MILAN – In rapidly growing emerging markets, a combination of internal economic forces, supportive policies, and the shifting nature of the global economy drive high-speed and far-reaching change. The transformation of economic structures occurs so quickly that it is virtually impossible not to notice – though the complexity of the change is, at times, bewildering.
In this fluid environment, mistakes are frequently made. Arguably the most damaging is to stick to a successful growth strategy (a combination of comparative advantage and supportive policies) for too long. In the economy’s tradable sector, comparative advantage always shifts, causing structural change and creative destruction. Countries undergoing a “middle-income transition” out of poor-country status frequently try to resist these changes, but doing so causes growth to slow, if not stop altogether.
While the private sector (domestic and external) drives these shifts, government policies and public-sector investment patterns play an essential supporting and complementary role. These need to adapt, too. The policy framework that has proven to serve the major emerging economies best is one that focuses not only on macro and monetary stability, but also on adaptation, guided by a forward-looking (though inherently imperfect) assessment of coming micro and macro structural shifts and the measures needed to support them.
What of the large advanced countries? For historical reasons, the policy mindset is less flexible and adaptive. Structural change is viewed largely as the province of the private sector, and hence not as a key part of long-term policy thinking. In the postwar period, until recently, advanced economies dominated the global economy. Emerging economies’ impact on them was relatively small, and they have yet to respond adequately to the rapid structural changes in the global economy.
A small example: as recently as July 8, after the latest disappointing employment report in the United States, President Barack Obama expressed the widely held view that an agreement on the debt ceiling and deficit reduction would remove the uncertainty that is holding back business investment, growth, and employment. In other words, America’s fiscal problems explain its extremely weak economic recovery. Once a fiscal deal is done, government can step aside and let the private sector drive the structural changes that are needed to restore a pattern of inclusive growth.
To be fair, there have been exceptions to this stance. In the US, a postwar alliance of government, business, and academia created the human capital and technology base of a dynamic economy, reinforced by the post-Sputnik commitment to scientific and technological excellence and innovation. In Germany, the post-2000 reforms that reset the economy’s productivity, flexibility, and competitiveness have proved crucial to the country’s current economic strength and resilience.
Despite these examples, economic and financial commentators appear increasingly puzzled about the weak US recovery, with its modest GDP growth and meager employment gains. Growth estimates since the 2008 crisis have been revised downward several times.
The political narrative runs in parallel. A recent (admittedly partisan) study by the US Congress’s Joint Economic Committee documents the relative weakness of the current recovery. Indeed, the differences between the current situation and other postwar US recoveries are so large that the term “recovery” in today’s context is dubious. But US leaders nonetheless accept the cyclical view of the economy, see a weak recovery, and blame it on post-crisis policy failures.
But, while that might play well politically, the sensible conclusion is that this is not just a cyclical recovery, but rather the beginning of a delayed process of structural adaptation to a rapidly shifting global economy, to emerging economies’ growth and shifting comparative advantage, and to powerful technological forces. While these changes are difficult to think about with any degree of precision, that doesn’t make them unimportant.
Of course, no one would deny that there are cyclical elements in the downturn of 2008. But they were accompanied by structural imbalances that had been building over at least 15 years, and that are at the heart of the US economy’s inability to bounce back in a normal cyclical way.
Skeptics might well question why, if these alleged structural imbalances are now impeding GDP and employment growth, they did not appear before the crisis. The answer is that they did, but not in growth and employment figures. Other signals were missed, ignored, or deemed unimportant.
A short list of these signals would include excess consumption (now gone) and deficient savings, based on an asset bubble and high debt; a persistent and growing current-account deficit (signaling that domestic consumption and investment exceeded income and output); and negligible net employment growth (over two decades) in the economy’s tradable sector. With domestic aggregate demand in short supply, the only functioning growth engine, external trade in goods and services, is not an employment engine.
Missing all of these signals produced the pre-crisis illusion of sustainable growth and employment, and helps explain why the crisis, rather than its causes, is viewed as the culprit. The crisis, however, merely exposed the underlying imbalances and unwound some of them.
The “grand bargain” that PIMCO CEO Mohamed El-Erian recently alluded to in describing the appropriate response to the current situation in the US needs to include a fiscal stabilization plan. But it also must include a shift to a policy framework that accurately reflects the non-cyclical nature of the longer-term structural adaptations that will be required to restore growth and employment.