A New Stage of the Crisis?

Until quite recently, it seemed that the global economy was set for an extended period of stagnation, lacking an obvious engine of growth in the advanced economies as households deleveraged, as governments imposed harsh fiscal austerity programs, and as corporations failed to see any good reason to invest significantly in new capacity. Relative optimists could point to China, Brazil, India and other developing countries as potential sources of growth, while recognizing that their relative weight is not great enough to pull the global economic engine.

Now things are starting to look a whole lot worse.

The dismal state of confidence as expressed through financial markets is extraordinary. Long term government bond yields are at absolutely rock bottom levels in the “safe havens”, the  US, Germany, the UK, Canada and Japan, where there is no risk of default and there seem to be more than enough investors willing to trade negative real returns for safety. Meanwhile, stock markets are swooning which may not tell us a lot about the real economy but certainly tells us something about  the state of  the ‘animal spirits” needed to spark private investment.

The European story gets worse by the day. There is no way that Spain and Italy and possibly France let alone Greece and Portugal can avoid a public debt death spiral as their economies tank and interest rates soar, which threatens in turn the European and wider global banking system. Unless, that is, the ECB and/or Germany are prepared to back stop all Euro area public debt, recapitalise the European banks at risk,  AND seriously moderate the program of imposed fiscal austerity through a public investment program to spark some growth. Which is not about to happen, short of a seismic political shift in Germany.

Meanwhile, the most recent data show that the modest US recovery is very, very far from being a given, and that the big developing economies of China, India and Brazil are slowing by the day.

I suspect the only way out is for the G20 meeting later this month to agree a bold program comparable to the co-ordinated actions of 2008 which stopped the financial crisis from turning into a global depression – at least temporarily. The political winds have begun to shift in that direction to a modest degree – above all because of the victory of Hollande in France – but President Obama has no capacity to act at home, and it is far from clear to me that European social democrats are united on a concrete strategy.

Here’s hoping I’m wrong.