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January 3, 2008

Economist's View - 3 new articles

Joseph Stiglitz: Stagflation Cometh

The title of John Berry's most recent article is "A Recession Shouldn't Be in Your 2008 Forecast." However, Joseph Stiglitz says, "For America today, the real question is only whether there will be a short, sharp downturn, or a more prolonged, but shallower, slowdown," and he urges monetary authorities not to raise interest rates even if there are signs of increasing inflation:

Stagflation cometh, by Joseph Stiglitz, Project Syndicate: The world economy has had several good years. Global growth has been strong, and the divide between the developing and developed world has narrowed... Even Africa has been doing well, with growth in excess of 5% in 2006 and 2007.

But the good times may be ending. There have been worries for years about the global imbalances caused by America's huge overseas borrowing. America, in turn, said that the world should be thankful: by living beyond its means, it helped keep the global economy going, especially given high savings rates in Asia... But it was always recognised that America's growth under President Bush was not sustainable. Now the day of reckoning looms.

America's ill-conceived war in Iraq helped fuel a quadrupling of oil prices since 2003. ... Until now, three critical factors helped the world weather soaring oil prices.

First, China, with its enormous productivity increases ... exported its deflation. Second, the US took advantage of this by lowering interest rates to unprecedented levels, inducing a housing bubble... Finally, workers all over the world took it on the chin, accepting lower real wages and a smaller share of GDP.

That game is up. China is now facing inflationary pressures. What's more, if the US convinces China to let its currency appreciate, the cost of living in the US and elsewhere will rise. And, with the rise of biofuels, the food and energy markets have become integrated. Combined with increasing demand from those with higher incomes and lower supplies due to weather-related problems associated with climate change, this means high food prices - a lethal threat to developing countries.

Prospects for America's consumption binge continuing are also bleak. Even if the US Federal Reserve continues to lower interest rates, lenders will not rush to make more bad mortgages. With house prices declining, fewer Americans will be willing and able to continue their profligacy.

The Bush administration is hoping, somehow, to forestall a wave of foreclosures - thereby passing the economy's problems on to the next president, just as it is doing with the Iraq quagmire. Its chances of succeeding are slim. For America today, the real question is only whether there will be a short, sharp downturn, or a more prolonged, but shallower, slowdown.

Moreover, America has been exporting its problems abroad, not just by selling toxic mortgages and bad financial practices, but through the ever-weakening dollar... Europe, for instance, will find it increasingly difficult to export. ...

At the same time, there has been a massive global redistribution of income from oil importers to oil exporters - a disproportionate number of which are undemocratic states - and from workers everywhere to the very rich. It is not clear whether workers will continue to accept declines in their living standards... In America, one can feel the backlash mounting.

For those who think that a well-managed globalisation has the potential to benefit both developed and developing countries, and who believe in global social justice and the importance of democracy (and the vibrant middle class that supports it), all of this is bad news. ...

Indeed, the ... world [is] facing depressed aggregate demand. For the past seven years, America's unbridled spending filled the gap. Now both US household and government spending is likely to be curbed, as both parties' presidential candidates promise a return to fiscal responsibility. After seven years in which America has seen its national debt rise from $5.6tn to $9tn, this should be welcome news - but the timing couldn't be worse.

There is one positive note in this dismal picture: the sources of global growth today are more diverse than they were a decade ago. The real engines of global growth in recent years have been developing countries.

Nevertheless, slower growth - or possibly a recession - in the world's largest economy inevitably has global consequences. There will be a global slowdown. If monetary authorities respond appropriately to growing inflationary pressure - recognising that much of it is imported, and not a result of excess domestic demand - we may be able to manage our way through it. But if they raise interest rates relentlessly to meet inflation targets, we should prepare for the worst: another episode of stagflation.

If central banks go down this path, they will no doubt eventually succeed in wringing inflation out of the system. But the cost - in lost jobs, lost wages, and lost homes - will be enormous.

Update: Above, Joseph Stiglitz says factors which have allowed us to weather higher oil prices are fading and we will soon feel stagflationary effects from the run-up in the price of energy. Oliver Blanchard, in an interview motivated by oil prices hitting the $100 mark for the first time, isn't so sure that we will see a return of 1970s:

MIT economist sees U.S. weathering $100 oil, by Sarah H. Wright, MIT News Office

"What's Your Consumption Factor?"

Jared Diamond continues to worry about overshoot - using up resources faster than they can be replaced - and the eventual collapse of consumption, though he does see encouraging signs:

What's Your Consumption Factor?, by Jared Diamond, Commentary, NY Times: ...The average rates at which people consume resources ... and produce wastes ... are about 32 times higher in North America, Western Europe, Japan and Australia than they are in the developing world. That factor of 32 has big consequences. ...

People in the third world are aware of this difference in per capita consumption, although most of them couldn't specify that it's by a factor of 32. When they believe their chances of catching up to be hopeless, they sometimes get frustrated and angry, and some become terrorists, or tolerate or support terrorists. ... There will be more terrorist attacks against us ... as long as that ... difference of 32 in consumption rates persists.

People who consume little want to enjoy the high-consumption lifestyle. Governments of developing countries make an increase in living standards a primary goal... And tens of millions of people in the developing world seek the first-world lifestyle on their own, by emigrating...

Among the developing countries that are seeking to increase per capita consumption rates at home, China stands out. It has the world's fastest growing economy...

Per capita consumption rates in China are still about 11 times below ours, but let's suppose they rise to our level. Let's also make things easy by imagining that nothing else happens ... China's catching up alone would roughly double world consumption rates. Oil consumption would increase by 106 percent, for instance, and world metal consumption by 94 percent.

If India as well as China were to catch up, world consumption rates would triple. If the whole developing world were suddenly to catch up, world rates would increase elevenfold. It would be as if the world population ballooned to 72 billion people (retaining present consumption rates).

Some optimists claim that we could support a world with nine billion people. But I haven't met anyone crazy enough to claim that we could support 72 billion. Yet we often promise developing countries that if they will only adopt good policies — for example, institute honest government and a free-market economy — they, too, will be able to enjoy a first-world lifestyle. This promise is impossible, a cruel hoax: we are having difficulty supporting a first-world lifestyle even now for only one billion people.

We Americans may think of China's growing consumption as a problem. But the Chinese are only reaching for the consumption rate we already have. To tell them not to try would be futile.

The only approach that China and other developing countries will accept is to aim to make consumption rates and living standards more equal around the world. But the world doesn't have enough resources to allow for raising China's consumption rates, let alone those of the rest of the world, to our levels. Does this mean we're headed for disaster?

No, we could have a stable outcome in which all countries converge on consumption rates considerably below the current highest levels. Americans might object: there is no way we would sacrifice our living standards for the benefit of people in the rest of the world. Nevertheless, whether we get there willingly or not, we shall soon have lower consumption rates, because our present rates are unsustainable.

Real sacrifice wouldn't be required, however, because living standards are not tightly coupled to consumption rates. Much American consumption is wasteful and contributes little or nothing to quality of life. For example, per capita oil consumption in Western Europe is about half of ours, yet Western Europe's standard of living is higher by any reasonable criterion, including life expectancy, health, infant mortality, access to medical care, financial security after retirement, vacation time, quality of public schools and support for the arts. Ask yourself whether Americans' wasteful use of gasoline contributes positively to any of those measures. ...

Just as it is certain that within most of our lifetimes we'll be consuming less than we do now, it is also certain that per capita consumption rates in many developing countries will one day be more nearly equal to ours. These are desirable trends, not horrible prospects. ...

Fortunately, in the last year there have been encouraging signs. Australia held a recent election...; the new government immediately supported the Kyoto Protocol on cutting greenhouse gas emissions.

Also in the last year, concern about climate change has increased greatly in the United States. Even in China, vigorous arguments about environmental policy are taking place, and public protests recently halted construction of a huge chemical plant... Hence I am cautiously optimistic. The world has serious consumption problems, but we can solve them if we choose to do so.

Though he does end on an optimistic note, at least for him, I can't be as gloomy about the future. Somehow, we'll figure it out and keep moving forward. Won't we?

links for 2008-01-02

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