Monthly Archives: January 2014

Long regarded as a region of unbounded promise and rising prosperity, Asia has been sometimes the lone bright spot on a global balance sheet that featured turmoil in the Middle East, torpor in Europe and tilting at windmills in the US. There have been Asian uncertainties and occasional tensions, historic and regional rivalries, but these have been largely muted, generally, for well over a generation as investment, innovation and manufacturing on the continent shifted into overdrive.

However, this year interested observers and key players collectively confront a much more worrisome set of indicators across a diverse Asian scene. Tensions are up, uncertainties outweigh stabilising constants, and suddenly ominous and dark clouds hover on the Asian horizon. The signs of trouble that are stirring anxieties in boardrooms and senior political councils are no longer confined to any one sector or a single country. Many of the challenges are interconnected and even where they are not, there are worries of spillover and contagion.

Continue reading »

In his State of the Union address, President Barack Obama had much to say about the US economy and the nation’s recovery from the financial crisis. But some of his sharpest words concerned income inequality. While generating applause, the president’s rhetoric misses the core economic challenges facing low-income Americans and reduces the likelihood of constructive policy action.

While the president now wisely acknowledges the importance of mobility, the underlying difficulty concerns the way the problem is framed. Inequality is not in itself necessarily undesirable. People earn more or less depending on how old they are, how hard they work, and how useful are the business or creative aptitudes they possess. This is a normal feature of a competitive, dynamic economy.

Continue reading »

Three cheers for the new EU energy policy for 2030. While last week’s announcement was criticised by some observers as a retreat on clean energy (and praised by some businesses for the same alleged reason), it was no retreat at all. The EU maintains its global leadership in pointing the way out of the climate-energy morass. The new goals are sound but will require considerable diligence to implement.

Continue reading »

China can never be far from the Davos agenda these days. The Indians, and this year the South Africans, strive to make themselves heard: the Chinese do not have to try. Continue reading »

Tuesday Barack Obama will deliver his sixth State of the Union address. Expectations are not running high. Congress is gridlocked, the president’s poll standing is tepid, and 2014 is a year of midterm elections when partisanship usually rises. Moreover, the focus of the speech will probably be income inequality – an issue that Mr Obama calls “the challenge of our time” and which is a popular topic among Congressional Democrats. And yet little or none of the related legislative agenda outlined on Tuesday has a chance to get passed by this Congress. As a result, Mr Obama will be forced to highlight modest executive actions which don’t require legislative approval. Continue reading »

There are many party games to play at Davos. Some work better than others. The fashion now, perhaps driven by the success of TED conferences, is for strictly time-limited interventions, as short as possible. One economic historian was asked to summarise the development of the global monetary system over the last 150 years, and forecast the future of the dollar, the renminbi and the euro out to 2030 – all in three minutes. Actually he made a more than decent stab at it, but others, who may well have something interesting to say, have barely cleared their throats before the bar comes down. Continue reading »

I had hoped that my 25th trip to Davos would be marked by the award of a silver fondu set, at the very least. No such luck. The only prize is to be asked yet again to work on “reshaping the world”, this year’s theme. Continue reading »

An Afghan special force soldier passes a damaged car next to the entrance of a Lebanese restaurant that was attacked in Kabul, on January 18 2014©AFP

The withdrawal of US forces from Afghanistan this year is almost as worrying to the country’s neighbours as to the Afghans themselves. The five central Asian states – Uzbekistan, Tajikistan, Kazakhstan, Kyrgyzstan and Turkmenistan – fear an upsurge in Islamic terrorism, increased flows of heroin and a flood of refugees. The US-led intervention, which aimed to uproot al-Qaeda from Afghanistan, may instead have scattered the seeds of jihadism over a wider field.

The FT’s A-List

The A-list

The A-List provides timely, insightful comment on the topics that matter, from globally renowned leaders, policy makers and commentators

Abdulaziz Komilov, the Uzbek foreign minister, and Erlan Idrissov, his Kazakh counterpart, have warned of serious threats to regional security after 2014. Tajik president Emomali Rakhmon has described the western withdrawal as “a matter of deepest concern’’. Drug smuggling is a big source of revenue for militants, who readily cross into Turkmenistan, Uzbekistan and Tajikistan over Afghanistan’s 1,200-mile border.

In private, Russian officials express nervousness about the withdrawal. But Moscow is also using the political vacuum as an opportunity to reassert itself in a region that it has always considered its backyard. The Kremlin has promised tiny Kyrgyzstan $1.1bn in military aid and debt relief worth a further $500m. In return, Bishkek has agreed to shut down a US air base in the country. In Tajikistan, parliament voted in October to allow Russia to station 6,000 troops inside the country for another 30 years.


On this story

On this topic

The A-List

China, too, has entered the bidding. It has sent senior officials on long tours of central Asian states, holding out the prospect of increased trade and promising billions of dollars in loans and funding for infrastructure projects. Another Chinese initiative, the Shanghai Co-operation Organisation, channels support to central Asian militaries. China and Russia have launched intensive discussions with states such as India, Pakistan and Iran to agree a common approach to stabilising Afghanistan.

Fears for the stability of central Asia have increased, with reports that the Islamic Movement of Uzbekistan is establishing bases along the Afghan border. With its allies, which include al-Qaeda and the Taliban, it is preparing to inject more fighters into the country once the Americans leave. Pakistani militants keep the IMU generously supplied with arms, money and recruits.

The group already has bases around the northern Afghan city of Kunduz. However, developments in Badakhshan province in the country’s northeast – separated from Tajikistan only by the narrow Panj river – now point to an even greater threat to security in the region. Hundreds of IMU are trying to occupy several districts in Badakhshan, a vast area in the Pamir and Hindu Kush mountain ranges. From here the tip of southern Tajikistan, Pakistan’s northwestern border and eastern Afghanistan are all within striking distance. The next step would be for militants to secure the entire northeastern corridor of Afghanistan, which would provide a major operational base.

Yet despite their overwhelming common interest in tackling this threat, the five states are at loggerheads, unable to agree a common policy on how to stabilise Afghanistan.

The west should also play a more constructive role to prevent Afghan militants from spreading after US forces withdraw

Drug smuggling, corruption and poverty are rife in Tajikistan. In Uzbekistan, 75-year-old President Islam Karimov, in office for almost a quarter of a century, is facing a succession crisis as his two daughters fight over who will take his place. His jails hold more political prisoners than the rest of the former Soviet Union put together, according to Human Rights Watch. Only Kyrgyzstan, which has no border with Afghanistan, has a semblance of democracy. But its weak government makes it an easy target for IMU attacks.

Central Asian states must rise to this common challenge. It will take co-ordinated action from Afghanistan’s neighbours to prevent a resurgence in Afghan jihadism from spreading across the region. The west should also play a more constructive role. The former Soviet republics feel slighted by the US and Afghan governments, and mistrust Nato powers that have failed to end the war in Afghanistan. Restoring their faith is an urgent task. There is too much at stake for central Asia to be allowed to fail.

The writer is the author of ‘The Resurgence of Central Asia’ and ‘Jihad: the Rise of Militant Islam in Central Asia’

The longer we have to reflect on it, the more last November’s Third Plenum of the Chinese Communist party emerges as a watershed. It seems increasingly clear that Xi Jinping, the new party chief, is managing to corral support behind a substantial leap forward from the reforms begun 30 years ago by Deng Xaoping. As state and market continue to jostle for pre-eminence in the leadership’s carefully balanced rhetoric, it would appear that when Mr Xi signals left, he means to turn right.

The plenum was characterised by an interesting metaphor. A senior official told China Daily that while three decades of rapid development had dramatically closed the “hardware” gap between China and the developed world – particularly in the coastal areas in the south – it still had a “software” deficit. While the west focuses on ideas like ‘opening up’ as describing what we want from China, the software metaphor tells us a lot about China’s weaknesses and what it needs from the rest of the world.

Continue reading »

Mario Draghi may have offered reassurance last week that the eurozone is not facing a Japan-style deflationary lost decade but, frankly, his reassurance is not terribly convincing. Japan’s problems were partly a reflection of a collective failure to foresee the deflation heading its way. As economists at the US Federal Reserve noted back in 2002: “Japan’s deflationary slump was very much unanticipated by Japanese policy makers and observers alike … this was a key factor in the authorities’ failure to provide sufficient stimulus to maintain growth and positive inflation.”

Over the past 12 months, inflation throughout much of the world has dropped like a stone, ending up at levels wholly unanticipated at the end of 2012. If Japan’s problems partly stemmed from a failure to spot the onset of deflation, might it be that policy makers in the west could be sleepwalking into the very same problem? After all, inflation in both the US and the eurozone is now well below target, a result that should at least give central bankers pause for thought.

The arrival of excessively low inflation – or, indeed, deflation – is not always a problem. A positive productivity shock might drag prices down relative to wages, pushing real incomes higher. The same applies in the event of a major drop in energy prices (it is certainly the case that US inflation has been dragged lower thanks to the shale energy revolution).

And, as many observers currently believe, low inflation may simply be a lagging indicator of earlier economic weakness. On that basis, recent signs of renewed economic strength suggest inflation will head back up again over the next couple of years.

Low inflation is not always a lagging indicator, however. At the zero rate bound, further declines in inflation will raise real interest rates, make debt less digestible and, for the financial system, threaten an increase in non-performing loans. A financial system that is already fragile – as the eurozone’s is today – will then end up in an even worse position. Initial signs of economic recovery may then prove to be no more than a false dawn.

Rather than faster growth leading to higher inflation, lower inflation eventually leads to slower growth. In between, the credit system is slowly asphyxiated.

This was exactly Japan’s experience in the mid-1990s. Tentative signs of economic recovery in 1995 and 1996 created the impression that Japan was about to enjoy a sustained recovery that, in turn, would lead to higher inflation. It did not. Instead, an unexpected descent into deflation – despite the pick-up in activity – led to a sclerotic financial system, pathetically weak credit growth and, eventually, what became known as the first of Japan’s two lost decades. The normal cyclical causality went into reverse.

The large drop in inflation last year elsewhere in the world may only be a lagged response to earlier economic weakness but, if that is so obvious now, why was it that no one managed to forecast the drop a year ago? Might it be that, for the world as a whole, there is still a significant deflationary bias, even if deleveraging has shifted from the US and the UK through to southern Europe and, more recently, to more vulnerable parts of the emerging world? And, at the zero rate bound, does one country’s attempt through quantitative easing to reduce deflationary risks only lead to a weaker exchange rate which ultimately only serves to export its deflationary difficulties to other parts of the world?

None of these risks is reflected in current inflation forecasts. With central banks unwilling to admit they might miss their inflation targets (they are not in the business of forecasting policy error) and with the forecasting community more generally happy in the complacent belief that inflation will somehow automatically head back up towards target over the coming months, no one is forecasting a Japan-style outcome. That, however, is precisely the view the Japanese themselves reached in the mid-1990s.
For all the more encouraging recent economic news, persistently low inflation could be a game-changer. No one expects it to be but, as the Japanese discovered, that is ultimately why persistently low inflation could be such a big problem.

The writer is HSBC Group’s chief economist and the bank’s global head of economics and asset allocation research

Prime minister Margaret Thatcher©Getty

Cynics who say power is all that counts in politics forget that power without ideas is just improvisation. It is ideas that enable leaders to impose a direction on events. Margaret Thatcher’s death last year reminds us what it felt like to be led by a conviction politician. Some hated the UK prime minister’s direction, but no one doubted there was one. No one doubted that her success helped produce a conviction politician on the progressive side: Tony Blair.

In the past 15 years, few politicians have imposed their will on our times. We can blame the current crop of leaders for that, but the deeper cause seems to lie in the waning power of ideas. Politics is more polarised than ever, but behind the party stockades, diminishing bands of believers repeat partisan incantations that no longer describe the world, let alone change it.

The FT’s A-List

The A-list

The A-List provides timely, insightful comment on the topics that matter, from globally renowned leaders, policy makers and commentators

We are living through the slow decay of the two master narratives – conservative and progressive – that have defined political argument since 1945. Whether you liked it or not, the conservatism that Friedrich Hayek and Karl Popper crafted in the 1940s had the courage of its convictions. It was a passionate defence of individual freedom and competitive markets against state tyranny. When articulated by politicians of genius, such as Thatcher and US president Ronald Reagan, these ideas conveyed a confidence about the future that forced progressives to answer with a vision of their own. In the dialectic of politics, without conviction conservatism, there would have been no progressive Third Way.

American conservatism today is an embittered shell of Reagan’s vision. Country club Republicans defend the privileges of the elites while Tea Party insurgents wage a rearguard revolt against the welfare state and the sexual revolution. In Europe, conservatism risks curdling into a sour language of fear towards foreigners, immigrants and the European dream itself.

Progressives seem unable to capitalise on conservatism’s travails. The depression has not produced a John Maynard Keynes de nos jours – and no youth protest from Madrid to Rio has inspired a rebirth in progressive thought. The Occupy movement came and went without leaving an intellectual trace.

In this vacuum of ideas, progressivism’s motto today seems to come from Hilaire Belloc: “Keep a-hold of Nurse for fear of something worse.” Progressives have become closet conservatives, defending the welfare state and the public-sector middle class at the very moment when rising inequality is eroding the tax and voter base for welfarism.


On this story

On this topic

The A-List

In the resulting political void, economists rule, but technical fixes lack the anchorage of public support. Economic policy lurches between excessive austerity and timid reflation. The great fear that grips democratic electorates – that globalised markets will once again run out of control – remains unaddressed. And no politician seems to hear these fears or offer hope.

It is no use bemoaning polarisation. The stockades are unlikely to come down soon. Conservative and progressive polarisation endures for good reason. Each tradition offers different answers to the fundamental question of politics: how to control the power of the market and of the state. Yet the current exhaustion of these two traditions illustrates a paradox: neither can renew itself unless each learns from the other.

Progressives will have to make their peace with the creative destruction brought about by competition, while conservatives will have to accept that the state has to take care of the market’s victims. As governments’ powers of surveillance grow, progressives will learn new respect for the conservative instinct that state power must be kept in check. As the globalisation of finance multiplies the risk of systemic meltdown, conservatives will begin to appreciate the progressive insight that only the state can keep markets from dropping us into the abyss.

One side of the partisan divide will put social justice first; the other, profits. But one is not the enemy of the other. And, whichever side wins power, each will have to repair the fissures of disadvantage that the new economy is carving into our social fabric. These risk pulling our societies apart unless both sides put their authority behind a social contract in which the success of the few enriches life for the many.

Finally, both traditions will not survive unless they remember what political ideas are for: to bring us together and enable us to believe that we can control our collective destinies. Without a political vision of where we should be headed, we become spectators of our own drift.

When democracies drift, as they are now, voters edge towards extremes, towards demagogues who throw false solutions at imagined problems. If the demagogues of right and left are to be defeated, politicians in the vital centre need to learn from their adversaries, break with the polarities of our time and, most of all, give fellow citizens faith that we can master events rather than bob in the tide.

The writer teaches politics at Harvard and is the author of ‘Fire and Ashes: Success and Failure in Politics’

China and Japan have little in common these days. But in one area the two countries appear to be proceeding along similar lines: both Beijing and Tokyo are working to establish newly institutionalised National Security Councils to co-ordinate their foreign policy and national security. Why? Continue reading »


Debates persist in the US and eurozone about growth and job creation versus fiscal discipline. This false choice diverts fiscal focus away from a balanced approach that could achieve both imperatives. Such false choices also contribute to the failure of our political systems to better address continuing hardship through advancing growth and employment, and through programmes such as the unemployment insurance extension. Moreover, that political failure has also contributed to central bank decisions to employ unconventional monetary policies that create widely under-appreciated risks.

The FT’s A-List

The A-list

The A-List provides timely, insightful comment on the topics that matter, from globally renowned leaders, policy makers and commentators

The US recovery remains slow by historical standards – even if recent signs of improvement are borne out. One reason is that our unsound fiscal trajectory undermines business confidence, and thus job creation, by creating uncertainty about future policy and exacerbating concerns about the will of Congress to govern. Business leaders frequently cite our fiscal outlook as a deterrent to hiring and investment.

A sound fiscal trajectory is also a prerequisite for interest rates conducive to growth. Continued unsound fiscal conditions will almost surely destabilise markets at some future point. Recent reductions in deficit projections do not change the basic structural picture – except that healthcare cost increases are slowing – and are partly based on sequestration, a terrible policy that already looks too onerous to stick.

In the eurozone, the threat is more immediate. Bond markets in troubled countries were in dire conditions until the European Central Bank’s famous – and as yet unimplemented – 2012 promise to do “whatever it takes”. But ECB actions will not address fiscal and structural issues critical to healthy recovery. Also, the ECB cannot buy sovereign debt indefinitely without triggering capital flight from corporate and sovereign debt markets and the currency. The ECB has bought time, but if that time is not used for policy reforms that win market confidence, bond markets will eventually destabilise.

Unconventional policy decisions by central banks are sometimes justified as the only available tools in the absence of necessary government policies. The right criterion for action, however, is not the absence of alternatives, but an assessment of costs and benefits. In the US, the Federal Reserve’s first programme of quantitative easing was a courageous response to the crisis. And in the eurozone, too, it was imperative to stem the crisis. But the key policy issues have always rested with political leaders.


On this story

On this topic

The A-List

In the US, there are widely posed questions about the benefits of QE3, but the risks are significant. One is that central bank action will reduce market pressure on political leaders to act. Another is financial moral hazard, where that same comfort may increase reaching for yield in riskier asset classes. The greatest risks of all surround exit strategy.

Unwinding the vast enlargement of the Fed’s balance sheet and liquidity greatly increases the usual risks in monetary policy aimed at price stability, growth and employment. Greater uncertainty means navigating uncharted waters, with heightened chances that tightening leads to a significant downturn. Some suggest that raising interest rates on banks’ excess reserves at the Fed, instead of selling bonds, could limit the risks. But there are no magic wands. No one can reliably project the rate increases needed or the likelihood of destabilising reactions among lenders and borrowers.

Yet waiting too long to tighten heightens the risk of inflation at some point. The Fed’s dramatic expansion of bank reserves could feed excessive credit growth. Along with the possible erosion of Fed credibility on inflation, that could also feed inflationary expectations.

Whether or not QE3 was wise to begin with, the question is what to do now. So-called “tapering” will not withdraw liquidity. Time will tell whether tapering – now under way on a small scale – will increase market interest rates, or whether tapering is already priced in. (Recent rate increases may also reflect improved economic data.) Continued purchasing reduces the risk of market reaction, but increases future unwinding risk. Confidence generated by a sound fiscal regime could help ameliorate both risks.

Such a regime should be enacted now to stabilise, or preferably reduce, the ratio of debt-to-gross domestic product over 10 years, and protect discretionary spending. Implementation, designed in ways difficult to undo, should be deferred for a limited period to allow for recovery. Fiscal discipline could provide room for reasonable stimulus to create jobs. The partially cancelled sequestration should be fully rescinded to eliminate its fiscal drag. Fiscal funding should come largely from revenue increases and beginning the entitlement reforms necessary for long-term sustainability – as President Barack Obama has proposed.

Structural deficit reduction would address growing deficits in the decades beyond the next 10 years. The eurozone, too, should reject false choices. Instead, it should strike the right balance between fiscal discipline to win market and business confidence, and macroeconomic room for growth.

Unconventional monetary policy and stimulus can be part of a successful economic programme for a period of time. But they are no substitute for fiscal discipline, public investment and structural reform.

The writer is a former US Treasury secretary

Now among the world’s most dynamic emerging markets, Turkey has proven a remarkable success story in recent years. In the decade since Recep Tayyip Erdogan, prime minister, and his Justice and Development Party (AKP) first rose to power, economic growth has broadened beyond the traditional northwestern Istanbul-Ankara-Izmir triangle and the well-connected secular elite to include new companies and investors from the country’s heartland. Per capita income has tripled in nominal terms, and Turkey has become an influential actor on the global stage.

Continue reading »

One striking aspect of last year’s markets is the extent to which emerging market assets underperformed those in advanced economies. As investors search for returns this year among some frothy asset markets, such unusual underperformance attracts even greater attention.

Emerging markets’ underperformance was broad-based, affecting virtually every asset class. EM equities underperformed the aggregate world index by a stunning 29 percentage points as measured by their MSCI index components. In external credit, the return on EM sovereign bonds was a notable 14 percentage points lower than that on high yield bonds (as measured by JPM EMBI Global and ML HY indices, respectively). Local currency EM bonds did even worse, returning minus 9 per cent according to the GBI EM index.


On this topic

Markets Insight

Some “classic” factors contributed to the disappointing performance of emerging markets. Top line revenue suffered on account of more muted growth and lower government stimulus, with related global demand uncertainties compounded by structural changes taking place in China. Profit margins also came under pressure due to inflexible cost structures.

Meanwhile, highly visible company debacles, such as OGX in Brazil, reignited concerns about corporate governance and legal protections; as did political instability in countries such as Turkey and Ukraine.

Financial engineering

Moreover, and again in contrast to their US counterparts, EM equities did not benefit from the financial engineering that many corporate treasurers pursued as a result of the interest rate policies adopted by G3 central banks. For example, aided by Federal Reserve policy, US company boards authorised as much as $750bn in share buybacks in 2013 (equivalent to almost 6 per cent of the capitalisation of the S&P 500 at the start of 2013).

As significant as these factors are, they do not fully explain the breadth and size of emerging market underperformance in 2013. Also, they are not enough to confidently anchor predictions for 2014. If they were, broad emerging market exposure would probably outperform this year, given the stabilisation in growth rates, higher export receipts, and declining Fed policy support for US corporate buybacks and dividend hikes.

To shed more light on what happened in 2013 and what is likely to occur in 2014, we need to look at three factors that many had assumed were relics of the “old EM”.

First, and after several years of large inflows, emerging markets suffered a dramatic dislocation in technical conditions in the second quarter of 2013.

The trigger was Fed talk of “tapering” the unconventional support the US central bank provides to markets. The resulting price and liquidity disruptions were amplified by structural weaknesses associated with a narrow EM dedicated investor base and skittish cross-over investors. Simply put, “tourist dollars” fleeing emerging markets could not be compensated for quickly enough by “locals”.

Policy makers stumble

Second, 2013 saw stumbles on the part of EM corporate leaders and policy makers. Perhaps overconfident due to all the talk of an emerging market age – itself encouraged by the extent to which the emerging world had economically and financially outperformed advanced countries after the 2008 global financial crisis – they underestimated exogenous technical shocks, overestimated their resilience, and under-delivered on the needed responses at both corporate and sovereign levels. Pending elections also damped enthusiasm for policy changes.

Finally, the extent of internal policy incoherence was accentuated by the currency depreciations caused by the sudden midyear reversal in cross-border capital flows. Companies scrambled to deal with their foreign exchange mismatches while central bank interest rate policies were torn between battling currency-induced inflation and countering declining economic growth.

Absent a major hiccup in the global economy – due, for example, to a policy mistake on the part of G3 central banks and/or a market accident as some asset prices are quite disconnected from fundamentals – the influence of these three factors is likely to diminish in 2014. This would alleviate pressure on emerging market assets at a time when their valuations have become more attractive on both a relative and absolute basis.

Yet the answer is not for investors to rush and position their portfolios for an emerging market recovery that is broad in scope and large in scale. Instead, they should differentiate by favouring companies commanding premium profitability and benefiting from healthy long-run consumer growth dynamics, residing in countries with strong balance sheets and a high degree of policy flexibility, and benefiting from a rising dedicated investor base.

Mohamed El-Erian is chief executive and co-chief investment officer of Pimco

The December spike in China’s interbank interest rates, following a similar episode in June, reinforces two widely shared perceptions. The first is that dealing with the current debt overhang will exacerbate volatility; the second is that interest rates are too low. That financial reforms are needed, despite the risks, is beyond dispute. But whether interest rates — specifically deposit rates paid to savers — are actually too low, as many China-watchers have argued, is debatable.

Continue reading »

We may, as I argued last month in the Financial Times, be in a period of “secular stagnation” in which sluggish growth and output, and employment levels well below potential, might coincide for some time to come with problematically low real interest rates.

Since the start of this century, annual US gross domestic product growth has averaged less than 1.8 per cent. The economy is now operating nearly 10 per cent – or more than $1.6tn – below what was judged to be its potential as recently as 2007. And all this is in the face of negative real interest rates for terms of more than five years and extraordinarily easy monetary policy.


On this story

On this topic

Lawrence Summers

It is true that even some forecasters who have had the wisdom to remain pessimistic about growth prospects for the past few years are coming around to more optimistic views in 2014 – at least in the US. This is encouraging but should be qualified by the recognition that, even on optimistic forecasts, output and employment will remain well below previous trend for many years. More troubling, even with today’s high degree of slack in the economy, and with wage and price inflation slowing, there are signs of eroding credit standards and inflated asset values. If we were to enjoy years of healthy growth under anything like current credit conditions, there is every reason to expect we would return to the kind of problems we saw in 2005-07 long before output and employment returned to trend or inflation picked up again.

So the secular stagnation challenge is not just to achieve reasonable growth but to do so in a financially sustainable way. There are, essentially, three approaches.

The first would emphasise what is seen as the deep supply-side fundamentals – labour force skills, companies’ capacity for innovation, structural tax reform and assuring the long-run sustainability of entitlement programmes. All of this is appealing – if politically difficult – and would indeed make a great contribution to the economy’s health in the long run. But it is unlikely to do much in the next five to 10 years. Apart from obvious delays – it takes time for education to operate, for example – our economy is held back by lack of demand rather than lack of supply. Increasing our capacity to produce will not translate into increased output unless there is more demand for goods and services. Training programmes or reform of social insurance may, for instance, affect which workers find jobs but they will not affect how many find jobs. Indeed, measures that raise supply could have the perverse effect of magnifying deflationary pressure.

The second strategy, which has dominated US policy in recent years, is lowering relevant interest rates and capital costs as much as possible and relying on regulatory policies to assure financial stability. The economy is far healthier now than it would have been in the absence of these measures. But a strategy that relies on interest rates significantly below growth rates for long periods of time virtually guarantees the emergence of substantial bubbles and dangerous build-ups in leverage. The idea that regulation can allow the growth benefits of easy credit to come without the costs is a chimera. It is precisely the increases in asset values and increased ability to borrow that stimulate the economy that are the proper concern of prudential regulation.

The third approach – and the one that holds most promise – is a commitment to raising the level of demand at any given level of interest rates, through policies that restore a situation where reasonable growth and reasonable interest rates can coincide. This means ending the disastrous trend towards ever less government spending and employment each year – and taking advantage of the current period of economic slack to renew and build up our infrastructure. If the government had invested more over the past five years, our debt burden relative to our incomes would be lower: allowing slackening in the economy has hurt its potential in the long run.

Raising demand also means seeking to spur private spending. There is much that can be done in the energy sector to unleash private investment on both the fossil fuel and renewable sides. Regulation that requires the more rapid replacement of coal-fired power plants will increase investment and spur growth as well as helping the environment. And in a troubled global economy it is essential to ensure that a widening trade deficit does not excessively divert demand from the US economy.

Secular stagnation is not an inevitability. With the right policy choices, we can have both reasonable growth and financial stability. But, without a clear diagnosis of our problem and a commitment to structural increases in demand, we will be condemned to oscillating between inadequate growth and unsustainable finance. We can do better.
The writer is Charles W Eliot university professor at Harvard and
a former US Treasury secretary

In an incalculably high-stakes game of naval chicken, a US guided missile destroyer last month narrowly avoided a collision with an escort ship accompanying China’s aircraft carrier during routine deployments by both navies in the South China Sea. The Chinese ship cut across the bow of the USS Cowpens, missing a clash by a stone’s throw. The Cowpens had been helping with the Philippine typhoon relief effort, and was deployed to observe close to where the carrier was undergoing sea trials.

The Pentagon and US Vice-President Joe Biden, speaking during a trip to China, strongly objected to these “provocative” acts and called on Beijing to implement effective communication protocols and crisis prevention mechanisms to help prevent misunderstandings and potential escalation scenarios in the future. The Chinese response has been characteristically vague.

Such close calls between the two sides at sea or in the air are increasingly frequent as Chinese military forces deploy beyond national borders in greater numbers, rubbing up against US military patrols and deployments. Yet China is reluctant to enter into agreements defining the “rules of the road” for incidents of this kind. It has also demurred from establishing crisis communications protocols in the event of a misunderstanding between two ships’ captains. Why?

There are several possible reasons. Foremost is the matter of confidence. China recognises that US naval and air forces remain the gold standard in terms of military capabilities and operational experience. It wants to avoid exposing its own vulnerabilities – particularly in a potential crisis.

Then there is divergence over ultimate objectives. China views these mechanisms rather like providing seatbelts to a serial speeder. It wants the US to refrain from operations so close to its borders and draw down deployments – not to feel assured that things can be peacefully resolved after a mishap.

There are also different interpretations of sovereignty. China is concerned that even a narrow operational accord might undermine claims of legitimacy for its disputed “nine-dash line”, which encompasses most of the South China Sea.

Until recently, there was a subtle tension between the party and the military over rules of engagement for People’s Liberation Army assets. It appears, however, that there is greater co-ordination under Xi Jinping, his successor.

Global optics also come into play. The kind of operational protocols requested by the US were a feature of the cold war; Beijing, in public diplomacy, seeks to avoid triggering in America a sense that China is a global adversary in the way that the Soviet Union was.

Finally, China and the US have very different ways of seeking deterrence. America often employs overwhelming displays of military capability – shock and awe – to create apprehension in the minds of potential adversaries or competitors. For China, deterrence – or, perhaps better, doubt – is achieved not through overt displays of power, but through creating uncertainty in the perceptions of others. So, by this avenue of logic, the less operational intimacy and understanding with PLA forces, the greater the deterrent value.

The upshot is that the US and China have very distinct strategic cultures with different objectives when it comes to operational encounters, and finding an acceptable paradigm will be challenging. Yet find it they must: global stability depends on avoiding a collision.

The writer is chairman and chief executive of The Asia Group and on the board of the Center for a New American Security. From 2009-13 he served as the assistant US secretary of state for east Asian and Pacific affairs


The A-List

About this blog Blog guide
Welcome. This blog is available to subscribers only.

The A-List from the Financial Times provides timely, insightful comment on the topics that matter, from globally renowned leaders, policymakers and commentators.

Read the A-List author biographies

Subscribe to the RSS feed

To comment, please register for free with and read our policy on submitting comments.

All posts are published in UK time.

See the full list of FT blogs.

What we’re writing about

Afghanistan Asia maritime tensions carbon central banks China climate change Crimea emerging markets energy EU European Central Bank George Osborne global economy inflation Japan Pakistan quantitative easing Russia Rwanda security surveillance Syria technology terrorism UK Budget UK economy Ukraine unemployment US US Federal Reserve US jobs Vladimir Putin


Africa America Asia Britain Business China Davos Europe Finance Foreign Policy Global Economy Latin America Markets Middle East Syria World


« Dec Feb »January 2014