Death Cross For Global Economic Growth

By: Andrew_McKillop

The Perfect Storm
World Bank estimates and forecasts of economic growth are as slippy and always-cut-back as IMF forecasts. They share the same “optimistic cognitive bias”. The Bank's latest forecasts, issued Tuesday 10 June, used the terms “bumpy start to 2014”, nearly 6 months through the year, and talked about “cold winter conditions” slowing growth in “several countries”. Not in Europe. It had one of its warmest winters for decades – and growth declined in Europe, also!

The Emerging Economy Adjustment Mechanism
In an Aug 2009 report titled 'From Global Collapse to Recovery' the World Bank said that “The global crisis is now in the rear view mirror and world growth is being restored. In sharp contrast with past episodes of global turmoil, this time the recovery is led by the periphery'

The Bank – in 2009 - claimed the Emerging economies would play locomotive saying the BRICS excluding Russia, the ASEAN nations of SE Asia, and the LAC or Latin American and Caribbean region had better resisted the 2008-09 crisis. The Bank said their economic contraction was less than in G7 and developed countries, their recovery started faster, and their rebound had been stronger.

This is today's rearview mirror image. Upcoming reality is different.

As it was, the Bank (like the IMF) in 2009 made a totally false analysis, and used it to make falsified policy advisory interpretations of what had happened in 2008-2009. One key indicator stands about all others.The sharp, sudden and synchronised fall in world trade that took place in the wake of the 2008–09 financial crisis was a specially notable event.

The Bank and the IMF shrugged it off. In fact this trade contraction event was one of the biggest and most remarkable to hit the international economy in decades. Particularly striking was not especially that trade almost inevitably contracted in the months following the beginning of the financial crisis - but rather that trade contracted so much more than economic output. In 2009, using Bank and IMF data, real world GNP decreased by 0.7%, whereas real physical-basis trade flows collapsed by 11% on average. In some sectors and for certain periods of 2009, for example cars and machine tools in Q3 2008-Q2 2009, the collapse averaged as much as 20%.

The economic researcher and author, Richard Baldwin in a book published in November 2009 'The Great Trade Collapse', with other economists looks at how different the 2008-2009 crisis period was, compared to previous or 'classic economic crises'.

The 2008-09 trade collapse should have alerted institutions like the Bank and IMF that they are facing a different “ballgame” - a different system and process from what they hope and fondly imagine. Their increasingly unsure and increasingly derided forecasts of “growth just around the corner” could be canned, as they should be. They are worse than simply “over optimistic”.

Sudden, Severe, Synchronized
Concerning the Emerging economies, calling them “a global economic adjustment mechanism”, able to restore world growth – through export and trade growth – is pure and simply based on Ricardo's principle of comparative advantage and fast-developing (in Ricardo's time) world shipping and maritime trade. This ignores the explosive impacts of a financialized global economic system. When it upends and goes into reverse, the collapse is rapid and there are no firewalls.

The Emerging economies were hit in 2008-09, and will surely be hit a second time.

Understanding the mechanism and comparing it with “classic crisis” models is necessary, but we can't expect that from the World Bank or IMF.

Since 1945 world trade contracted three-times-only before The Great Trade Collapse but all of these contractions were smaller and-or shorter than in 2008-09. Trade contracted most sharply in the wake of the Arab oil-shock recession of 1974-75, less so during the Reagan-Thatcher inflation-defeating recession of 1981-83, and less again during the Tech-Wreck Dotcom-Dive recession of 2001-02.

Concerning the nature of the previous contractions for world trade, all of them were either totally unrelated, or little related to manufacturing and industry. Only in the case of the oil shock recession was there a clear role for sudden and massive variations in commodity, food and fuel prices playing a major role in the trade collapse In 2008-09 this factor was overwhelming.

Two of the 'previous historic cases' were inflationary and one was (arguably) deflationary. All of them left either no trace at all, or little trace when measured by trade recovery – but this is again arguable in the case of the 1970s Oil Shock and economic crisis, due to its likely role in sparking the 1981-83 recession. In that framework, this could be called a two-stage crisis that spanned about 8 years.

The Great Trade Collapse of 2008-09 was a mega reset that capped and sealed an already-existing trend of declining importance of world trade. From around 1990, every year, the ratio of world trade (exports-imports) to world GNP had increased, reaching a peak coefficient in 2001 of 1 unit of world GNP causing or supporting 1.1 units of world trade. After the Dotcom crash this mildly reset – and since then has fallen steadily, until it collapsed in 2008-09 to a ratio or coefficient of about 0.70. This reset the role of world trade to the world economy below its 1980 ratio. World trade dialed back 29 years in 12 months!

During the 1980-2001 period, one of the mega changes of the global economy – perhaps the biggest – was the massive growth of the export-based Emerging economies. This alone explains why it is impossible (not just unlikely) they can play “locomotive” for global economic recovery today.

Why The Present Crisis Is Durable
Trade has declined, and was declining anyhow – explained by many (non IMF or World Bank) economists cited by Richard Baldwin as due to two main factors, both of which are likely to slow recovery and slow growth.

Firstly, commodities, fuel and food price speculation and the ever-present threat of price collapses will always have a rapid knock-on to trade. Trade (and other economic activity) dependent on this sector was driven high on booming fuel, industrial metals and food commodity prices – but this growth was not directly based on the real economy. It was “intermediated” by commodity markets, and upstream of them by traders, brokers and bankers.

Price crashes can only have a dramatic impact. Taking only the case of oil, from midyear 2008 to late 2009 prices dropped about 70% before rebounding – but the impacts of this on world oil shipping, transport and refinery operations left behind massive collateral economic and industrial damage, for example in world oil tanker fleet capacity utilization, tanker freight rates, shipyard construction activity, tanker financing, and so on. This will take years, even a decade to unwind.

In world manufacturing and industrial activity, since 1980 the one-way trend was to supply chain integration and 'just in time' inventory management in tight-linked globalized production and assembly infrastructures. This reached a peak as far back as 2001 and was slightly declining, but this vastly accelerated with the 2008-09 crisis. One major driver of this decline and retreat is that supply chain integration will only, and can only rapidly transmit demand shocks.

Economists trying to find real explanations for the processes resulting in The Great Trade Collapse are coming to consensus on this being caused by demand shock, rather than supply shock. As we know, demand includes both the physical component, and financial credit growth of the financialized economy. Commodities investment based on price growth totally unrelated to the real economy, and world manufacturing supply chain integration 'rationalized' as able to continue as world economic growth continued, enabled vast “leverage” or debt across the whole economy – both in the Emerging economies and developed countries.

Artificial demand was printed to the real economy through artificially elevated prices. This fed artificial economic growth based on extreme growth of credit and debt. When this system unwinds, the impacts are dramatic.

Downward adjustment was therefore the only logical outcome – especially when the role of behavioral economics is included. The key term is “postponable”, whether this concerns consumer goods like cars, PCs, cellphones, and household goods or business investment. Postponed spending is the natural corollary of artificial prices, demand and growth. Especially in Emerging economies, postponable business investment – and consumer spending in their small but politically important “new middle classes” - is larger than in the developing countries. This means that economic contraction inside the Emerging economies, this time driven or intensified by trade contraction, can be much larger than in 2008-09 if (perhaps we should say when) there is another global financial and economic crash.

Capitalism Without The Capital
The 2008-09 crisis was certainly different to the previous three-only cases of post-1945 economic recessions sufficiently severe to push down world trade. In the cases of the US, UK, France, Italy and other PIIGS countries, Japan and some other developed countries, the financial damage done by the bursting US subprime bubble is still being felt. Their financial systems are still under severe strain. Bank lending is sluggish and corporate-debt issues are problematic. Extraordinary and seemingly-permanent direct “QE” intervention by central banks in the capital markets are (according to the IMF) supposedly underpinning the pastiche economic recovery.

In fact the almost exact opposite is operating. Due to QE, deflation and slowed circulation of money in the economy are themselves “capping” economic growth at a very low level, while they also increase the range of economic activities able to be called “postponable”.

This however draws attention away from the crisis facing Emerging economies – still held aloft by the World Bank and IMF as “locomotives of world growth”. Their crisis is accelerated and intensified by the trade crisis due to declines in demand – seemingly more and more permanent and not due to “adjustment” – by the G7 and other developed countries for their manufactured goods and services. Both China and India, and Brasil face growing finance-sector crises driven by low growing, stagnant or declining national exports. All of them suffer from declining growth in 2014.

With the sure and certain decline of manufacturing activity in the Emerging economies, in 2014-15, the linked and extreme 'gearing' of commodity and resources purchases and stockpiling to support manufacturing growth – for example copper and aluminium stocks in China – is under threat. The potential for very impressive asset implosions is high. The knock-on to China's fragile bank and finance sector may be very rapid.

Key industrial 'hard commodities' and food and fiber 'soft commodities' are all threatened by the reset. When there are price collapses, the knock-on damage in the financial and banking sectors of both developed and Emerging economies will intensify the downturn in economic growth that the World Bank and IMF are forced – forced – to admit, in their two faced way.

Rebound potentials after 2008-09 were already lower than after the three other crisis periods noted above. The so-called “lacklustre recovery” reveals a long-term process of declining economic growth for a large number of convergent drivers and reasons.

By Andrew McKillop

Contact: xtran9@gmail.com

Former chief policy analyst, Division A Policy, DG XVII Energy, European Commission. Andrew McKillop Biographic Highlights

Co-author 'The Doomsday Machine', Palgrave Macmillan USA, 2012

Andrew McKillop has more than 30 years experience in the energy, economic and finance domains. Trained at London UK’s University College, he has had specially long experience of energy policy, project administration and the development and financing of alternate energy. This included his role of in-house Expert on Policy and Programming at the DG XVII-Energy of the European Commission, Director of Information of the OAPEC technology transfer subsidiary, AREC and researcher for UN agencies including the ILO.

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