments for June -- only underscore those concerns. So, too, does the vulnerability of the American consumer that I continue to believe will make or break the case for a US double dip (see my 26 July dispatch. "Last Line of Defense"). And revisions to the US growth prognosis will undoubtedly be complicated by the upcoming statistical recasting of history about to be unveiled by Washing statisticians -- a so-called "benchmark" revision that I continue to believe will result in a significantly weaker assessment of US economic growth in 2000-01 (see my 27 June dispatch, "House of Mirrors"). Until those numbers are in hand -- they are slated for release on 31 July -- I agree with Dick that it doesn’t make much sense to issue a formal revision of the US growth forecast.
Our Euro team is leaning the same way. The transmission of financial market disruptions into the real side of the Euroland economy is different than it is the United States. Banks are more central to the credit intermediation process in Europe, whereas capital market intermediation now plays a disproportionate role in America. Conversely, stocks are less widely owned in Europe than in the US, suggestive of smaller equity wealth effects. Notwithstanding those contrasts, Eric Chaney, co-head of our Euro team, concluded in his 25 July dispatch ("Euroland: Bending Not Breaking") that "the slump in equity prices is unambiguously negative (for European growth prospects)." He also believes that a "soft credit crunch" could actually be starting on the Continent. Recent declines in European business confidence surveys -- especially for Italy, Belgium, and Germany -- underscore the linkage between financial market uncertainty and corporate sentiment. Reflecting these concerns, our Euro team has issued a warning that it, too, is leaning toward lowering its assessment of growth prospects for late 2002 and early 2003. The likelihood is that we’ll initially slice about 0.3-0.4 percentage point off our relatively anemic baseline forecast that currently averages just 2.2% real GDP growth over this two-year interval -- short of a double dip but not leaving much of a cushion against additional shocks.
Robert Feldman is sending a similar message regarding Japan (see his 25 July dispatch, "The Fastest CRIC Cycle Yet (Part I)" and Part II in today's Forum). Post-bubble Japan, in Robert’s view, has been unable to extricate itself from the vicious circle of Crisis, Response, Improvement, and Complacency. The complacency of recent months -- manifested in the form of a cyclical rebound in both the Japanese economy and its equity market -- is now coming quickly to an end, in his view. This reflects an ominous confluence of events -- a sharp recent weakening of the Japanese stock market -- with the TOPIX index falling well below previous record lows -- renewed concerns about banking reform, deepening worries about the life insurance industry, and an export-led shortfall in economic growth. The just-reported June weakness of Japanese industrial production is consistent with those concerns. This is a classic set of forces that could not only challenge the recent complacency that has sunk in (again) but set the stage for the next crisis -- as well as the policy response it would elicit. Relative to our baseline global scenario, which has penciled in a +1.2% rebound for Japanese real GDP growth in 2003, the downside is starting to look increasingly worrisome.
Nor can any offsets be counted on in the developing world. That’s certainly the case in crisis-torn South America -- especially Brazil and Argentina. But the biggest risks are probably in Asia excluding Japan -- a region that we would judge as remaining very much a levered play on US domestic demand. With the exception of Korea, there is little inherent vigor to the region’s autonomous sources of domestic demand growth. Almost by default, that leaves it heavily dependent on global trade. Moreover, the Korean consumption boom now seems to have run its course, prompting Andy Xie recently to cut his 2003 growth forecast for that economy to 4.9% (from 5.5%). In addition, there are now signs that Taiwan’s IT-led export boom is in trouble; at least, that’s the verdict from a host of economic indicators as well as from the recent profit warning of one of its biggest technology companies, TSMC (Taiwan Semiconductor Manufacturing Company). All this is symptomatic of what could turn out to be a surprisingly vulnerable Asian economy. Under the worst-case scenario of a US double dip, Andy believes the baseline 2003 GDP growth forecast for the region would have to lowered to just 3.3% (from 5.9%); by way of comparison, that’s only slightly faster than the 2.1% gain recorded in 1998, when Asia went through its worst crisis of the modern era.
On balance, there can be no mistaking our shifting assessment of global growth risks. Based on the tentative assessment of our economics team, I expect that we will shortly be cutting our 2003 estimate of world GDP growth by at least 0.3 percentage point, to 3.7% (from 4.0%). In the context of my long-standing concerns about a US double dip, I would personally place the downside to global growth for 2003 in the 3.0-3.5% range. That means that this revision to our global prognosis could well turn out to be the first of several more to come. |
