The worst is behind us
World Bank lead economist with the development prospects group Andrew Burns tells Business Spectator's Isabelle Oderberg that:
Isabelle Oderberg: I just wanted to start by asking about the gloomier world growth forecast. Could tell me where that deterioration in the forecast has come from?
Andrew Burns: Sure. Well, the main source of the revision in the forecast is actually what’s already happened. It’s a reflection of the history, the very negative first quarter growth numbers that we have received for many high income countries, Europe, the United States, even Australia if I recollect correctly, but Russia, Brazil, all these countries have had very strongly negative numbers and of course they have an impact on the whole year number and that’s the main reason that the forecast is revised downwards. If you’re looking at what we expect to come over the sort of third and fourth quarters, broadly speaking our view there hasn’t changed that much from what it was in late March.
IO: So, if this forecast is based on things that have already occurred, does that mean that unless there’s any major occurrences that we’re unlikely to see this level of deterioration in future outlooks or in the short term?
AB: So, basically what that means is that our view is that the worst of the economic crisis is behind us, that we’re currently in a period of stabilisation and mildly positive growth here in the second quarter or the end of the second quarter of 2009. I know in Australia you speak in terms of the winter quarter and the spring quarter, you have a different system, but meaning by that the period March through June. So, in that quarter we see growth basically stabilising and in third and fourth quarters of 2009, the second half of 2009, we expect growth to be picking up, coming in in positive terms certainly in the United States, possibly Europe, more likely there towards the end of the year, also in China and some of the other larger developing countries.
IO: Excluding China and India, and as you say some of the larger developing countries, things are actually looking pretty bleak in the developing world. How long do you expect that kind of pain to last for?
AB: I think it’s important to make a distinction between growth rates and levels of economic activity, so in terms of growth rates, we’re expecting growth rates to turn positive in developing countries again in 2010, so that will be a positive development, but in terms of the level of activity which is where you would’ve been if you were at full employment or if all the companies were operating at their maximum level, there the pain is going to be there for some time and that will be reflected in persistently high unemployment rates throughout the forecast period through 2009, 2010 and 2011.
IO: Geographically speaking where is the pain going to be most severe?
AB: Well, the pain is almost certainly most severe in Europe and Central Asia, the developing Europe and Central Asia, the countries of the former Soviet Union and that’s mainly because these countries were among those that benefited most from the strong capital inflows during the period 2003 to 2007 and as a result they have felt the pain most strongly as those capital flows have come to an abrupt stop in the end of last year. In those countries, we see growth coming in substantially negative terms this year and we’re covering only modestly in 2010 and 2011.
IO: Given the differing sorts of profiles of developing countries like China and India when put next to some of the other much smaller developing economies, do you think that they should have their own sort of economic category to avoid having them skew the category of developing economies?
AB: Well certainly when we look at these numbers and we aggregate them, we do run the numbers as it were with excluding China and India. So whereas growth for developing countries including China and India’s going to come in at 1.2 per cent this year, it’ll be minus 1.6 per cent for the rest of the developing world. So obviously these being large economies, especially China being one, that historically have very strong global growth, they can skew the number as you say, but the reality is that even if you look at some of the sub aggregate groupings, so if you look at the Sub Saharan Africa for example which is mainly comprised of very poor countries, there we expect growth to be about 1 per cent this year growing to and picking up to about 3.75 per cent in 2010 and 2011. So, that story that I’m telling of a very sharp slowdown this year and a slow recovery compared with other recoveries in 2010 and 2011 is something that’s broadly robust to the exclusion of China and India.
IO: There’s going to be a gap between the amount that developing country corporations have borrowed and what they can pay back in the order of some US$350 billion. Do you think that other countries in the IMF are going to be able to pick up the tab?
AB: What we do in the report is we make a calculation of the external financing needs of developing countries and that’s a combination of what we expect their current account deficit to be and another factor which is the amount of debt that’s coming due that will have to be repaid which is a mix of long term debt that comes due and short-term debt that is coming due. So, most of that short-term debt anyway is private companies’ debt coming due and that’s where we see this financing gap at about $360 billion.
Now, the issue is that is there another way that countries can make up that shortfall and there are alternatives. Obviously a company that was borrowing money externally might be able to return towards its domestic banking sector and be able to borrow domestically without incurring a foreign currency exchange or alternatively they may be able to cut back on their investment and so basically what we’re saying and what we’re expecting is that some combination of this is going to be operating in most developing countries, but there probably are going to be one or two where some of the more macro-economic implications of the shortfall are going to be felt and there the biggest risks and the biggest issues are in the Europe and Central Asia regions, again these former Soviet Union countries where a lot of this borrowing has been short-term in nature and a lot of it has been cross border.
IO: With the kind of deterioration in developing world economies that we're expecting, what are the ramifications for the rest of the global community?
AB: Well, the ramifications are obviously that to the extent that developing countries run into serious problems, they’re not going to be available as a source of growth and help be part of the solution as it were to the recovery of the global economy. In our forecast basically we expect recovery to be coming mainly from domestic sources of demand. We don’t expect investment to rebound the way that it has in the past and we don’t expect external trade to be as strong as it has in the past and that’s largely because so many countries are in recession currently; that there’s really no strong partner to whom you can export it, so probably if you or more than probably if you sort of take a look at the world economy, those countries that are in the best condition to sort of lead its way out of this global recession are developing countries. If they run into serious problems and that source of growth is not going to be there and we’re going to be in even longer and deeper growth recession.
IO: When you say that developing economies are best placed to help to drive us out of recession, is that because of consumption?
AB: It’s a function of two things. It’s a function of consumption as being an important component of that. It’s also a function of the fact that these economies on average are less reliant on the international finance system than say the United States or Europe, so they have less internal restructuring to have to achieve in order to get over this crisis that we’re in currently and so therefore their consumption is going to be an important component in the overall recovery.
IO: There were some comments made by World Bank chief economist Justin Lin saying that we need a restructure of the banking system and minutes to the expansionary policies of wealthier nations and that goes to how the World Bank is actually proposing that we execute strategy to combat the economic impact on developing countries. Could extrapolate a bit for me and explain exactly what the World Bank wants to see in terms of restructure of the banking system and limits to expansionary policies of wealthy countries?
AB: Well, I think that the issue that Justin is trying to highlight there is the fact that to a large extent the crisis that we are currently in the midst of is one of an overexpansion, an over liquid situation that we observed in 2003 through 2007 and that was largely something that occurred in high income countries and I think there’s a broad consensus now that there was a failure of the regulatory authorities to recognise that this was an overinflation and as a result the failure to step in and help to control it. What he and many others are arguing needs to be done now is for the regulatory regime to catch up to some of the changes that there have been in the global financial architecture. So, what might these be? Well, I think some of the ideas and the issues that have been proposed by the Obama regime most recently, but also in the European Union to increase the breadth of regulatory agencies’ powers to include many non-bank financial corporations as part of it. It’s also the idea to bring a little more supervision, a little more higher capital requirements to some of these hedge funds and those that so far have really escaped the closer supervision that has helped the Australian banking system or the Canadian banking system escape some of the worst repercussions of this crisis.
In the United States for example there are sort of traditional or classic banks, so like the Bank of America, and they are under one regulatory regime which is relatively strict. It has requirements about reporting, clarity in terms of the transactions, indicating whom you’re dealing with, what your assets are and what developed over the last several years was a what some people call a 'parallel banking system' where some of these banks, but also some of the investment banks, the JPMorgans, the Lehman Brothers, the Bear Stearns in the world, who are not subject to that regulation, were also starting to be involved in those banking activities, but outside of that regulated banking sector. So, the idea here is to extend the umbrella, to extend the requirements to these other actors, so that they too are forced to have the relatively strong capital requirements that the traditional banks have had to maintain, but also that their off book activities be brought into the regulatory framework.
IO: And the point of that regulation would be to increase stability?
AB: Absolutely to increase stability. The idea here is that the expansion that occurred off book or outside of the sphere of the regulatory regime was at the root of the overextension of credit during the period 2003 to 2007 and that’s the source of all of the bad loans that have now come crashing around our feet.
IO: There have been a lot of meetings lately of regulatory organisations. Do you think that they’re moving fast enough in regulating to increase stability and then increase capital investment?
AB: I think that at this stage where we’re in a period that for cyclical reasons that’s the credit markets are contractionary, they’re not expanding, I don’t think there’s the same sort of urgency to re-regulate rapidly that there might be if we were in 2004, 2005 when this credit expansion was occurring, so given we’re at this period where just by the fact of the recession credit expansion is very slow, it probably makes more sense to take our time and to get the regulations in place that are going to serve us best over the longer term, so I don’t think there’s urgency to move very quickly. There’s certainly urgency to get the right regulations in place that will last us for the long term.
IO: What is meant by slowing the 'expansionary policies' of wealthy countries? Justin said: "The need to restructure the banking system combined with emerging limits to expansionary policies in high income countries will provide a global rebound from gaining traction”.
AB: Right. So, what he’s getting at there I think are two issues. There’s one is that as you place a more firm grip, a stringent regulatory environment for the global economy, that means that we’re unlikely to see a very rapid increase in credit during the recovery period and that means that the recovery is going to be relatively slow. The second element of it is, considering the fiscal policy, is that whereas that fiscal and monetary expansion that is in place now is part and parcel of why we expect a recovery to begin, there are limits to how much more that can be done. In the United States for example we estimate that the fiscal stimulus is about 3 per cent of GDP in 2009. Well, even if the US has fiscal stimulus of 3 per cent in 2010, that won’t actually add additionally to growth in 2010. That will just help to maintain growth at that particular elevated level. So, the fact that you just can’t keep adding on without limit to the stimulus that we already have in place means that we are going to be reliant in 2010 more on these domestic factors, consumption, some recovery investment and a reduction in the very strong negative slides that we’ve seen in some sectors.
I think one of the main issues here is that for developing countries going forward is going to be how to find the sources of growth and those sources of growth are going to have to come more so than in the past from their own resources and their own domestic demand. In some sense that’s a good story because most developing countries are in much better condition than they have been in the past and so they will be in a position to provide that stimulus domestically, but it is also true that we won’t see the very sharp rebounds that we have in the past because there really are no healthy external partners that would allow an individual country to grow its way out through exports per se.
IO: Thank you so much for your time. I really appreciate it.
AB: My pleasure.
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