Investment Office Logo
Cotton Candy Economics: Where do we go from here?

 Back

And Where Do We Go From Here?

The global recovery continues to chug along in a delicate counterbalancing act between hope and despair, brought about by the burden of debt that shows no end in sight. In all instances the pattern is similar: a crisis of credibility at the very center that reinforces itself with the passage of time as the recovery continues to be stuck in the so-called “new normal”.

A recovery is certainly taking place, but it is happening at a snail pace, producing a new set of challenges. Until very recently it was hoped that emerging markets, namely China, with their healthier underpinnings and increasingly consumer-oriented economies would help drag the “problematic” developed market out of their debt-burdened slump. This is what happened for the couple of years that ensued the debt driven crisis of 2007. Alas, time caught up, reminding us that the laws of gravity apply to all 3.

China, the second largest economy in the world, is now locked on a decelerating trajectory, the combined effect of a maturing economy as it transitions from an investment led model to one driven by consumption, a rapidly ageing population and weak consumption demand coming from Europe and, to a lesser extent, the U.S.

A slowing China is also bad news for commodity exporting nations that include such biggies as Brazil and Russia. Less demand for primary goods is putting a damper on the growth prospects of those commodity rich countries and markets are taking note of this. Unlike previous cycles, however, the impact of a developed market crisis on emerging economies has been substantially muted.

For one, developed market countries have failed to recover significantly enough to prompt investors to repatriate capital. But even if yields were to suddenly surge in Europe and the U.S., emerging markets are in much better shape and well equipped to weather the shock 4.

Another interesting “side effect” of the slowdown has been that it is exposing corruption and social inequalities that a decade of rapid growth has brought. The timing of the riots in Brazil and dissent in Turkey are clearly not random occurrences. The same can be said about the protests in Greece, Portugal and Spain that are reeling from further rounds of painful austerity measures.

It was argued that the “Arab spring” riots that started it all had very little to do with the pursuit for democracy and instead was very much a direct consequence of the sharp rise in food prices. As the world economy settles to a lower speed of recovery (IMF estimates for 2013 suggest 3% for the world and 5% for emerging markets) tensions are bound to continue simmering across the globe.

In this somewhat bleak picture of the world, there are two brighter spots that are worth mentioning. The U.S. economy is showing signs of improving on several fronts. Unemployment is dipping, consumption is rising, the housing market is recovering and banks are lending. We have seen improvements in these areas before, but there seems to be greater consistency this time around. Still, the recent bankruptcy of the state of Detroit reminds us that the economy is not out of the woods yet. The slowdown in the rest of the world will not help either.

The other “bright spot” is Japan. The recent elections have paved the way for single party rule, which means that it should be easier for the government to pass many of the urgent economic reforms without much impediment. The big question mark now is whether they will actually do it or squander it. The markets are optimistic.

In light of all the uncertainty there is one element that seems to be gaining traction: The “new normal” that in 2008 was confined almost exclusively to the troubled economies of developed markets is spreading across a growing number of countries. The pension crisis in Detroit might just be the start of a new upheaval. With benefit contributions that for years were based on discounting and growth rates totally disconnected from reality, the sheer size of the underfunding is only now become painfully clear.


3 IMF GDP growth forecasts for emerging markets for 2013 are as follows: China 7.5%, India 5%, Russia and Brazil 2.5%. In most cases, this is less than half of the figures that were achieved at their peaks.

4 Through flexible exchange rates, large foreign reserves, significantly less debt and increasingly consumption led economies, a large number of emerging market countries are in much better shape economically speaking than at any other time in the past.