Brace for the global economic slowdown


  • Economy
  • Saturday, 07 Sep 2019

Trump’s on-off trade war is deteriorating, and its impact is adding on more uncertainty in an already turbulent, troubled world.

AS I write, the state of the world economy worsens.

The global downturn has begun. Trump’s on-off trade war is deteriorating, and its impact is adding on more uncertainty in an already turbulent, troubled world.

Just last week (ended Aug 14), US stocks ended on a down (S&P 500 fell 3.3% so far in August), capping a trying week in which investors ricocheted between riskier and safer assets, amid advances and retreats of the US-China trade tensions; and watched warily as currency markets emerged as a new front in the dispute following Trump’s designation of China as a “currency manipulator”.

Main beneficiaries were gold and US Treasuries, typical havens in troubled times. As global tensions rise and the ripples are felt across world markets, there are growing signs central banks seem fixed on a race to the bottom to ward off recession, with Trump calling on the Fed for “bigger and faster cuts”.

The International Monetary Fund’s (IMF) recent Article IV Consultations on China, now taking into account Trump’s latest 10% punitive tariffs on US$300bil in imports, will have “significant negative spillover globally”.

Further escalation would reduce China’s already slowing GDP growth “by 0.8 percentage point over the following 12 months”.

The IMF had suggested in the event conditions deteriorate, China should provide “more fiscal stimulus and allow its currency to move freely to help absorb the tariff shock”.

Indeed, China’s yuan “should remain flexible and market determined.” The IMF stressed that China’s gradual fall in growth is part of its process “to successful switch from high-speed to high-quality growth”.

Sound advice indeed. It now downgrades GDP growth in 2019 to 6%, and to 5.5% by 2024.

Value chains

So, things are not looking good. Trade tensions can morph into currency wars and generate greater uncertainty on what’s to come. Further, Trump’s policies are directed at causing US firms to move production out of China. The reality of past experience confirms that changing deep supply relationships is much more challenging than simply placing a purchase order in Vietnam or somewhere in Asia.

Moving production out of China is complicated: most products involve a chain (network) of suppliers.

Those who buy from a Chinese company are also indirectly buying from the suppliers of the Chinese exporters; and from their suppliers’ suppliers. These supplier linkages are called value chains; and suppliers along the value chain are referred to as the value chain “length.”

Foreign buyers prefer to buy more from countries with longer value chains. From their perspective, longer value chains have deeper supplier relationships – allowing them to produce more effectively a wider range of foreign designs.

China has the longest value chains in the world, leading in 12 out of 16 manufacturing industries. The depth of Chinese supply relationships gives China production flexibility, which cannot be easily replaced. Constantly, new designs often include new types of intermediate products.

So, the deep supplier relationships in China make it easier for manufacturers, to change the intermediate goods needed to produce a new design.

China’s abilities to effectively copy, absorb and adapt foreign designs, lacking in most emerging market economies (EMEs), leave many US businesses with no clear alternatives.

To compound the problem, many EMEs have pursued policies that actually limit the lengths of their production chains. Ironically, these policies were historically promoted by Western classical trade theory: that countries should specialise in what they can produce most efficiently.

This resulted in short supply chains. As a result, those who exit will leave the US consumer and producers to carry a heavy cost of the trade war.Creative destruction

and workAutomation through artificial intelligence (AI) and robotics alter the future of work. Technology may cause temporary disruption but will ultimately result in greater economic growth and thus, more jobs.

A recent McKinsey report predicts that men and women will be equally affected by automation over the next decade, with 21% of working males and 20% of females losing their jobs by 2030.

In the developed world, men will tend to lose machine-operating jobs, and women lose clerical and service roles. But new jobs will be created. Women will find more work in the expanding healthcare industry, and men in the professional, scientific and technical fields (the system remains biased against women in science and technology).

Not all of these jobs will be well paid, especially for women – just as the jobs boom of recent years has been in low-paid work. I am told that in their book, Ghost Work, Mary Gray and Siddharth Suri forecast that “on-demand work” will reach 60% of the global workforce by 2055.

They include those who work for temporary staffing agencies, have short-term contracts or who accept work from employers through websites or apps. Ironically, this sound as if the future of jobs will look very much like the past.

Before the factory and the office, many workers were part of a “putting-out system, ” where merchants hired to undertake specific tasks, for which they paid at piece rate. Such work is cheaper.

Millennials today relish the opportunity to work at home and at times of their choosing. Perhaps workers could look to the past to find a way to organise themselves, setting up online forums is one way.

Gray and Suri have suggested that these could be expanded to create the “equivalent of medieval guilds”, which could also enable workers to learn new skills. Crocodile capitalism

and multilateralismIn these turbulent and polarising times, it is the multilateral system that is in crisis. The Inter-Agency Task Force on Financing for Development (IATF) – a collaboration of more than 50 US agencies, including IMF & WTO – collectively acknowledged that the “uneven distribution of the benefits has left many behind and undermined support for the global architecture.”

Multilateralism once promised a value-driven and rules-based international economic order that also prevented beggar-thy-neighbour policies.

The system began to break down in the late 1970s, when giant global banks, corporations and their allies in government regained the reins of power they temporarily lost in the Great Depression and WWII.

The heart of this order is a predatory form of rent-seeking behaviour, often called “crocodile capitalism.”

This arose from a graph showing the rapid rise in profits of the largest US transnationals and the slower decline in labour’s share of total income. These large but agile economic predators reaped most of globalisation’s gains.

The result, as depicted in the “crocodile graph” (putting the two lines together portray an imagery of a crocodile’s wide-open mouth), is that global corporations have won and domestic workers have lost. The IATF has since advanced a set of “Geneva Principles for a Global Green New Deal” (GND) to lay the foundations for a new multilateralism that rebuilds the global rules to meet goals in promoting co-ordinated stability, shared prosperity and environmental sustainability.

The Global GND sets out the aims at rebalancing development as well as principles underlying the new multilateralism and WTO.

These principles can form the basis for a new foundation for WTO reform.

Recession?

As I see it, the dominant mood in the markets in August is anxiety. Much of this was sparked-off on Aug 14 when 10-year Treasury Bills (TB) yield fell to under 1.6% – just below the two-year TB yield.

It marked the first time, since 2007, the main yield curve has inverted in this manner, as US investors sold stocks pushing the Dow down 808 points (-3.1%).

Although another part of the yield curve has inverted since March 2019 (three-month TB rising above 10-year), still – this spooked Wall Street because the inversion of the main “2/10 curve” has preceded every recession in modern history.

However, the situation has since stabilised as the yield curve began to flatten.

In my view, prospects of a recession is more a fear, not a reality. World economy is still growing; US remains strong; while growth in Germany and China has turned sluggish.

Why then this anxiety?: (1) strong US dollar means rising risk appetite; (2) US-China trade deal is far from settled; and (3) corporate bond yield spreads have widened.

Overall, I still think the odds of a recession in the next 12 months remain low – we are not there yet!

What next – global co-operation

Trump’s “America First” started it all and became his single-minded policy stance in 2017: “Protection will lead to great prosperity and strength.”

What a difference 75 years make.

I well recall what then US Treasury Secretary, Morgenthau Jr said at Bretton Woods in 1944: “We have come to recognise that the wisest and most effective way to protect our national interests is through international co-operation through united effort for the attainment of common goals.” It rings true today. Bretton Woods’ commitment to global co-operation is what’s really needed now.

Overall, world income per capita did rise by a factor of four since 1950, as population just about trebled. But, world trade rose 39 times.

Global inequality fell significantly. What’s happened since is that the global economy was also far more stable than 50 years before. Today, unfortunately, we see the emergence of a very different “spirit” because of deindustrialisation, rising inequality, slowing productivity growth and potential for financial crisis.

As I see it, deglobalisation has begun, including growing pressures from climate change and from technological innovation.

How to sustain global co-operation when key issues have remained unresolved?: (1) reliance on US dollar – Keynes’ global currency proposal is still unattainable; (2) despite G-20’s efforts to stabilise the global monetary system, financial stability remains fragile at best; (3) global liberalisation has halted; WTO badly needs to reform; future of the world trading system hangs in the air; (4) meeting sustainable development goals require vast investments which are not forthcoming; (5) 40% of the world’s extremely poor reside in unstable and fragile states, giving rise to enormous migration pressures; (6) corruption remains rampant; (7) climate change has made matters worse. Many are still in denial. Green sanctions may be needed; and finally (8) technological change – creative destruction has started to evolve, changing the future of work.

Still much more needs to be done to assist women to rise above the fray.

How then to create enough global order and co-operation to sustain a consistent level of economic growth in today’s highly stressed environment of rising nationalism, populism and protectionism?

A novel proposal is to form “economic networks, ” led by a “global network leader” (like China, the United States, European Union) – rendering traditional notions of hegemony redundant.

These could easily evolve into networks of networks, set within different global challenges.

This idea needs detailed work. In the end, I agree with Martin Wolf (Financial Times) that for the future, “Morgenthau was correct. Mr Trump is wrong. It is as simple and as difficult – as that.” We’ll just have to wait and see.

What then, are we to do in MalaysiaThe world has changed. And, will continue to change. If we don’t change with it – indeed, we even need to change ahead of the curve – we will be left behind.

For Trump, no one else really matters. So, we are on our own – we will need to co-operate and work with the world, particularly at this time when the Malaysian economy – in my view, is not fundamentally strong.

Structural reform is needed; and we need the world to do so. I have spoken and written on this previously (refer to my column on Aug 3). Few realise that today, Malaysia can no longer rely on population growth as a driver of economic expansion.

I am told we now have a female fertility rate of just 1.9, below the 2.1 rate needed just to maintain the population. To grow, Malaysia must now rely only on increases in productivity, especially on its peoples’ creativity to drive innovation.

At this time, total factor productivity is low. The first thing we need to do is to get education right. So, we must urgently support and push hard for education reform, particularly in STEM streams; getting our youth and women ready and prepared to excel in AI and robotics, big data and IOT, supply chain logistics and “smart” manufacturing.

This is vital. Without state-of-the-art preparedness in education, nothing will work to get us ready and be able to compete at the global level. Malaysia has loads of strengths, and a “potential” comparative advantage over many in industries including palm oil, downstream oil and gas, wood-based value-added manufacturing, tourism, and 4G “electrical and electronics” as well as 5G integrated circuits design and development.

Wide ranging structural reforms are also needed in other areas: ranging from manpower (ridding most unskilled labour imports within a fixed time frame) to widespread, intensive vocational training; from research and development spending to role of state-owned enterprises; from exchange rate policy to attracting state-of-the-art FDIs; and from inequality to the racial divide.

Indeed, much needs to be done, and done urgently. It’s not too late to start fundamental reforms now: to empower our workforce and to restructure our institutions, including the role of government as a facilitator, not a competitor.

Failing to do so will leave us far behind our Asean and Asian neighbours.

Ex-banker, Harvard educated economist and British chartered scientist, Tan Sri Lin See-Yan is professor of Sunway University. Feedback is most welcome. The views expressed here are solely that of the writer.


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