Turbulence ahead

It is a sad reflection on economics as a discipline that the way it is practised is far removed from the lives and livelihoods of people.

IS the global economic crisis that began in 2007-08 and was widely described as the worst economic disaster since the Great Depression of the 1930s a thing of the past? Or are there lingering, though perhaps hidden, factors that can flare up again? What, indeed, are the early signs of recovery? Will the global economy now return to the pre-crisis pattern of functioning? Should it? These are some of the questions that engage the attention of financial and banking experts, policymakers and academics throughout the world. Answers are not easy and there are bound to be differences in perception.

However, there are matters over which a degree of objective analysis is possible. One of them is an assessment of how different national economies have responded to the global crisis and what measure of success they can claim in dealing with it. The volume under review is such an attempt undertaken by the Asian Development Bank (ADB). It is confined to Asian countries partly because it is ADB's territory and also because of the bank's position that Asia has been resilient' during the crisis.

The volume consists of the deliberations of a high-level regional workshop organised by the ADB in January 2010. It was represented by 19 Asian countries, including large ones like China, India and Indonesia, small ones such as Bhutan and the Maldives, and the less familiar (at least for Indian readers) countries of Central Asia Azerbaijan, Georgia, the Kyrgyz Republic, Mongolia and others. Indian participants included a member of the Prime Minister's Economic Advisory Council, an Economic Adviser, an Additional Secretary to the government and top officials of some international banks. Participants from other countries were equally highly placed. The volume consists of the papers presented at the workshop and detailed summaries of discussions based on these papers.

The main transmission mechanisms' of the crisis from the place of its origin to the rest of the world, particularly Asia, consisted of the drop in equity markets dependent on international portfolio flows; the freezing up of credit after the failure of globally operating banks and financial institutions; the drop in exports as a result of the contraction of economic activity in the major developed economies; the adverse effect on remittances and tourism receipts; and the cutback in domestic investment and job losses. Of course, the main reason for the rapid spread of the crisis was the absence of a global financial architecture, which led to the integration of the financial markets globally when the going was good but without effective regulation or restraint, which were left to the national economies.

Banks are global in life, observed a helpless financial administrator when the downward slide gathered momentum, and national in death. Each country, therefore, had to work out its own procedure to contain the contagion and turn the tide. The outcome depended on how vulnerable the country was to external shocks and how resilient its internal structures were.

The lessons learned by the (Asian) financial crisis of 1997-98 gave the Asian countries a greater degree of preparedness to bounce back. Policymakers were better oriented to handle crisis management when the deluge came.

Consider the People's Republic of China. Because of its aggressive export-oriented growth it was one of the earliest to be hit and quite badly too. Exports plunged 52.6 per cent from the September 2008 high level the steepest decline among Asian exports. The Shanghai stock market index tumbled from over 6,000 in October 2007 to 1,700 in November 2008. But the Chinese economy saw a swift, decisive and aggressive policy response. This included a stimulus package to boost domestic demand unveiled as early as 2008 and amounting to 12-13 per cent of the gross domestic product (as against 2.5 per cent of the GDP package in the United States); slashing of the lending rate from 7.4 to 5.3 per cent in a span of less than four months; and the halting of the appreciation of the currency to ensure competitive advantage in the export market. The Chinese economy was soon getting back to its high growth path. Not that all problems have been solved; and new ones may arise. Inflation became a major issue soon and excess capacity in several manufacturing sectors, especially shipbuilding, will have to be dealt with in the not-too-distant future. More important, China will have to reconsider the feasibility and desirability of its basic strategy of export-led growth piling up paper wealth in other countries of the world. Should China be lending to the U.S. when it stands so much in need to build and strengthen its domestic economy?

Indian response

The manifestation of the crisis in India and the response to it were somewhat different. It was the financial market that was first affected. In terms of capital flows India's position was different from China's because of the predominance as high as 67 per cent of mobile capital' (portfolio investment) in the inflows. When the financial markets in the West started collapsing, there was a sudden flight of capital from the country to safer destinations, which got reflected in the stock markets. There was a fairly quick reversal also, not particularly because of any policy initiative but because investors in the West saw in the situation an opportunity to borrow at close to zero per cent interest at home, buy shares at low prices in the relatively stable Indian market and thus make profits. The volatility that the Indian stock markets experienced in 2008-09 was the result of such activity. India's exposure to the global economy in terms of exports and imports has not been as high or as crucial as China's and so it was not as badly hit by the fall in exports as China was.

There were domestic factors that contributed to India's resilience. Concentrating on increased domestic economic activity was one of them though it did not go as far as it could have gone. The National Rural Employment Guarantee Scheme, which was launched just prior to the crisis, certainly contributed to domestic spending. The waiver of rural debts, too, may have been helpful. The fact that 2009 was an election year must have had that kind of impact also. That probably explains why the formal stimulus package in the final quarter of 2008 and the first quarter of 2009 could be as low as $40 billion (compared with $790 billion in the U.S. and $600 billion in China during the same period). The fact that the nationalised banking sector in India was prevented from entering into speculative activities of the kind that had characterised the global banking and non-bank financial sectors in the earlier years of the decade, and the diligent role played by the Reserve Bank of India also won for India international acclaim in dealing with the crisis.

After some initial wobbles, Indonesia was able to bounce back fairly quickly from the crisis. Along with Thailand, Indonesia had learned a lesson or two from the financial crisis of 1997-98. In fact, Indonesia proved to be among the most resilient economies in Asia in terms of GDP growth during the crisis. As in the case of the other economies, the export sector was hit hard, leading also to deceleration in industrial production. But investment spending did not contract much. The Jakarta stock exchange stumbled in late 2008 but recovered almost completely within one year. A great achievement was that the depreciation of the rupiah was mild compared with the complete rout in 1997-98. The domestic banking sector, too, was robust because of the effective functioning of the regulatory regime that was put in place after the previous crisis.

A quick look at some of the smaller countries will give a better picture of the Asian scenario. The relatively insulated Nepalese economy was one of the least affected by the crisis. In contrast, the open economy of the Maldives was heavily disrupted. The GDP fell sharply to (-) 1.3 per cent in 2008-09 from 5.8 per cent in 2007-08. The tourism sector, which accounts for over one quarter of the country's GDP, was affected drastically by the global crisis which also meant an upsetting of the balance of payments. The historically unstable and volatile economy of Afghanistan was affected only moderately by the meltdown. The real problem there was soaring inflation because of the dependence on the international economy for food and fuel and the inadequate reserve of foreign exchange.

Central Asia

Countries of Central Asia had a different set of problems continuing from the break-up of the Soviet Union and the emergence of these countries as politically independent entities experimenting with market economics. Kazakhstan, which is financially the most integrated to the global economy, experienced two sets of external shocks. The first was a sudden stop in capital flows, which precipitated a capital account crisis that led to a sharp slowdown in growth in 2008. The second was the simultaneous fall in oil prices, which hit the country, an oil supplier, hard. The two shocks happened at a time when the banking sector was expanding on the basis of borrowings from abroad, and so resolving the banking crisis became the focus of policy measures.

Mongolia enjoyed a commodity boom in the early years of the decade following the run-up in the prices of copper and gold, its main exports. A sharp fall in the price of copper between mid-2008 and early 2009 brought this to a halt and disrupted the economy considerably. The response had to be a restraint in spending, which meant freezing wages and cutting capital expenditure. The country had to turn to the International Monetary Fund (IMF), the World Bank and the ADB for support.

Apart from the country studies, a notable part of the volume is the treatment of what may be expected for the days ahead. Even if the recovery has started, it is not going to be smooth sailing. There will be (will have to be) changes in the U.S. economy, which has been driving the global economy, for better or for worse, for the past many decades and sustaining high growth in other parts of the world, Asia in particular. The debt-GDP ratio in that country will have to come down. Households that have lost heavily in pension funds and so on will reduce consumption and save more.

The U.S. dollar, which has begun to lose its sheen and strength already, will fall further. Other currencies, especially the Chinese, will appreciate (the process has started). As per capita incomes, and hence wages in Asia and elsewhere, begin to rise, there will be a change in the direction of foreign direct investment (FDI) flows. There is likely to be a sharp increase in the price of oil in the decades ahead. The impact of climate change on the performance of economies will become more tangible. Thus, a far riskier world is emerging, where financial stresses and outright crises are likely to be more frequent. The Age of Turbulence' is coming!

For those who want to learn about the recent economic events in the countries of Asia, this volume is a rare source material. A major drawback in it is the relative neglect of the real economy and any systematic assessment of the impact of the global economic crisis on the lives of ordinary people, who became victims of the speculative games of a small minority most of whom have not been particularly affected by such games.

True, the global crisis started in the spheres of banking and finance. True, too, that the immediate response had to be in the monetary and fiscal spheres. But is that all? To give just one glaring omission, even when there is a well-documented account of the sharp and sudden fall in Chinese exports in value terms, hardly anything is said about the millions of workers who suffered most on account of it the loss of employment, the disruption in livelihoods, the treks back to the distant rural areas with virtually nothing to fall back on. This is not an omission, but an error, a failure to perceive that though the crisis started in the financial sector its grim impact has been on the real economy, and the real economy is real people.

Sure enough, there is a whole chapter (all of seven pages) on the social impact of the crisis and some discussion about the need for safety networks, some reference to jobless recovery and even an endorsement of inclusive growth. But as these are not derived from any analysis, they appear merely as politically appropriate noises. The blame is only partly that of the sponsors of the workshop or its scholarly participants. It is a sad reflection of the state of economics as a discipline: its desire to be quantitatively prolific and accurate; its facility to deal with commodities and their monetary values; its concentration on money and finance all removed from the lives and livelihoods of real human beings.