FERRIER INTERNATIONAL thanks Cees Bruggemans, Chief Economist of FNB for this article which we share with you.
|4 Managing Crisis Detritus|
|By Cees Bruggemans, Chief Economist FNB|
|16 August 2010|
It is one thing surviving massive crises, another to clean up afterwards.
Even big intense crises are relatively short term affairs. It is the fallout and cleanup afterwards that seem to stretch into the distance forever before one can claim being back to pre-crisis ‘normality’ again.
The world is no longer caught in vicious downdrafts as encountered in the midst of crisis. Those searing hot panic moments were limited to September/October 2008 and (less intense and more narrowly in scope) April/May 2010.
American banks and European debt has since stabilized, with currency movements remaining ‘orderly’ (if oceanic). Contagion panic in the real economy took a little longer to end in 4Q2008 while it failed to ignite in 2Q2010.
So congratulations are in order. At least the world survived these two massive encounters with financial bankruptcy and lived to tell the tale.
But when we inspect the detritus left by both crises, it is another story altogether. Here we encounter a changed landscape, like an Atlantic beach the morning after a hurricane has passed through and the ocean has thoroughly reconfigured the beach, in places beyond recognition.
In the case of the Anglo-Saxon banking shock, the aftermath includes a real estate overhang (residential and commercial), changed credit standards AND appetites.
Households prefer to save more and pay off debt faster, reducing their debt burden relative to income as they deleverage, having less appetite to consume.
Businesses remain strongly profit focused, are less willing to incur debt, and are less inclined to believe high growth forecasts and more willing to constrain their cost bases.
This yields big productivity gains as existing labour forces are more effectively deployed, but it also limits the fuller re-absorption of unemployed and underemployed labour.
Anglo-Saxon governments, especially the US and UK, willingly supported their financial systems and economies by accepting wartime ‘emergency’ budget deficits. These efforts take time unwinding, while throughout pushing national debt levels towards 100% of GDP and even beyond.
Central banks, especially the Fed and BoE, lowered interest rates to near zero and hugely increased their balance sheets, buying illiquid instruments, restoring market functionality while boosting liquidity, but storing up a huge asset overhang that will need to be unwound sometime, presumably once things are back to being more normal.
The drastic crisis actions of governments means years of higher tax burdens for some countries, whether VAT (as in the UK) or income tax (as for higher US incomes after 2010). It also means constrained means to fund social delivery which becomes slimmed down compared to pre-crisis days, most drastically so far in the UK.
There is temporary loss of growth potential, as certain types of capital stock are no longer efficient or wanted, and this also being true of certain types of labour skill and experience, while the rate of capital formation (fixed investment) is for a while subdued.
The great background tragedy is of lives devastated, in millions of houses foreclosed, jobs and even pensions lost, financial nest eggs gone and people so affected having to rebuild their careers and lives with reduced means. Like after a real war (this one being more of the neutron variety in which physical damage remains limited but radiation does the real damage).
It makes for despair, uncertainty, caution, suspicion, fear. Especially as one can’t be sure yet whether there are any more crises lurking out there, with many commentators to the point of paranoia beating the drums.
Not everyone is of course equally affected. Indeed, a case can be made that each one of us comes uniquely to a crisis, is uniquely affected and respond uniquely.
And so in the midst of much lingering despair the first green shoots of recovery are encountered (remember that dialogue of the deaf a year ago?), and these eventually spread and gain in intensity, as the circle of life resumes its journey, not having been fatally broken.
In the case of Europe it may generally be more correct to speak of a near crisis than a fully fledged one.
Greeks, Portuguese, Spaniards and Irish may not quite agree, as they encountered the real McCoy of (near) bankruptcy and its fallout.
But Continental Europe in 2010 did not quite go through an Anglo-Saxon experience.
Certainly there was also recession in Europe in the aftermath of the Anglo-Saxon crisis, but the housing and financial devastation wasn’t on a par. And when the Eurozone sovereign debt crisis hit in 2010, there were sell offs in periphery bond markets, but stupendous gains in core safe havens, for a while neutralizing each other.
In the case of Europe, there were also banking losses (in 2008 and 2010).
For Europe the bigger adjustment by far was recession, increased budget deficits and national debts, and the need to unwind these by constraining the welfare state over many years to come.
This is a serious economic disturbance, most devastating in Club Med countries, but also in the richer ones as they need to adjust to changed circumstances.
So there’s loss of employment and welfare benefits over time and like in the Anglo-Saxon countries it is huge.
Also, the banking system has been weakened by large financial losses and will need nursing, rebuilding its capital buffers.
The general mood isn’t necessarily different from the Anglo-Saxon one, being shocked, anxious and defensive, inclined to reduce debt and incur less risk.
Crisis devastation and adjustment has not been limited to Anglo-Saxon and European parts. Other regions have not altogether escaped fallout either.
There have been exceptions escaping entirely any crisis or fallout, such as Aussie and Brazil.
But China for instance incurred a large fall in exports early last year (-35%), undertook major fiscal stimulus, and directed its state-controlled banks to become yet more accommodating (directed at infrastructure and residential property).
The Chinese economy apparently also experienced wrenching economic dislocation 18 months ago, mention being made of 20 million jobs being lost and people returning to their rural home towns.
It is difficult to establish how much of this has already been unwound, as the Chinese economy changed direction, favouring domestic consumption and investment, with growth surging anew this past year.
Financially, certain overseas Chinese bond holdings hugely increased in value (especially US Treasuries and German bunds favoured globally as safe havens) while other investments may have suffered. Currency fluctuation (Dollar, Euro) will have had an impact, too.
Still, it wasn’t all negative.
With the global crises behind us, and rescue policies starting to be unwound, China has also changed direction once again, directing its banks to become less generous (and changing interest rates and credit standards accordingly), forcing especially the speculatively frothy residential property market to cool down and the stock market to become more uncertain.
Variations on these themes played out across the world, including South Africa, where asset markets and economic performance may have suffered, unemployment and fiscal burdens increased and monetary policies became more accommodative in order to create incentive for recovery.
And so, if indeed the world was only devastated by two crises in short order, and there isn’t another one lurking in the wings (whether China-based or focused on central bank inflated balance sheets or any other unknown origin), the reality today and many years to come is one of repair mode if very unequally shared across the world.
The worst off are Anglo-Saxon and Club Med labour forces. Unemployment has hugely increased and will take up to a full decade being unwound.
Little fiscal support is likely to be forthcoming after this year as governments in these countries and in Europe generally reduce their budget deficits, in most cases by only 1% of GDP annually, but in the worst cases by 2% annually in order to regain fiscal stability post-2015.
Full responsibility to incentivise downtrodden economies will be very low interest rates, in extreme instances supported for a while longer by yet more bond buying.
Competitive currency devaluation will certainly be something few governments will be shy about, but as these things go the entire world can’t devalue. So some countries will succeed in devaluing, either because financial markets degrade them on account of economic underperformance or because policies are followed to encourage capital to flow out and weakens the currency.
Each country will have its own profile on this score and be affected accordingly, some encountering currency appreciation while others devalue, with this assisting in bringing about important economic adjustments.
But the thing to appreciate is that all of this is repair mode rather than crisis mode. And given the size of the many dislocations around the world, it will be a LONG repair job, in places easily taking up to a decade (if not longer, an unspoken thought in far too many minds).
Throughout all this the world remains in an awful hurry, as much the parts that came through this cleanly as the most devastated parts. For the future can’t wait.
And the overall global system ultimately didn’t not lose its bearings even if parts were thoroughly devastated.
Cees Bruggemans is Chief Economist of First National Bank. Register for his free e-mail articles on www.fnb.co.za/economics
FERRIER INTERNATIONAL sharing the news with you.