Monthly Archives: December 2006

By Lawrence Summers The new year will begin with the greatest divergence for a generation between the general view of global risks as reflected by conventional wisdom and the risks as priced in financial markets. While the commentariat has been more alarmed about the state of the world than global markets for some years, the gap increased in 2006 as markets became more serene and everyone else grew more anxious. The headlines and opinion writers focus on how the US is badly bogged down in wars in Afghanistan and Iraq; on an increasingly unstable Middle East and dangerous energy dependence; on nuclear proliferation that has already occurred in North Korea and that is coming in Iran; on the potential weakness of lame-duck political leaders in the US and other major democracies; on record global trade imbalances and rising protectionist pressures; on increased levels of public and private sector borrowing combined with record low saving in the US; on falling home prices and middle class economic insecurity. At the same time, financial markets are pricing in an expectation of tranquility as far as the eye can see. Stock prices in the US are at all-time highs. The risk premiums to cover the possibility of default that corporations or developing countries have to pay to borrow money are at or near historic lows. In addition, estimates of the volatility of the stock, bond and foreign exchange markets inferred from the prices of options are near record lows. Why the divergence between the headlines and the markets? Will the journalists or the investors be proved right about the state of the world? Or will the divergence continue? Read more

What might the world economy look like in 2030? Nobody knows. But we can consider where present trends are taking us. We can assess, too, some of the dangers and opportunities. That is what the World Bank’s latest Global Economic Prospects report does*. This report does more than help organise our thinking. It should also cheer us up and spur us to do better. The past quarter of a century has been a time of unprecedented integration of the world economy, as technology advanced and the socialist sandcastles crumbled under the tide of economic liberalisation. As the report also notes: “Global income has doubled since 1980, 450m have been lifted out of extreme poverty since 1990 and life expectancy in developing countries is now 65 on average.” Globalisation has also proceeded apace: between 1970 and 2004, exports as a proportion of world output doubled to more than 25 per cent; new technologies have diffused rapidly across the globe; and total private financing of developing countries reached nearly $1,000bn in 2004. The persistence of these trends is striking. Moreover, among the encouraging recent features is the acceleration in the growth of incomes per head in the developing world (see chart), as south Asian growth rates and east Asian weights in the total both rose. So what might the world look like in 2030? The remainder of Martin Wolf’s column can be read here ( subscribers only). Discussion from our guest economists is free – click ‘Comments’ below

The deaths of Augusto Pinochet and the failing health of Fidel Castro mark the end of an era for Latin America. We should look back at the bearded revolutionaries and military despots, ideological fervour and utopian dreams, without any regret. Despite the recrudescent populism of Hugo Chávez in Venezuela and Evo Morales in Bolivia, a more sober style of democratic politics is cementing its hold across the region. This is the theme of a fascinating book by Javier Santiso, deputy director of the development centre of the Organisation for Economic Co-operation and Development. “Since its independence,” he argues, “one of Latin America’s core dependencies has been its belief in miracles: the miracles forged by the Marxist or free-market magicians, revolutionaries and counter-revolutionaries, on the basis of a few grand theories and paradigms.” There is, instead, “a dual movement of economic reforms and a transition to democracy”, a move to “the political economy of the possible”. In its broad outlines, Mr Santiso’s story is convincing. Economic reform – by which is meant a move towards greater reliance on the market – has indeed spread, in fits and starts, across the region. Huge mistakes have been made. But only President Chávez, fortified by the wealth that comes out of oil wells, feels free to ignore economic rationality altogether. The remainder of Martin Wolf’s column can be read here ( subscribers only). Discussion from our guest economists is free – click ‘Comments’ below

By Lawrence Summers A recent meeting with the incoming freshmen of the 110th House of Representatives made clear to me some of the forces that will shape American economic policy in the next few years. Coming from very different parts of the country and very different political perspectives, the new members of Congress have in common that they have all heard from the anxious middle class. They feel under enormous pressure to respond not just to the economic insecurity that middle-class voters feel, but also to voters’ resentment at what they see as disproportionately prospering corporate elites. If the new Congress sees itself as having a mandate for anything in the economic area, it is for policies that “stand up” for ordinary Americans against the threat they perceive from corporate and moneyed interests. These populist impulses have roots much deeper than campaign rhetoric. In the past, real wages and corporate profitability have moved together – increasing during economic expansions and when the US became more competitive, declining in recessions and when it encountered significant competitive threats. The unique feature of the current expansion is the divergence between the fortunes of capital and the fortunes of labour. While workers normally receive about three-quarters of corporate income, with the remainder going to profits and interest, the Economic Policy Institute has calculated that, since 2001, labour has received only about one-quarter of the increase in corporate income, as real wages have failed to keep pace with productivity growth. Indeed, for most groups of workers, wages have not kept pace with inflation over the past several years. College graduates have been particularly hard hit, with their wages struggling to keep pace with inflation over the past five years. At the same time, profits per share for companies in the Standard & Poor’s 500 index have increased at an annual rate of more than 10 per cent, even after taking into account inflation over the past four years. Read more

Richard Nixon’s Treasury secretary, John Connally, famously remarked that “the dollar is our currency, but your problem”. He would be right again now. The rest of the world normally wants a strong dollar. Yet the dollar is now in a bear market. How long might this go on? The plausible answer must be: a while yet. Since early 2002 the dollar has been on a steep downward path: on JPMorgan’s trade-weighted real exchange rate it has depreciated by 23 per cent since February 2002. This is the third such sustained decline since Mr Connally’s remarks. The first was during the early 1970s. The second was from 1985 to 1988. On each of the two previous occasions, the depreciating real exchange rate also helped generate a big adjustment in the balance of payments. This was strikingly true in the 1980s. The same thing is happening again. Between 1996 and 2004, real US domestic demand grew faster than real gross domestic product every year. This was necessary, I have previously argued, if GDP was to rise in line with potential, given the prevailing real exchange rates and the weak rate of growth of demand in much of the rest of the world. Over these years, cumulative growth in US real demand was 39 per cent, while GDP grew by 33 per cent. The difference was the real increase in the deficit in trade in goods and non-factor services. The remainder of Martin Wolf’s column can be read here ( subscribers only). Discussion from our guest economists is free – click ‘Comments’ below