October 10, 2007
Big challenges lie ahead for the emerging economies
Never before have emerging economies been in such a good position to sustain demand during a global downturn. Never before, too, has this been more important for the whole world. But the fact that a line of action is feasible and desirable does not mean it will happen. Optimists believe the emerging economies have decoupled at last. But such optimism may yet prove unhinged.
The cheerful view rests on two propositions: first, the slowdown in US demand will be quite mild; and, second, emerging market economies – and particularly the largest among them – are strong enough to respond effectively. As a result, the world is going to see a passing of the demand baton from the US and, so, benign adjustment of “global imbalances”.
On the prospects for the US, the September issue of Consensus Economics was optimistic: 2 per cent growth this year, followed by a recovery to 2.4 per cent in 2008. Goldman Sachs forecasts 1.8 per cent growth next year. But this pessimism is not universal: JPMorgan forecasts 2.6 per cent in 2008. The big point is that prospects have become uncertain: the impact of the credit freeze may be mild, but may also be severe. US policymakers do, however, have room for manoeuvre: lower interest rates and even a fiscal boost would follow economic weakness.
The remainder of the column can be read here. Comment from our expert panellists appears below
Anne Krueger: It is certainly true that a slowdown in any one large country, or a combination of large countries, will result in reduced demand for exports from the rest of the world. The question is how big the impact would be. In the first instance, there is more likely to be a slowdown in growth in the industrial countries than a recession, so one can question how much of a reduction in demand for emerging markets’ exports there would be.
But even if there were a reduction, the impact per percentage drop in industrial countries’ GDPs would likely be significantly less than in the past. Formerly, emerging markets have been hit hard by downturns or recessions in the industrial countries. This happened for a number of reasons: the demand for their exports fell, and with it, their foreign exchange to finance imports; prices of commodity exports fell; and because they were heavily indebted and held low reserves there was little choice but to run procyclical fiscal policies which aggravated their situations still further.
While a slowdown in the US would no doubt affect the demand for the exports of the emerging markets, it can be questioned how large that effect would be in current circumstances. The big increase in demand for commodities has not come from the US or other industrial countries, so if China and India continued their growth, there is less reason for commodity export prices to fall, or, if they did fall, the extent of the fall would be less. But even more important, countries with large foreign exchange reserves would not find themselves trying to reduce imports because of debt-servicing or other balance-of-payments needs, and most of them are in a good position to run countercyclical fiscal policies. Thus, they could offset a sizeable portion of any downward shift in demand for their exports by increases in domestic demand. As they did so, they would also be sustaining demand for the exports of other emerging markets.
So, while Martin Wolf is certainly correct as to the direction of impact of any slowdown in growth in the industrial countries, in my judgment the likely magnitude of that impact is overstated.
Posted by: Anne Krueger | October 11th, 2007 at 9:12 am | Report this commentI do hope Anne’s optimism on the global balance of payments adjustment turns out to be correct. I fear that it will turn out to be a somewhat bigger challenge than she expects, largely because of the explosive rise of the Chinese current account surplus and the resistance of the Europeans and Japanese to policies that would promote a large increase in domestic absorption. But Anne is clearly right: as I also argued, the emerging economies are in a far better position to respond to a US slowdown now than they have ever been before. The question is: will they do so?
Posted by: Martin Wolf | October 11th, 2007 at 3:12 pm | Report this comment