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Achieving escape velocity

23 January 2014 [12:00] - TODAY.AZ
By Mohamed A. El-Erian
CEO and co-CIO of PIMCO, and the author of When Markets Collide.

It is not often that one can confidently claim that a single remedy could make billions of people around the world significantly better off; do so in a durable and mutually supportive manner; and thus improve the well-being of both current and future generations. Yet that is the case today.

The remedy I have in mind, of course, is faster economic growth - the one thing that can raise living standards, reduce excessive inequalities, improve job prospects, alleviate trade tensions, and even moderate geopolitical pressures. And most forecasters - including the International Monetary Fund and the World Bank - are now predicting that global growth will pick up in 2014, and that it will be more balanced among the world's major economic regions.

Such forecasts reflect three welcome developments. For starters, Europe will exit recession, with the peripheral economies benefiting from the strongest relative improvement in growth prospects. Meanwhile, 3% annual GDP growth is no longer out of reach for the United States. And emerging economies will be anchored by China's slower but still-robust 7% annual growth.

But, while the prospect of faster global growth is indeed good news, especially given still-high unemployment in many countries and the associated pressures on social safety nets, it is too early to celebrate. There is a risk that, by tempting policy complacency, this year's economic upturn could end up being counterproductive.

This is not because the predicted acceleration in growth is still quite modest. After all, even a limited uptick can make a significant difference if it is part of an encouraging medium-term growth dynamic. Rather, the risk lies in the manner in which this growth is likely to materialize - namely, by depending too much on old and exhausted growth models, rather than by comprehensively embracing new ones.

In Europe, growth this year will largely reflect the impact of financial stabilization, not deep structural reforms. With interest-rate spreads having compressed sharply, and with the threat of a meltdown averted, both domestic and foreign investors continue to return to peripheral economies, thereby alleviating severe credit rationing. That is certainly good news, especially if the source of stabilization is shifted from the European Central Bank's unconventional policies to more durable endogenous balance-sheet healing among a broader set of financial institutions, non-financial firms, and households.

But few of these economies are prepared to embark on the type of internal reforms that promise sustained high growth rates and a substantial reduction in unemployment, which has been at alarming levels for young people and in terms of duration. Meanwhile, exchange-rate appreciation is beginning to undermine exports in the eurozone's core countries, particularly Germany, which has been the regional growth engine in recent years.

The predicted acceleration in US growth this year is more notable, because it reflects the positive impact of a multi-year process of economic and financial healing. We are also starting to see the macro-level impact of certain productivity revolutions - particularly in the energy and technology sectors - that, so far, have mainly been industrial and sectoral phenomena.

Yet America's actual economic growth in 2014 will remain well below potential. Moreover, the US economy's performance remains overly dependent on the Federal Reserve's experimental monetary policies, courageously adopted in the absence of adequate measures by other economic policymakers.

The US economy is certainly capable of reaching the "escape velocity" that the country needs if unemployment is to fall in a more definitive and lasting manner. But this requires Congress to support President Barack Obama's administration in three areas: improving the composition and level of aggregate demand; enhancing the economy's supply responsiveness; and removing residual debt overhangs that continue to inhibit economic activity.

Only decisive progress on these fronts will unlock the trillions of corporate dollars that, rather than being invested in new plants and equipment, remain stranded on companies' balance sheets or are handed over to shareholders via higher dividends and share buybacks.

The issues in the emerging world are more complex and diverse. Some countries are making consistent efforts to revamp exhausted growth models. In China, for example, this involves less reliance on exports and public investment, and more on the private components of domestic aggregate demand.

Other countries, however, have responded to their growth slowdown in 2012 and 2013 by reverting to old practices that offer the temptation of immediate expansion at the cost of growth-dampening outcomes down the road. This is the case, for example, in Brazil and Turkey.

All of this implies that the emerging world as a whole is unlikely in 2014 to resume its role as a major engine of the global economy, and that the quality of what growth there is will be far from optimal.

Indeed, the more detailed one's analysis of today's global growth dynamics is, the more likely one is to conclude that this year's brighter prospects are just that - brighter prospects for 2014. There is still much that can (and should) be done if this year's predicted upturn is to provide a springboard for a meaningful medium-term growth spurt that improves prospects for current and future generations. Unless policymakers keep in mind the larger tasks at hand, they risk falling into a trap of comfortable underachievement.

Copyright: Project Syndicate



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