Getting Better Collective Decisions for a Globalized World
It is just over twenty-five years since I was last in Shanghai. This is a very short time in human history. What has been achieved in that short period is amazing by all historical standards. The Shanghai I saw last had not a single modern building and the airport did not seem much more than a very large farmer’s field. The economic numbers speak for themselves. But when you actually see the sheer scale of the physical transformation and feel the energy and aspiration of the Chinese people, it is awesome and it is hopeful.
EIGHT KEY THEMES
I will try to make eight key points this morning:
- This is a high stakes moment in human history. The post World War II achievement of an inclusive global economic order is now at risk and may prove to be beyond the collective ability of the world to sustain at this moment.
- China played no role in creating the pre-conditions that paved the way to the recent crises and the current mess. These trends had been in the making for over twenty-five years. But China’s strong arrival on the global scene in the early part of the decade unintentionally overwhelmed a global system that had become increasingly vulnerable to adverse shocks. More important than the past, however, is that China will be central to when and how we get out of the current mess.
- American politics are today the greatest single potential danger to global prosperity and preserving the inclusive global economic order.
- The U.S. Administration does not yet have it right on the economic challenge.
- Current activity and markets are very important, but balance sheets and the policy-political will gap are even more important. This is generally not well recognized.
- During the last twenty years, the world’s three largest economies – first Japan; then Germany; and now the United States have had balance sheet recessions. Cumulatively these together have severely weakened the global economy.
- The best scenario going forward requires the U.S. to get some reasonable level of natural, self-sustaining recovery and some reasonable growth help from surplus countries. Even then it will still be a long, slow struggle to achieve assured, stable global growth. We are not there yet.
- Canada, although a small country, can play a helpful role.
The current crises make it clear that all the information in the world can make things worse as well as better. Only better ideas, shared and discussed, can lead to better individual and collective decisions. Ideas do matter.
MARK THE YEAR 2005
China started down its astonishing new path in 1979. The Industrial Revolution started in Britain two hundred and fifty years ago. Sustained globalization started sixty-five years ago. China has compressed these two massive transformations into thirty years. China’s sudden export growth – the impact of outsourcing of U.S. jobs and its growing savings on the American financial system – proved too much for a United States that did not understand the huge systemic vulnerability it had created for itself. But the date that China started to matter for the overall global economy in a longer term structural way came in 2005. It was then that its current account surplus first emerged at a noticeable level and began to significantly affect the global economy itself. That is only five years ago. No country in history has moved up nearly as fast. It remains to be seen whether that will prove to have been too fast for the rest of the world to handle. But no matter what happens, history will say that 2005 marked a fundamental, once-in-history, moment of transition, when the emerging market economies, led by China, began to shape the global economic order. It is important to keep that date in mind. While China’s fast ride had primarily financial market impacts and some early politically-charged job impacts in the period immediately preceding 2007, the fundamental causes of the mess that emerged two years later lay elsewhere.
WHAT WE ARE HERE TO DISCUSS
The G-20 meeting late last month in Toronto sought to reassure markets that the authorities could manage our troubled global and financial economic system. That does not seem to have succeeded. The reasons I think are simple. The decision to start to withdraw demand stimulus while the consumer in advanced economies remains weak, will unavoidably put the current recovery at some risk. The authorities have had three big successful collective rescues: the post-Lehman Brothers financial system collapse; the great global recession; and the Eurozone sovereign debt crisis. But they have yet to address the basic cause of the current crises. Most people in the advanced economies have missed so far that underlying and driving the unfolding ebb and flow of the current data, that they follow so religiously every day, are unresolved fundamentals. How and when these fundamentals might be addressed, and what could happen if they are not, is what we are here to discuss.
MOVING BEYOND WHO DID IT
Today, it has become obvious to almost everyone that shared leadership from the United States and China is overwhelmingly the most important requirement for good outcomes. Two things are important as we reflect on this new global reality:
- The crises emerged from deeply rooted U.S. socio-cultural behaviour and its political system. Most Americans simply responded to the incentives in front of them. The problem was the absence of needed restraint and of any thought about systemic consequences.
- In addition, what unfolded both inside and outside the United States reflected something very human – a lack of awareness and understanding of where what we were doing was taking us.
So we have primarily been dealing with flawed American behaviour, but the behaviour of others had also been flawed. But because we are primarily dealing with flawed human nature and we need to move on, blame may be an inevitable element of all politics, but it is not going to get us very far. The early twentieth century English philosopher, Alfred North Whitehead, made two separate observations that strike at the heart of where we are. Narrowness is the basis of all achievement. But the universe is vast. Almost everywhere, but especially in the United States, the narrowness of achievement has prevailed over the vastness of things. That will now change.
NOT EVERY IMBALANCE IS THE SAME
Broad agreement is emerging that the big unaddressed fundamental in the global system are the imbalances. But not all imbalances are the same, and every imbalance is more than one thing. The imbalances that ultimately threaten U.S. solvency and immediately threaten U.S. jobs are the same imbalances that have helped China to become a rapidly increasing participant in the global economy. The problem is that the U.S. role is no longer sustainable and persistent non-oil surplus countries have no choice but to adjust or have financial and political markets force adjustment on them. Imbalances based on too much persistent living beyond one’s means and too much ongoing reliance on demand from exports are primarily wrong because they are unsustainable and threaten the global order itself. There are also the old-fashioned kind of imbalances. Canada benefited from these for many decades. Richer countries saved enough to make investments in less developed countries like Canada. This enhanced the incomes of both. This is very different from less developed countries saving so that more developed countries can live beyond their means. It is also different than advanced countries doing same thing. Finally, there are the surpluses of oil exporters. They are in varying degrees inevitable where there are not enough investment opportunities in their own countries to replace non-renewable resources with domestic income-earning investment. Here the main imbalances discipline can only come from consumer countries becoming more disciplined oil consumers. This is not something the U.S. is yet ready to do much about.
FIRST TRULY GLOBAL MOMENT IN HISTORY:
My parents lived most of their adult lives under the clouds of two world wars and a global depression. Their moment in history came at the end of the relatively peaceful and increasingly prosperous Western world of its post-1815 moment in history. This had followed the miserable three decades of the French Revolution and the Napoleonic Wars. A century of relative peace and prosperity later, no one in 1914 could foresee the hellish world of the next thirty years. So also no one in 1945 – I was at university at the time – could foresee how well things would go for more and more of the world. So when 9/11 hit the United States, my sense was that we were at a new moment in history. But it was no longer primarily a Western moment in history. Rather it was the first truly global moment in history, when the whole world faced at the same time the need to do many things in new ways, no matter their past history or stage of development. Many countries matter to how our moment in history will unfold. There are many serious issues. But the overriding lesson of the 1930’s and 1940’s is that there is no greater danger to peace, prosperity and stability than the failure to sustain global growth and the global economic order.
A SHIFT TO DEFLATION AND AN OVERSTRETCHED UNITED STATES
One part of my career has involved working with a group of senior Canadian businessmen on global economic issues. When we started in 1985, apart from looking at Canada because that is where we live, we only looked at the United States, Japan, Germany and the United Kingdom. One of the group, who is in the room here today, told us in the early 1990’s that we needed to start looking at China. We did this and we now primarily look at the United States, China, the Eurozone (especially Germany) and Japan. We believed in the last half of the 1980’s that the long struggle with inflation was shifting in a deflationary direction. In the decades before 1990, the challenge had been too much demand relative to supply. Since then, the challenge has become the threat of deflation from too much supply relative to demand. As a result, I thought two things at the beginning of the 1990’s. First, that the global economy was moving into a period like the 1930’s, which would be demand short, labour long, and lack enough good investment opportunities to match available savings. Once the increasingly indebted U.S. consumer ran out, so would global expansion. That took more than fifteen years to happen. Second, I thought that the early 1990’s would be the last time the U.S. would be able to lead the world out of recession. That was both wrong and right. Wrong, because the U.S. did it again in 2001. But right, because the crises which followed in 2007 showed that the U.S. lacked the underlying strength to do what it did in 2001. These views and the work of Richard Koo, Nomura’s Chief Economist on balance sheet recessions, prepared me to recognize immediately that something very big was happening when the sub-prime crisis hit in mid-2007. But nothing had prepared me for the scale and speed of the financial system collapse. I now think there were many signs that should have done so – especially the totally unrealistic share of the U.S. economy and corporate profits that the finance sector had come to represent and the leadership shift in the financial system from investment bankers to traders, who feel no natural stake in anything and whose very short time horizon require much stronger disciplines and much fewer incentives for excess than were in place.
BACKGROUND TO THIS SYMPOSIUM:
The background to the Shanghai Symposium is that our Canadian business group wanted to see Shanghai on the ground for themselves. There was also a desire to have a follow-up Symposium in Shanghai to the one I had organized in March 2009 in Toronto on the key question “Does the U.S. need help to recover?” The answer then and now was that it did and still does. The purpose of this Symposium is to stimulate increased understanding of the need for the U.S. and Chinese governments to find a way to work together with other countries like Japan and Germany, whose contribution will also be essential to rebalance the global economy for sustainable long term growth. We see a risk that both the U.S. and China understand intellectually the imbalances growth challenges and the risks posed by the global imbalances. Our fear is that neither may yet fully understand the political challenges and dangers that the other faces in order to develop a politically acceptable and successful policy path to dealing with them. That is at the heart of what I hope we can discuss today. Above all, we came to Shanghai so we could learn from knowledgable Chinese here how they see these issues and how they think they might be resolved. We cannot succeed if we in the West do not understand how China sees things, and the reverse is also true.
What we need to share views on is this:
- twenty-five years of increasing global system dysfunction brought the post-war global economic order dangerously close to collapse;
- since 2007, the major countries came to the rescue in the following already-mentioned abyss moments – the post-Lehman financial system meltdown; the great global recession; and the Eurozone crisis;
- so far, the rescues have not been followed up by real or adequate steps toward a lasting cure; and
- the result is that the post-war globalization project and the health of the global economy still remain at serious risk.
There is today in every major economy a policy-political will gap. If the gap cannot be closed by acting ahead of events, there will be further and more fundamentally rooted abyss moments which the world will have to address from a much weakened position. There is no guarantee that it will be possible for the authorities in the key countries to come to the rescue one more time and avoid catastrophe.
GETTING A HANDLE ON U.S. POLITICAL DANGERS:
The original program concept was to include one or two Americans to help us get a handle on the vital question of U.S. political dangers. However, in early June, I had a long talk with a friend of some fifteen years, who is one of the shrewdest political and public opinion analysts in Washington. He told me that no one in Washington was looking ahead far enough to think about what the pressure of events unfolding in a more recessionary or even deflationary world would mean to U.S. public opinion and politics. Stephen Roach made a similar point recently in the Financial Times. While Roach thinks the Chinese get it, he thinks his fellow Americans do not. In my Washington friend’s opinion, Americans are not about to get it any time soon. This reflects the overwhelming preoccupation of most Americans with only what goes on in the United States; the general absence of American self-reflection on their own role in untoward negative events which affect them; and the overwhelming number of issues that in today’s U.S. politics have to be fought for every inch of the way on a 24/7 basis. He said he knew of no one in Washington who might usefully address this. He suggested I might at this point be as good as anyone he knew to raise the potential U.S. political dangers ahead. So I will try to do so. These U.S. political dangers and their management, and indeed whether they can still be managed, may prove to be by far the most important challenge for the world over the next few years.
FORGING OUR FUTURE
I have found the idea of a moment in history a useful way to help understand what is happening: the high stakes for the choices we now make and the need to stay alert to the changed reality that what used to work may no longer do so. This is the essential thought behind the “Forging the Future” title of the Symposium. The first idea is that we are now living through a moment in history. Moments in history come when the predominant forces and their direction and momentum weaken; the counter-forces they provoked along the way strengthen; and new choices determine the new forces, direction and momentum that will dominate the next decades. It is striking how the forces that created the post-World War II order have weakened to the point of the current crises involving failures of the three largest Western economies, and how clear it is that the counter-forces provoked by their dominance will become central to the new forces, direction and momentum that will now emerge.
LOOKING AT THE WORLD AS A SYSTEM
The second idea behind the “Forging the Future” title is that also, for the first time in history, the world has become a single system comprised of many separate countries, in much the way that a family is a single system comprised of many individuals. So, as in a family, if the global system is to be functional – that is, to effectively meet its members needs – it must find the right blend of separate decisions and collective decisions. It was perhaps the failure to understand this at a deep socio-cultural and political level in the United States that is the primary underlying cause of the current crises.
HOW DID WE GET WHERE WE ARE
If we are to forge a better future than is now in prospect, it is essential to get the diagnosis of where we are right. Many countries have made choices about how best to run their economies which have contributed to where we find ourselves. But, overwhelmingly, it has been American choices. These choices go back to the seventies and eighties, long before China became a major and growing factor in global economic affairs. The United States started to live beyond its means in 1980, some twenty-five years before Chinese current account surpluses became a major global economic factor (see charts – 1-4). But two other countries – Japan and Germany – also made fateful choices that had a major adverse impact.
UNDERSTANDING THE POLICY-POLITICAL WILL
Since 2007, policy has been the key driver of economic and financial events. Markets are primarily responsive to policy and the perceived presence or absence of political will. The policy-political will gap is now key and is perceived to be large enough to adversely affect confidence in the future. The economic forces that drive the policy-political will gap are:
- a country’s net investment position
- the strength of its currency
- the level of government debt
- employment conditions
- current account surpluses and deficits
- growth prospects
SIX DATES TELL THE STORY
Six dates and a few charts put in perspective what needs to be done by whom and the limited scope for an early strong and stable global recovery even though it is now three years after the crises started, and despite huge monetary and fiscal stimulus and a return to growth in the emerging market economies.
1980 is the year when the United States started down its path to the near-collapse of its financial system and its balance sheet recession. Thirty years later, debt and deficit reduction and job creation are the two great American challenges (charts 5-12).
1985 is the year when Japan started its long twenty-five year string of current account surpluses and which started the rise of the Japanese yen from 244 yen to the U.S. dollar in 1985 to less than 90 yen today. It is important to understand how little this rise did by itself to dent the scale of Japan’s current account surpluses (charts 13-15).
1990-2005 are the years of the Japanese balance sheet recession, which was exported slowly over the next seventeen years to the rest of the global economy, primarily the United States.
2000. Richard Koo has presented a compelling argument for a large measure of German responsibility for the recent Greece and PIIGS Eurzone crisis (chart 16) and for the view that Germany went into its own balance sheet recession in 2000 (much less serious than the Japanese and American ones), from which it extracted itself very quickly by running by 2007 the world’s largest trade surplus. This came to a very large degree at the expense of current account and government deficits in other Eurozone countries. As Koo sees it, it was low interest rates, in response to German conditions, that caused the housing bubbles and thus spending in the PIIGS, that pulled Germany out of its balance sheet recession.
2005 was when China began its run of explosive trade surpluses. These were not a major factor in the U.S. crises, but are now one of the central factors going forward (chart 17).
2007-2010 are the years of near-collapse of the global financial system and of the great global recession, whose damage will now dominate most, if not all, of the current decade.
BUILT AND THEN UNDERMINED BY THREE COUNTRIES
The post-war economic order was primarily built by three countries – initially overwhelmingly by the United States, but as time went on, also by Germany and Japan. They each did well by historic standards until 1980. Then the unraveling of the post-war inclusive order got underway, as the U.S. embarked on a three decades long path of living beyond its means. The story is in one sense quite simple:
- the three biggest economies in the world each began to lose discipline after 1980 by not facing up to issues that could cause political pain. The global system enabled them to do this for a while. But it has now caught up with them. Each ended up with balance sheet recessions.
- China did not play a major role in this, but looking ahead it will share responsibility with the United States, Japan and Germany for where our moment in history takes us; and
- Monetary policy, governed by too narrow a focus on goods and services inflation, while ignoring asset inflation and potential balance sheet deterioration, was implicated in all three balance sheet recessions. It accommodated the rising external imbalances which was the real moral hazard. It also facilitated a huge tilt in favour of financial activity over the real economy; bad macro-economic management; and the failure to make needed structural adjustments. It faces the need for some very deep rethinking.
WRONG IN A VERY BIG WAY
The United States clearly went wrong in a very big way over the past thirty years. The underlying reasons are several:
- it was unable to find a way to live within its means, which started the long build up of debt and related loose monetary policy;
- it preferred to fight over taxes and spending than to acknowledge the importance of fiscal policy discipline to macro economic management;
- it trusted the Fed and a single-purpose anti-goods and services inflation monetary policy too much;
- it entrusted everything – especially energy policy and its financial system – to markets with no strategic results-based purpose or oversight;
- its deep distrust of government meant that where a tighter macro-economic policy, better regulation, and a less oil-reliant economy, could have helped long-term sustainability, no one in a position to do anything seriously considered doing anything; and
- overall, it and many other countries over-estimated the effective reach of the United States.
These reflect deep socio- cultural and political system elements that will for a long time get in the way of needed U.S. adjustment. They also reflect misjudgments in other key countries. This will not change quickly, so the world will have to work with and around them to get minimally acceptable outcomes.
UNDERSTANDING THE CHINA IMPACTS
It is clear that China had no role in creating the socio-cultural and political-economic pre-conditions in the U.S. and elsewhere for the recent crisis and current mess. But it is also clear that China’s accession to the WTO in late 2001 and its rapid export growth a few years thereafter had the effect of accelerating and aggravating these trends, culminating in the crises. First, the growing inclusion of China’s huge labour pool into the global labour market helped slow the pace of U.S. job growth after the 2002 recession and also suppressed the emergence of price inflation. This allowed the U.S. Fed to keep interest rates low for much longer than is customary. This reinforced incentives for ever increasing excessive leverage and speculation. Second, rapid Chinese export growth in the context of low domestic consumption and a managed exchange rate produced huge savings surpluses which had to be recycled externally. This recycling lowered long-term real interest rates, helped compress risk spreads and prompted an investor search for low-risk higher yield investments, all of which helped fuel the sub-prime financed housing and broader economic bubble. Whatever history concludes was the precise nature and mechanics of China’s role, it is clear that the size and trajectory of its current account surplus will be a central factor to re-establishing sustainable growth going forward.
WHAT ABOUT THE UNITED STATES?
I spoke to a Japanese audience in Tokyo seventeen years ago about “Coping with a Changing United States in a Changing World.” The only thing that has really changed since then is that the U.S. challenges are very much greater and the role of the larger emerging market economies, starting with China, is much larger and has come much further and faster than anyone envisaged then. Twenty years ago, all the positive attention was on the United States and Japan; very little was on China or Canada. Today it is reversed. I suggested then that perhaps the greatest threat to a stable world order in the next decade would come from the United States. The current crises tend to confirm that. One of my Japanese journalist friends had been puzzled by the disastrous Bush visit to Tokyo which had occurred a year before my talk. He asked me about how he should view what had happened. I responded with three observations. I repeated them a year later in Tokyo. First, what you are seeing in Tokyo this week is not the United States. Indeed, whatever you see in any week or any year, no one, not even Americans, can ever see the United States whole. There are simply too many sources of initiating action in their vast and open society. American jazz music has been called the sound of surprise. The United States itself is endlessly the country of surprise – for both better and worse. Second, it is almost impossible to overestimate the lack of collective foresight of Americans. But it is also almost impossible to overestimate the power Americans can bring to bear on an issue when they at last conclude they must act. Finally, Canadians have lived side by side with Americans for over one hundred and forty years through the good days and the bad days. We have learned one thing in dealing with the United States. You must, and with patience and firmness, you can find a position somewhere between handing them the keys and Pearl Harbour. A leading American business friend later told me this was the best three point description of his country he had ever heard. So this is the country we must all understand and work with if we are to get through this moment in history in a manner closer to post-1945 than to post-1914. Canadians will tell you two things. Americans are not always easy to deal with. But Canadians would not want any other neighbour. Things have worked out very well for Canada with the United States as its neighbour.
CHINA MUST BE CAREFUL BUT IT MUST ALSO HELP LEAD
China knows that it is seen by many as the fast and sure way out of putting the global economy onto a durable recovery path. It will no doubt be considering a stronger set of domestic demand policies and how far to go in letting the currency float more freely. It has to be careful, however, about three things:
- not to make the mistakes the United States made in 2001, when it and others believed it had the strength to do more than it turned out it could;
- not to allow the enthusiasm for currency appreciation of those with too much faith in markets alone, to distract China from the Japanese lesson that currency adjustment alone may not do much to address surplus imbalances, although Canada, with a more open economy than the Japanese, has found that a floating currency frees monetary policy for more effective domestic economic management; and
- not to underestimate the need for it to become part of a shared leadership approach with the United States to find a policy path that enlists all of the main current account surplus countries, including those with high levels of government debt and slow growth. The danger here is to misjudge the scale and timing of political impatience in the United States and in financial markets.
WHAT DOES THE STORY SO FAR ADD UP TO?
The story so far seems to add up to the following:
- There is not much natural strength in the three largest advanced economies; whatever real natural strengthening lies ahead is likely to be painfully slow before a solid self-sustaining recovery is assured.
- The current account surplus countries, for one reason or another, seem unlikely, even under the best of conditions, to be able to do as much as would be ideally needed to offset the balance-sheet-recession weakened domestic demand in the three largest economies.
It is thus unlikely that even the most hopeful combination of naturally generated recovery and the best policies backed by the solid political will of surplus countries can make up for the growth losses from the three largest economies. The hole they dug for themselves is simply too great.
PHASE ONE NOW WELL ALONG
The phase one policy responses to the three abyss moments are now well along. They involved monetary policy and other central bank action which does not produce growth in balance sheet recession economies, but does in others like China and Canada. What was achieved was that the financial system was minimally stabilized and some of the lost demand of over-leveraged households that are now deleveraging has been replaced by debt-financed government spending. Now, in countries that have current account deficits and weak net country balance sheets, the G-20 governments are about to cut government deficits, while households are still deleveraging. The Western advanced economies have deteriorated balance sheets and weak growth paths. Emerging market economies have stronger balance sheets and stronger growth paths. Japan and Germany have strong net country balance sheets, but challenged fiscal positions and weak growth paths. The U.S. and U.K. are not Greece. They do not need bailouts. They will have to do most of the heavy lifting to get themselves out of the holes they dug for themselves. But the global system does need to allow them scope to repair their net country and government balance sheets. The surplus countries will have to help then with a demand growth path that enables them to work their way back to balance sheet and growth health.
WHERE COULD THIS LEAD?
This suggests that the current painfully slow recovery path could well lead to one, two or three additional abyss moments, in addition to the three we have already had since June 2007:
- the Eurozone’s contradictions – that everyone must behave like Germany – impossible because not every Eurozone economy can be a net exporter, and also because the same currency level and interest rate level cannot work for every country; this will likely come to a head again in a more serious and intractable way;
- the weak and faltering economic recovery could result in dangerous politics in the United States; and
- a serious drop in equity markets, by itself, or alongside another abyss moment, could undermine whatever real confidence has developed since the crises.
Abyss moments are often needed if any action is to be taken. But the more of them there are, the greater the risk there will be policy mistakes or failures of political will. If markets come to believe the globalization project itself is at risk, dangerous financial markets and American politics could create a bigger abyss moment than any we have yet faced – one that could well prove beyond the authorities to manage.
TWO AMERICAN IMPERATIVES
Americans still seem to have no real idea that they collectively have been living beyond their means for decades, and that this must change. They believe it is others, both inside and outside the country, not themselves, who are causing their problems. They are right, however, that going further and further into debt will not work for the U.S.. It only worked for Japan, or even Germany, because both had their own internal savings with which to buy government debt. Their net country balance sheets did not deteriorate as a result, but continued to get better. Until the U.S. starts living within its means. Its net country balance sheet will be subject to further deterioration The dangerous political moment in the United States will come if Americans continue to lose confidence in the ability of their government to deliver: on Katrina; on Afghanistan; on the BP oil spill; and on the economy. There are two American imperatives that will dominate U.S. politics between now and the fall election and in the following two years leading up to the Presidential election:
- the U.S. federal and net country balance sheets; and
- S. employment.
Between now and 2012, it is likely the American people will come to a view about whether their two greatest needs: to create jobs and to restore solvency can be met under the way the current globalized order works. Americans, for good reason, are losing faith in their institutions. If they also lose confidence in the global order whose creation they led, without understanding their own complicity in its undermining over the last thirty years, it will be very hard to predict how U.S. public opinion and politics will unfold. But it will clearly be a moment of danger for everyone.
The United States thus faces two conundrums. The first is that the size of the government deficit from not stimulating and losing revenues from a weaker recovery may exceed the deficit after stimulating. The second is that, unlike Japan and Germany, it cannot finance its deficits with its own savings. So it will either get help to grow from the current account surplus countries, or it will have to take protectionist steps to enable it to create jobs without weakening further its net country balance sheet. It will be hard for the United States to acknowledge it needs help to start living within its means. It will be hard for the surplus countries to accept that they must help provide that growth help.
IS THERE A PATH FOR THE WORLD TO FOLLOW?
The primary question for political and policy leadership is whether there is a feasible path for the world to follow. If there is to be a path, it will largely depend on new behaviour worked out by discussion involving the several different key economies we have already discussed. The leadership and the first difficult moves will have to come not only from the United States and China, but also from a very reluctant Japan and Germany. If the imbalances with oil exporters are to be reduced, both Western countries, the United States in particular, and emerging market economies, especially China, will need as a matter of policy to reduce their oil dependency. So the whole world must understand two things:
- fixing the imbalances is central but there is no quick fix; and
- a start must be made immediately.
The public and markets urgently need the sense that the authorities have a plan that they will follow that will work. The confidence that a job, a good income and a strong household balance sheet give will take too much time to get. Only confidence engendered by the authorities can fill that gap.
WHAT SHOULD WE CONCLUDE?
What should we conclude? First, it is going to require patience from both political and financial markets to get through the next several years as Western countries, with weak balance sheets and very slow growth paths, slowly recuperate and restore natural strength. Second, it will require the countries with either or both strong net country balance sheets and growth paths to use them to provide a growth path for the weak growth, weak balance sheet countries. Third, it will be vey hard to find and implement the many difficult and painful adjustments needed. Much careful listening, creative thinking and a stronger than usual political will is going to be needed from many countries.
UNTHINKABLE, OR MAYBE NOT?
It is not pleasant to think about – for many it is probably still unthinkable. But we cannot rule out the possibility that this cannot be achieved and that maintaining the inclusive global economic order is at this point beyond mankind’s reach. The current crises can perhaps be seen as evidence of that possibility. The three biggest economies retain strong supply capability, as do many other economies. But the deep holes they have dug themselves will be a drag on their own and global demand for many years. Japan and Germany have strong current account surpluses and net country balance sheets. But they will face hard policy choices. If they are to use these strengths to provide themselves and the U.S. and U.K. with the ability to work their way out of their growth and government debt holes. It may prove beyond them. Admired as China’s achievements are, it will not be easy for it to shift to domestic demand at the level the world economy needs if the present global economic system is to be preserved. So positive as globalization has been for so many in so many ways, and important as it is to try not to let the globalization project fail, we cannot rule out that we may need Plan B.
SUBPRIME BUT WORSE
If the situation these countries face is not addressed, it could be like the sub-prime crisis in three ways:
- the present situation runs counter to the fundamentals and is unsustainable;
- if a crisis from not facing up takes place, everyone will say that we should have seen it all along; and
- the adverse results will not be contained but will spread.
There will be one huge difference from the sub-prime crisis. It is very hard to see how the authorities will be able to come to the rescue again. It is also hard to believe the domestic challenges any major country faces will be more easily addressed in a destabilized global economic order. So we must hope the minds of the key countries start to concentrate soon.
WHAT MIGHT PLAN B LOOK LIKE
Any Plan B would need to avoid having any breakdown turn into a full and bitter separation or divorce. This means proceeding in a way that minimizes blame and retains and optimizes as much of the current global system as possible. It is likely that the United States and countries closely connected to it economically would be forced to conclude that they had no choice but to separate to the extent needed so that they can both live within their means and still grow and create jobs. These are powerful U.S. necessities. No government that does not effectively respond to them will be able to survive politically. Living within its means is so far only in its early involuntary stage. If rebalancing fails, the U.S. will have no real choice but to resort to barriers to trade and investment – despite the well known dangers of protectionism. If we are driven to Plan B, the key will be whether it happens under convulsive pressure from financial markets and American voters, with a resulting loss of policy control, or whether it can be the result of something more deliberate and consensual – which will be far from easy in the wake of the failure to preserve the globalization project.
TOO INTERTWINED TO BREAK DOWN?
The global and Eurozone crises have made thinkable what had previously been unthinkable – that globalization and the globalization project and the Eurozone could each in some sense or other break down. But what might that mean? In the midst of Canada’s separatist crisis twenty years ago, two of Canada’s most senior business leaders and I met privately with Quebec Premier Robert Bourassa. He told us that even if Quebec were to vote for separatism, separatism would never happen because we were too intertwined. It is likely the inclusive global economic order and the Eurozone are also too intertwined to break down completely. This is not a world that we can stop and let people off. It would be better, however, if this is never tested. The cost of such a test could come very high.
THE ODD COUPLE
China and the United States are not the only countries that matter or face difficult adjustments ahead. But their leadership is indispensable. Such leadership can only succeed for the longer term if it is based on a shared belief that each is best off with as inclusive and stable a global order as possible. They may make an odd couple. They have much in common, but are also different in important ways. Both face daunting domestic challenges. China’s problems are those of huge aspiration and advance. The problems of the United States are one’s of huge overreach and setback. The United States emerged in the twentieth century as the world’s strongest economy. China scarcely figured economically in the twentieth century. Now it has the strongest growth potential of the major economies in the early twenty-first century. Americans are often short term and impatient. They are also often bold – sometimes too bold. Today’s China is bold in the scale of what it is undertaking, but largely incremental and more patient in implementation. Our sense is that the biggest challenge is not the absence of a shared interest in preserving the global order. It is whether despite very different socio-cultural and political outlooks, and the huge difficulties involved, they find the way.
THE MISUNDERSTANDING RISK
The central issue is whether the United States understands the political and policy difficulties which confront China, and vice versa. The most immediate danger may be that China will not grasp how suddenly the American voter can change, and how dangerous it could be if the ability of any President to manage the global economic agenda were to be lost. The last thirty years have been ones of unprecedented material advance in China. For ordinary Americans, it has been the opposite. In both countries, inequality has increased, which further stresses the middle classes in each country on which social stability rests. A very high percentage of Americans have not had a significant improvement in their real incomes for thirty years. The powerful U.S. job creation machine has been running down for two decades. And now they find themselves facing a mountain of debt, a weak recovery and intractable unemployment. So what I said in Tokyo seventeen years ago still seems right to me – that the United States still represents the greatest single threat to the global order. If the countries with current account surpluses and strong growth paths do not find a way to enable the United States participate in those strengths to work its way out of its debt and unemployment hole, I do not like to think about what the U.S. political scene may become.
TO OBAMA WITH HOPE
My main words of advice are for President Obama. Great leaders – great countries – can only become and remain great – not if they make no big mistakes, but if they get the biggest things right. Obama has not yet got the biggest things right. Big as Afghanistan, Iran, al-Quaeda, the BP oil spill, health care and financial regulation reform may be – and they are very big – they are not the biggest things. The biggest are getting more U.S. jobs and sustaining a viable globalization project. After what will almost certainly be very bad fall elections for him – very possibly the loss of both Houses – President Obama will have two years to push the reset button on his relationship to these two great challenges and with the American people. The fall 2010 election results will likely tell Obama three things. His economic policies are not felt to be working. He has failed to convey he is a leader who can actually make real things happen that make a difference to people. And he is politically out of sync with too many of those who elected him. It is likely the only way he can show he can get things done is if he gets international help on his debt and employment challenges, or if that proves not possible, he takes unilateral action to protect American solvency and still create jobs. Most of the time, politics is the art of the possible. After November this year, for Obama it will almost certainly be the art of making possible the necessary.
FROM CHINA TO OBAMA
My word to China is this. You are by far Obama’s biggest creditor. I believe – although I may learn today I am wrong – that China believes it will be far better off with a stable inclusive global economic order within which to tackle its unprecedented challenges. The United States is in the same position. The success of Obama’s Presidency now depends on two things:
- that he finally realizes he is not yet on the right economic policy track and that he needs to work with China to lead the way; and
- that China can convey to him credible assurance that it believes they can work together and succeed on this shared task.
Chinese leadership can point out to the President that China today is indeed deliberately cautious and incremental in its approach, because it must succeed one step at a time on the ground. But thirty years ago, Deng Xiaopieng took a bold chance on the Chinese people, for which there were no guarantees. The whole world now sees the result. There is much to suggest that Obama and the United States are at a similar moment, when his greatness and his country’s greatness depend on getting their greatest thing right. It is to find a way to reconstruct the global order onto a more balanced and stable basis which enables all of the world’s main economies to keep growing without digging themselves even bigger debt holes. Will President Obama believe that, like Deng Xiaopieng, he can take his bold chance on the American people? We will know the answer much better a year from now.
HOW DOES CANADA FIT?
Canada has been getting quite a lot of positive attention over the last year – for its banking system and for how well its economy has held up, despite its biggest customer being in a balance sheet recession. It is probably fair to say that for the first time in its history, Canada now has a comparative advantage economic window opposite the United States that could stay open for as much as ten to fifteen years. Since 1985, it has accepted four strong disciplines: free trade in North America; monetary; fiscal; and financial regulation. It is now about to accept a fifth discipline – that of a higher currency. How does this fit in with what we have been talking about? First, it means that if Canada speaks, it has some credibility. Canada was in the same position at the end of the Second World War. It had come through a hard war that severely tested its unity – a unity challenge it once again had to overcome during the last thirty years. And it ran its economic affairs well. It was politically stable and its resources were in demand – all as now. Second, it was part of North America but it was not the United States. So it was an independent but empathetic voice. As a small country, Canada needs to be better informed about what is really going on than bigger countries may feel they need to be. Third, then and now, Canada has as great a need as any country for a stable and inclusive global economy. Canada differs from the United States profoundly and in many ways in its socio-cultural behaviour and in its political system. It was these differences that were key to Canada’s better financial system and economic performance. I am only going to mention one central set of differences. No country on earth has a greater drive toward mutual accommodation on a fair basis than Canada. And probably no country has a greater drive toward division and winning than the United States. These differences come from our different histories. China and the United States, as well as other countries, should be able to take advantage of what Canada can bring to the table to help get us through what is going to be an extremely challenging period in human history. One Canadian, Marshall McLuhan, said fifty years or more ago that we lived in a global village. Another, Northrop Frye, said about the same time that we lived in a globe of villages. For reasons of history and geography, Canada may be further down the road of acting on this double reality than any other country.
A FINAL THOUGHT
I will leave you with a second-to-final thought which will not be useful – but which leads to a final thought that may be. This may not only be the first moment in history for the whole world at the same time. It may also be the first global super moment in history, a moment on the scale of Galileo and the Renaissance, which has taken centuries to unfold. Even our great grand-children are unlikely to know whether this idea is right. My final thought flows from this and may be useful. If we walk into a friend’s living room, we will get a good immediate sense of what is in the room. With some due diligence and opening of closets and drawers, we will know pretty well all that matters about what is in the room, and how we should conduct ourselves. What our current discussions should tell us is that the last several largely Western-dominated centuries have brought us into a room that is so vast, so multi-layered, so largely invisible and so inter-connected, that what we think we see may well be there. But there is also much more we don’t see, let alone understand. We would thus be wise to be cautious about what we claim to know about the room and how we can make ourselves comfortable inside it. We have collectively created something like that room. We are a long way from understanding how best to live in it or to manage ourselves so we can do so. So we have the immediate task of hanging on to the best we have collectively achieved. But we have hardly taken the first small step along what will likely be the path of centuries to come as we respond, in terms of scale, complexity and increasing limits, to the largest set of things ever to confront mankind at the same time. Important as the key countries today are to all this, what lies ahead will eventually, for better or for worse, involve everyone. We are all in it together, whether we like it or not. In some ways, because it has for so long been to such a large extent on its own and so successful, the United States as a country is at this precise moment perhaps the least able to provide leadership for this. Yet, it may also now have the most individuals able to do so. And because we are talking about the United States, we really do not know what is about to happen. In time, it would not surprise me that it will also develop the collective understanding and strength to be able to do as a country what its most remarkable individuals can already do. But I will not predict that and will rather counsel preparedness in case it does not.
CHARTS FOR SHANGHAI PRESENTATION
- Shanghai.Charts.2010.pdf (532k)