PARIS – Five years have passed since the collapse of the American investment bank Lehman Brothers triggered financial mayhem and marked the onset of the Great Recession. Though the dust may not have fully settled, three catchwords sum up what we have learned so far – and what remains to be done.
The first word that comes to mind is resilience. Five years ago, many feared a repetition of the Great Depression of the 1930’s. Indeed, as Barry Eichengreen and Kevin O’Rourke have shown, the collapse of world industrial production in 2008-2009 initially tracked that of 1929-1930 very well. The fall in world trade volume and equity indices was even faster.
Fortunately, the historical paths subsequently diverged. Five years after the 1929 crash, the world was still in depression and trade had contracted sharply. Today, the United States is still going through its worst employment recession since World War II, and Europe’s GDP has not returned to pre-crisis levels, but global output has grown 15% since 2008, and world trade is up more than 12%.
The world avoided a Great Depression II mainly because there was no global financial crisis this time. What occurred in 2008 was a US crisis that contaminated Europe, because the two financial systems were almost completely integrated. The rest of the world, however, was largely immune. China and other emerging countries were hit by a severe demand shock that affected their exports, but not by the financial turmoil. On the contrary, the value of US government bonds that China and others held rose in response to the drop in interest rates.
Another reason for the rebound was the well-timed response engineered in 2009 by the G-20. For the first time, emerging and developing countries participated in a coordinated reflation effort, and, alongside their advanced-country counterparts, promised to resist trade protectionism.
The recovery soon demonstrated that the global economy had more than one engine. This gave the US economy time to heal, and even made it possible for Europe to experience its own crisis without triggering a generalized downturn.
The second word that characterizes the last five years is acceleration. In 2008, everyone knew that the rise of emerging and developing countries was redrawing the global economic map. But this was thought to be a gradual, long-term trend. In reality, what was supposed to take one or two decades took just five years.
A simple statistic illustrates the point: in 2007, the advanced countries accounted for almost three-quarters of the G-20’s combined GDP. By 2012, their share had fallen to 63%. The combination of growth differentials and high oil and raw-materials prices has resulted in a massive shift in the distribution of world income.
Furthermore, all advanced countries have experienced rapid deterioration in their public finances. Whereas ten years ago public-debt crises were considered a plague that afflicts developing countries, the malady is now the advanced economies’ curse. According to the International Monetary Fund, the average debt/GDP ratio at the end of 2012 was 110% in the advanced countries, but just 35% for emerging countries and 42% for low-income countries.
Of course, such statistics can be misleading. The US and Europe still enjoy the services of a vast capital stock – machines, buildings, and public infrastructure built over decades or even centuries. Furthermore, immaterial capital increasingly matters, too: US authorities recently revised GDP upward by $400 billion after recognizing that research and development spending should be categorized as investment. Emerging countries may be growing faster, but their per capita capital stock still does not match that of advanced countries (in fact, this is precisely what development is largely about).
Nonetheless, global politics is one field in which relative income changes and the poor state of rich countries’ public finances matter. When the US and Europe threatened to withdraw financial support from Egypt in order to influence the behavior of the country’s military leadership, they soon realized that Saudi Arabia and other Gulf states could be much more convincing, because they had much deeper pockets.
This leads to the third catchword of the last five years: rebalancing. Globalization 1.0 was built around US consumers and Chinese producers. The next phase should be built around consumers and producers the world over.
According to projections by Homi Kharas and Geoffrey Gertz of the Brookings Institution, there now are 700 million more people with $10-100 per day to spend than there were in 2003. Moreover, what they call the global middle class is expected to grow by another 1.3 billion over the next ten years. So there is obvious potential for a major rebalancing toward consumption-led growth in the emerging and developing world.
This new phase of globalization portends major benefits for the global economy. Instead of the somewhat one-sided trade pattern of the last two decades, it means greater well-being for households in developing countries and opportunities for more producers in the advanced economies. At the same time, consumption habits will need to change everywhere: the middle class cannot triple in size and continue to rely on the same energy- and carbon-intensive spending patterns.
But we are not there yet. Partly owing to government stimulus measures, China’s growth since 2008 has been driven more by investment than by consumption, which has impeded the economy’s much-needed demand rebalancing. Economic performance has been sustained by a partly artificial investment boom, which is now petering out – raising concerns about China’s ability to maintain sufficiently rapid growth. And demand is still much too energy- and carbon-intensive. So a transition remains to be managed, and recent foreign-exchange turmoil in several emerging countries indicates that it is bound to be a delicate one.
The resilience that the world economy has shown since 2008 provides reason to rejoice, and the acceleration of changes in the global balance of economic and financial strength is reason to reflect. But the remaining challenge of rebalancing demand (in both quantitative and qualitative terms) remains a major one. Until progress toward meeting it is further advanced, it will be too early to claim victory.