Talking about Economics, Science and Religion. And then adding humans to the equation.
So what do we know about science, economics and religion ? Well! for starters, science existed since the day Universe came into being, and therefore science has been around long before humans or human civilisation came into existence. Science is as old as the universe itself. There is science on Mars, but no economy. Also there is science all across the cosmos, but till date, the size of the space economy is limited to human activity closer to earth or our solar system, although this may change as humans venture into space on a larger scale. There are vast amount of natural resources spread across various parts of the Universe as well as continents like Antarctic here on Earth, which has resources worth tens of trillions of dollars. But it still has no economy or in other words GDP, and that is down to the fact that, there is no permanent human civilisation based there.
The idea of economics and economy started along side religion, nation state, and culture etc. And therefore, like other human ideas, it was conceived as a subject by humans. So humans will continue to influence it. Human behaviour, human perception and psychology, and their overall sentiment will continue to influence the subject of economics and the idea of economy. The data created by a human society, categorised as economic activity related data, tends to be the metrics widely used, to understand or gauge the overall wellbeing of an economy. And as the human society becomes more complex, so has the economy. It has no doubt continuously evolved and changed reflecting the changes in the human society. But like religion or culture, it has design flaws, and therefore fails to serve the entire human civilisation. The prime example is, the aftermath of the financial crisis. While we can measure the financial cost to an economy, what we cannot accurately measure is, the human costs that is directly and indirectly related to the financial crisis of 07/08. And the same does apply to religion. Although some of may of us continue to argue the case for religion, none of us have tried to accurately assess or measure the human costs of religion on humans, in terms of holding back human’s overall progress etc while the various religious franchise aka religions have gone richer and wealthier over time.
In the US alone, based on various estimates, the society known as the American society tends to give away around $ 82.5 billion a year to religion. And then, there are direct and indirect human costs. Having said that, wars have killed more humans than religion, and they also cost a lot more money than religion. But in historical context, some of the wars were religiously motivated, and humans still tend to fight over their religious and cultural ideology.
The question then is, do we need religion or economy for that matter ? And the answer isn’t that difficult. For many of us religion is still the answer to questions like, why do we exist and what’s our purpose ? And to a very large extent economics and economy has played a very vital role in the evolution of the human society as well as its overall progress. So to take away economics or religion from humans may not work out well. While science has always existed, sometimes, it is the economics that has justified scientific progress. And it is the economics of space that will most likely drive humans exploration of space.
According to space foundation, the space economy is already worth over $ 329 billion, and in the next 50 to 100 years, space industry will become the most dominant among all the sectors of the economy. It will not only create new jobs, but also help take humans as a civilisation to the next frontier. At least that’s what I feel. Imagine an economy that is not only going to measure the economic activities here on Earth, but also from across the Universe. But can it create enough wealth, to help fund the living of the entire human race ? Now this is a rather difficult question to answer, because unless and until, we keep finding ways to make the entire design of the economic system more efficient, it will continue to fall short.
My own assessment is that, economics and economy as an idea and subject is not a complete science, but unlike a religion, it isn’t stagnant, or requires the human society to completely surrender itself, and be at its mercy. It has flaws, but it also does have the capacity to continuously evolve, and so it should. Humans are the key input to the entire equation, and without adding humans, one could say, nothing is relevant. And the human element will continue to add a level of unpredictability and uncertainty to the field of economics and economy.
Stimulus: The Exit Strategy and the road ahead
Although the economists still can’t agree on the real quantative impact of various stimulus packages that were adopted by economies from around the world but one cannot dispute the fact that the size of the stimulus did matter and did work in most cases.
To investigate this further let us look at the various stimulus packages that were adopted during the CRISIS.
Obviously by the sheer size and percentage of National GDP China’s US $ 586 billion stimulus Package which accounts for above 12.9% its GDP stands out from the REST. It is possibly followed by Saudi Arabia, Malaysia, and the mother of all STIMULUS thrown by United States under its American Recovery and Reinvestment Act of 2009 which is the largest by any measures (US$ 787 billion).
At the time there were market pundits who were debating the pros and cons and some even doubted if the stimulus packages will deliver and I am glad to admit that some of us including myself had a different view. Based on my judgement and commonsense I concluded in a piece that I wrote in March of 2009 titled “ Getting the Patient Out of Intensive – The Economy “ that it should deliver and put the US and the world economy back to growth. But having said we should have no illusion that the road ahead is still bumpy and uncertain.
In comparison to other economies most European countries with the exception of Germany and France have been reluctant to throw a bigger stimulus package (mostly because of their fiscal position ) with sizes between 0.3% of its GDP in case of Italy and 1.3% in the case of the United Kingdom. Germany clearly stands out with its two fiscal packages summing up to US $ 110 billion (approximately) which is 2.8 % of its national GDP hence it is no coincidence that Germany and France were the first EU nations among the EUROPEAN UNION countries to get out of RECESSION.
I think it is interesting and also probably important to point out that an unloaded stimulus with mostly tax breaks as the first wave of stimulus didn’t do much as evident from the one off tax rebate under the American Recovery Act of 08 of Bush Administration. It looks like the additional money was clearly used by majority of the Americans to pay off the existing debt. Also the experience of BUSH administration’s 2001 tax cut bill clearly shows that rebates generally wind up as savings or as debt repayment.
So taking the above into consideration economies like the US, Germany, Australia ,Spain and others who initially clearly favored tax cuts over spending in their respective first wave of stimulus packages in 08 decided in favour of an alternative measure that included more expenditure loaded plans in 2009 in combination with other incentives.
According to the IMF the total stimulus amounts to US $ 2 trillion ( approx) which is around 1.4% of the world’s GDP still below the IMF’s recommendation of 2 % of world GDP, however, only 15 per cent of the overall fiscal stimulus was really allocated for 2008 and the remaining 85% to be allocated over a two year period 2009 and 2010 with 48 per cent and 37 per cent, respectively. Also an important point to note is that while most of the Asian and other economies focused on their fiscal expansions in 2009, China’s and also the US the fiscal stimulus will only reach its PEAK in 2010. It is hard to accurately estimate to which extent the stimulus will be implemented in 2010 especially as the economies are stabilising and getting back to growth. And the recent downgrade of countries like Greece, Ireland, Spain and Portugal also means that going forward the economies will start focusing more on fiscal consolidation or else they run a huge risk of being punished for their inaction. The bond vigilantes are clearly BACK and they have all the reasons to be WORRIED.
Let us look at a list of top five debtor nations to get some perspective
1. Ireland – External debt (as % of GDP): 1,267%
External debt per capita: $567,805
Gross external debt: $2.386 trillion (2009 Q2)
2008 GDP (est): $188.4 billion
2. Switzerland – External debt (as % of GDP): 422.7%
External debt per capita: $176,045
Gross external debt: $1.338 trillion (2009 Q2)
2008 GDP (est): $316.7 billion
3. United Kingdom – External debt (as % of GDP): 408.3%
External debt per capita: $148,702
Gross external debt: $9.087 trillion (2009 Q2)
2008 GDP (est): $2.226 trillion
4. Netherlands – External debt (as % of GDP): 365%
External debt per capita: $146,703
Gross external debt: $2.452 trillion (2009 Q2)
2008 GDP (est): $672 billion
5. Belgium – External debt (as % of GDP): 320.2%
External debt per capita: $119,681
Gross external debt: $1.246 trillion (2009 Q1)
2008 GDP (est): $389 billion
I should point out that I’ve taken the above numbers from various sources including of IMF, World Bank and others.
It is a pretty Ugly reading isn’t it? The only good news is that it looks like the policy makers and the central bankers are beginning to take note of the worries and as a result have increasingly started to talk about creating a credible exit strategy as a priority.
Although one understands that there is need to fix balance sheets (fiscal consolidation) and address the inflationary concerns by having a clearly formulated, defined and coordinated exit strategy in place. But that said Timing will be KEY here as exiting too soon or too late has its own risk. And also it is extremely important that the process should only begin when there is enough hard evidence to see that economy will keep growing on its own after the removal of the stimulus or in other words it is evident that the recovery is solid, financial markets are back to normalcy and credit risk spreads are at an acceptable level and there is a significant risk to inflation over the medium term. We have already seen some of the central banks tighten in the later part of 09 and it is becoming increasingly plausible that others especially in Asia including of countries like India will follow suit as the real inflation starts to pick up.
Going forward the Central banks will need to explain clearly how they intend to use all the tools both conventional and unconventional that are available to them. But having said that, there is also a genuine fear that any preannouncement could possibly push the interest rates up prematurely thus derailing any chance of a ROBUST recovery. The Q4 of 09 and Q1 of 10 numbers should give us a good estimate of the strength of recovery. The economic improvement has to be across the board and not just in one sector to justify any intervention. We have seen some encouraging numbers reported from parts of the US economy in later part of 09 including of jobless claims falling to 432,000 – the lowest since September of 09 ,ISM Manufacturing Index rise 55.9 in December which is the highest level since 06, and also an improvement in business and consumer confidence etc but on the other hand the construction spending fell by over 0.6% in November of 08, US business loan defaults rose again in November of 09 and so did the US credit card debts write off. So we are still seeing some very mixed numbers come out which is what I have been expecting and this is why I keep saying to my friends and colleagues always look Beyond the Numbers, and dig deep.
I think it is extremely important not to overlook the human cost of this recession. According to the New York Times article dated 28th December 09, New York’s state courts are closing the year with over 4.7 million cases- the highest ever. The courtrooms are clearly seeing the aftermath of economic collapse on average folks on the main street and on businesses. I think from a judge’s perspective and also from the folks who are in the midst of all this it will be extremely hard to see signs of an ECONOMIC RECOVERY. But for some of the Wall Street guys it’s back to PARTY again as expected. I did write a piece titled “Investing in 2009: Back to Basics “ in Feb/March of 09 and I thought I’ll just quote the last paragraph. “The markets will come back at some point and there will be parties again on the streets, but the question is, will this happen again? I am sure it will. After all, we are human beings! “
Well, moving on even though we are still seeing mixed numbers I think it is probably safe to assume that we could see the US economy grow between 2.5% to 3.5 % in the year 2010. And the reason for that is the economy has to grow from a very low bottom so even with a very basic and existing demand the economy will grow. And also it is also very plausible that the US may outperform other developed nations including the EU. But the party is going to continue in the Emerging Market. And among the Emerging markets you would see economies with deeper domestic base like Brazil, India, Indonesia and Turkey do better than export driven emerging economies.
While we are busy talking about growth prospect of the global economy and the road ahead one has to also admit that the policy makers have managed to avoid a Great Depression type event by not adopting an extremely tight fiscal and monetary policy. Also there is no doubt that the stimulus packages have delivered as it is becoming increasingly evident from the performance of the economies like China, India, Germany, France and the US among others. That said there is no doubt that the road ahead is still turbulent and bumpy and a policy mistake here could jeopardize the whole recovery process. Monetary and fiscal policy changes will have to be coordinated. The main aim of any intervention should be to support growth and maintain price stability.
However, one of the safest open market operations could be raising the interest rate on banks’ reserves at the central bank as it will allow the central banks to mop up the excessive liquidity in the banking system by making sure the money is deposited back at the central bank and in so doing prevent excess credit creation and also inflation eventually. This is exactly what the Fed is intending to do through their term deposit program announced on December 28th 2009. The clear intention behind the program is to help mop up some of the $1 trillion in excess reserves in the U.S. banking system. While this should be easily achieved the unwinding of the assets bought by the central banks during the CRISIS will keep them awake. But that said it will depend on the timing, if they were selling to an extremely confident market they could even make money from the asset sales but let’s see.
And with regards to the performance/returns of various investment classes I think it is probably safe to assume that in 2010 bonds or any other investment class for that matter will not provide or to duplicate the excessive returns as seen in 2009. And going forward we may very well see people chasing the higher yields again and get into more risky asset class. But, however, we may also see people jump back into safer bets like US treasuries if we were to have another Dubai type event so I guess a lot will depend on the market sentiment and confidence. There is still a strong demand for US treasury as evident from the weekly auction in December of 09. If you look at the corporate world you would see that most of them are talking about issuing more public equity to help repay the debt and strengthen their balance sheet. And if the fundamentals keep improving then it will lower the default rate but one shouldn’t underestimate the risk especially if you consider that down the road a rate hike is on the cards so bond holder should position themselves for what is coming. That said I don’t buy the argument that a total meltdown is coming in the bond market and everybody should get out because I believe if the economy grows strongly then it should withstand a hike. But for now let us hope the policy makers and central bankers get it right ……Fingers Crossed.
Read Full Post | Make a Comment ( 11 so far )Building the foundation for a healthy and sustainable global economy
The message from this global financial crisis is loud and clear; the system that we currently have is flawed, susceptible to produce crises and prone to systemic risk.
As a first step, we will have to fully address the SYSTEMIC RISK and the accumulation of excesses in global the economy that tends to build up during the period of strong growth. The hope is that the market participants, the governments and the regulators around the world have learnt their lessons from the ongoing crisis and will take this as an opportunity to reconstruct the financial system and the way it operates. Although one could argue whether it is safe put your faith in the ability of the market, the governments or the regulators to fix the SYSTEMIC RISK issue. No doubt, they have bungled up in the past and they would probably do it again. But that is not the point. We all make mistakes and learn from it. So we have to give them the benefit of the doubt. I hope we are all done with the blame game. The regulators and politicians were pretty quick to put all the blame on the banks, the investors, the insurance folks, the rating agencies and everybody else but not themselves. How convenient.
Honestly speaking, we are all to blame for this financial crisis including the folks on the main street who happily leveraged themselves not worrying about the shortcomings. In fact some folks on the main street got very comfortable with the idea of living on borrowed money without having the ability or resources to meet their obligations. And the reason for that was simple they figured that was the norm.
In the immediate aftermath of the crisis some politicians are proposing the need for creating an early warning system and let the IMF be at the forefront of it. You know, one can’t help but wonder if it’s nothing more then a wishful thinking considering the fact that IMF itself didn’t see this CRISIS coming. Besides that it is no secret that IMF has screwed up in the past and one cannot with certainty say that they won’t slip-up again. And to expect that the ratings agencies or others won’t make mistakes going forward is probably nothing more then a wishful thinking. That’s the reality.
The economy goes through boom and bust cycles one where we see a decade or more of strong growth a.k.a BOOM TIME followed by a flat or negative growth a.k.a. DOOM TIME. Generally during the boom time the global economy tends to get obese without worrying too much about the excesses it has managed to accumulate. The excesses tend to clog the vital arteries connecting the global economy to the engine of growth. It also makes the market participants complacent about the risk and shortcomings hence the boom and bust cycles become a regular event. We have had Tech and Real Estate Bubble Burst. And now the Governments in the developed world as well as the developing world are busy creating a massive debt bubble through heavy government borrowings which has reached a breaking POINT and there are no guarantees that this bubble won’t burst.
What the ongoing CRISIS has taught us is that the current system is flawed and the time has probably come for us to start looking at ways to reconstruct and upgrade the whole financial system incorporating the realities of today’s world.
This CRISIS will probably be a game changer. Going forward the developing countries will ask for more influence, oversight and control over how the global economy is managed, supervised and operates. The developed countries will have to give away a lot of their influence and control over how the global economy is run. And the multilateral agencies including of the World Bank, IMF will have more representation from the developing world reflecting the reality of the changing world.
We live in a very interlinked world and this is why we need to create a system with cushions and additional growth engines that will complement each other and are able to absorb the systemic shock. The economy will work better if it has multiple engines of growth.
One of the ways to create multiple engines of growth could be through a Common market community (CMC) model. The common markets as a platform will drive growth by incentivising trade removing barriers and making inter-trade between the regional economies operating within the common market easier. The Common markets connected to the mainstream global economy would cushion and insulate the individual economies operating within the common market from a disruptive global economic downturn. It could also provide them a safety net to fall back on in a global recessionary environment.
The common markets may also work as a Distribution Network Operator (DNO) that will not only distribute growth to individual economies but also filter the harmful excesses making sure the vital arteries connecting the growth engines do not get clogged and the overall economy remains healthy.
We are already seeing a rapid increase in the number of regional and bilateral free trade agreements (FTAs) or preferential trade agreements (PTAs) being signed. According to the UNCTAD data the Intraregional trade in a number of regional blocs of developing countries has been growing faster than their extraregional trade. The common markets could be the obvious next step.
There is also ample historical evidence of regional trade. These trades were pretty robust worked well byandlarge resistant to the external disruptive forces without a single common currency or monetary union. So the common markets should work and going forward it will add value.
Besides creating multiple engines of growth through a CMC model, we will also need tools that will allow us to shed the excesses accumulated during the boom time without us having to go through the PAIN of Recession or Depression. The economy needs a growth that is sustainable. A growth that can be managed, supervised and where an excess can easily be removed.
The recent approval by European Commission of an enhanced European financial supervisory framework based on two new pillars: a European Systemic Risk Council (ESRC) which would monitor and assess the risks to the stability of the financial system as a whole (“macro-prudential supervision”), and a European System of Financial Supervisors (ESFS) consisting of a robust network of national financial supervisors working in tandem with new European Supervisory Authorities (“micro-prudential supervision”) is probably a step in the right direction. A good oversight and smart regulation should be welcomed. The concern is that going forward the policy makers could burden the system with excessive regulation which could have detrimental effect.
The central banks, the government agencies and the market participants will have to get better at spotting the excesses building up in the economy or particular sector in the economy. The Central Banks will also have to widen their target range and may need to get more proactive. The idea is to create a framework which could be used to quickly identify the excesses building up in a particular or specific sector of the overall economy and to remove them by following a swift course of action before they start clogging the vital arteries connecting the global economy. This can be achieved if the central banks, the regulators, the ratings agencies and others get more proactive in monitoring, supervising and managing the global economy. All the parties with vested interest will have to work together.
The folks on the main street will also have to realize that if you keep eating without maintaining a strict regular healthy diet and exercise regime you would most probably end up accumulating excessive fat and there is no point blaming other for it. We know all what pain some folks have to go through to shed the excesses. The question is why go through that pain especially when people are able to maintain a good health by following a regular healthy diet and exercise regime. There has to be a realization that the era of excess is gone.
The consumers (especially the American and British consumers) will have to learn to save more and live within their means. We are beginning to see that folks on the main street are starting to save a little bit more. Which is a good news but in the short term it also means that consumers will tend to hold their cash pretty close to their chest and against this back drop it’s hard to envisage a rapid pick up in consumer spending on the level seen in 06 or 07. But I’ll happily sacrifice a rapid recovery that could easily falter to a sustainable one.
A healthy and sustainable economy will mean more businesses starting-up or expanding, more hiring, increase in trade and the certainty about the future.
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