Three months ago I blogged that the World Bank's growth projections for this year were too optimistic. Let's review my reasons:
- Credit markets have yet to really unfreeze, because the underlying problem -- putting a price on a lot of toxic debt -- has yet to take place;
- It's going to take some time for trust -- a vital public good -- to return to global capital markets;
- The crisis has done nothing to unwind the global macroeconomic imbalances that contributed to the asset bubble in the first place -- if anything, the crisis has temporarily reinforced it;
- There is a very dangerous prisoner's dilemma game brewing in the interplay of fiscal expansion and trade policy. Unless export engines like Germany start to signal that they'll prime their pump as well, you're going to start to see some nasty protectionist attachments to any new government spending;
- Fiscal expansions are going to take a long time to kick in, and the ones being proposed are not necessarily conducive to countercyclical boosts.
- Beyond the fiscal expansion, this crisis is going to result in a lot more state intervention in the economy. Given what's happened, it would be intellectually dishonest of me not to acknowledge that some of this intervention will be necessary. A lot of it, however, is going to be misguided and stunt long-term growth.
I would be very surprised if global growth was not negative in 2009.
With the very partial exception of no. 5, all of the other factors are still very, very present in the global economy.
And, alas, it now appears that the Bank has caught up with my doom and gloom.
Developing countries face a financing shortfall of $270-700 billion this year, as private sector creditors shun emerging markets, and only one quarter of the most vulnerable countries have the resources to prevent a rise in poverty, the World Bank said....
The global economy is likely to shrink this year for the first time since World War Two, with growth at least 5 percentage points below potential. World Bank forecasts show that global industrial production by the middle of 2009 could be as much as 15 percent lower than levels in 2008. World trade is on track in 2009 to record its largest decline in 80 years, with the sharpest losses in East Asia.
The financial crisis will have long-term implications for developing countries. Debt issuance by high-income countries is set to increase dramatically, crowding out many developing country borrowers, both private and public. Many institutions that have provided financial intermediation for developing country clients have virtually disappeared. Developing countries that can still access financial markets face higher borrowing costs, and lower capital flows, leading to weaker investment and slower growth in the future.
There's something else going on that should bother IR scholars. One of the benefits of having a hegemon is supposed to be greater provision of global public goods. According to hegemonic stability theory, if the United States is really still the hegemon, then it should be providing the following things:
- Provisions of liquidity
- Market for distressed goods
- Long-term cunter-cyclical lending
The U.S. did all of these things during the Asian financial crisis, for example.
This time around, the U.S. grade is not as high. There has certainly been provisions of liquidity -- though if one defines the start of this crisis as the fall o 2007, then it's not like LIBOR has fallen to pre-crisis levels.
The U.S. is not a market for distressed goods. On the margins this is due to incipient protectionism, but mostly this is due to the U.S. economic contraction. Indeed, this is why the recession has so deeply affected Pacific Rim exporters.
The worst grade, however, is on counter-cyclical lending. As the New York Times' Peter Goodman writes:
American investors are ditching foreign ventures and bringing their dollars home, entrusting them to the supposed bedrock safety of United States government bonds. And China continues to buy staggering quantities of American debt.
These actions are lifting the value of the dollar and providing the Obama administration with a crucial infusion of financing as it directs trillions of dollars toward rescuing banks and stimulating the economy, enabling the government to pay for these efforts without lifting interest rates.
And yet in a global economy crippled by a lack of confidence and capital, with lending and investment mechanisms dysfunctional from Milan to Manila, the tilt of money toward the United States appears to be exacerbating the crisis elsewhere.
The pursuit of capital suddenly seems like a zero sum game. A dollar invested by foreign central banks and investors in American government bonds is a dollar that is not available to Eastern European countries desperately seeking to refinance debt. It is a dollar that cannot reach Africa, where many countries are struggling with the loss of aid and foreign investment.
Developing.... in a very, very bad way.
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