keynote address: navigating the ups and downs of the global economy

9/11/2014 September 2014, p.1Supply Chain Insights Global Summit #ImagineSC

Navigating the Ups and Downs of the Global Economy

Laura D. TysonHaas School of Business, UC Berkeley


Keynote Speaker

Dr. Laura D’Andrea TysonUC Berkeley Haas School of Business

Professor and Director, Institute for Business and Social Impact


Is Globalization in Retreat? The Facts

• Despite significant contraction in 2007-2009, cross-border flows have continued to increase: combined value of cross-border financial flows and trade in goods and services 36% of global GDP in 2012—1.5 times 1980 level.– Cross-border flows of goods growing at 11% past decade and surpassed 2007

peak in 2012: 35% of all goods cross national borders.– Cross border flows of services growing at 10% past decade and surpassed 2007

peak in 2012; services account for 2/3s of global GDP but only 25% of all services cross national borders.

– Cross border financial flows 50% below 2007 peak but still account for more than one-third of global financing.

– Cross-border flows of data and communications growing at 50% a year since 2005.• Internet facilitation of trade in goods and services: E-Bay and Alibaba


Is Globalization in Retreat? The Concerns

• Decline in cross-border capital flows (net FDI flows down 41% since 2007 peak) and uncoordinated financial market reforms.

• National controls on Internet to stifle dissent, protect privacy, and thwart cyber attacks.

• Failure of Doha Round; rise of regional trading blocs and restrictive measures (WTO).

• Rise of nationalism and armed conflicts.• Retreat of US from global engagement: the architect of globalization no

longer willing to serve as its guarantor and the absence of a committed hegemon (?)– GEOPOLITICAL RISKS ARE ON THE RISE AND ARE UNDERPRICED RISK

ASSESSMENT, RESILENCE AND INSURANCE IN SUPPLY CHAINS


Uncertainties and Hubris in Forecasting

• Big turning points missed: fall of Berlin Wall and end of Soviet empire; China’s rise post Tiannamen; East Asia financial crisis; 2008 financial crisis and Great Recession; Arab Spring; rise of ISIS.

• In 2007 no one forecasting lost decade in Europe, large sustained decline in potential growth rate in US.

• According to Good Judgment Research Project, there are “superforecasters”—and people can learn to be better forecasters. Economists more able to forecast direction of change than timing or magnitude of change.

– Recent Shiller warning: stocks are “very expensive,” but market could stay at current evaluations for years.


Key Economic Trends Shaping Global Economy

• Continued shift of economic power to Asia Pacific, with China at center– Slower growth and rebalancing in China– Faster growth in US– Stagnation in Japan and Europe—risk of deflation and euro breakup

• Divergent trends in monetary policy: US vs. EU and Japan– Greater interest rate risk, exchange rate risk – Greater volatility in global financial markets

• Energy and Commodity Prices– North America energy independence—game-changer for global energy– State capitalism and energy markets


Interest Rates

• Short-term rates reflect decisions of Federal Reserve: transparent signals of future actions.

• Factors that affect medium and long-term interest rates– Short-term interest rates and Fed policy; expectations of future growth

and inflation; risk appetite (post 2010 long-term interest rate surprise).– Foreign ownership (central banks) of US government debt—the

demand for liquid, “risk-free” assets and FX reserves as insurance

• Falling real interest rates in US and Europe for last 20 years; global real interest rates falling for last 30 years (IMF). WHY?

• Difficulties of predicting medium and long-term interest rates: cautionary tales: 1994; 2004-2007; 2010-today.


Factors Affecting Global Energy Prices

• Oil prices set in world markets; oil-independent US and North America effect on oil price through additional supplies.

• China’s demand for oil is a major driver of world oil prices.• Natural gas—not easily transportable; increase in US natural gas

(fracking) helps offset higher oil prices, reduces carbon growth and boosts energy-intensive industries in US. A boon for US growth and a change in global energy flows.

• Russia-China Oil deal ($400 billion/30 years); the biggest single trade deal ever– Russia pivot to Asia? Japan, North Korea?

• Geopolitical sanctions and energy prices: Iran, Russia, Other?• Climate Change and Global Carbon Tax?


Sources of Global Growth

• “Uneven global recovery continues.” IMF July forecast for global growth: 3.4% 2014, 4.0% 2015.

• EMEs continue to grow faster than developed countries: two-tier (three-tier) growth pattern continues.

• IMF July forecast: 2.4% developed economies vs. 5.2% EMEs in 2015.– Over last 20 years—mid 1990s to present-- EMEs led by China,

have been the main engine of global expansion.

• China accounts for about 40% of 2014 global growth—Asia accounts for about 60% and US about 18%.


Rise of EMEs and Effects on Global Economy

• EMEs account for 38% of global flows, triple share in 1990, and 40% of global output (80% of global population)

• EME effects on global demand (producers and consumers); on costs (labor arbitrage and commodity prices); on relative prices (manufactured goods and commodities and services); on interest rates (savings glut); on wages and profits ( labor arbitrage and labor and profit shares in developed countries) and on inequality (global vs. national)

• EMEs and new competitors (state capitalism)


The Costs of the Great Recession in the US

• 2007-2009 recession was longest and deepest recession since Great Depression: recovery growth rate at about 2%--less than half the historical average of post-war recoveries.

• Throughout recovery, actual output below potential output (7% Wilcox; 4% CBO estimate for 2014) and potential output is growing more slowly. CBO estimate of potential growth rate about 2.1% compared to about 2.6% in 2007 (20% reduction).– Cumulative output losses relative to 1995-2007 trend amount to about

$13 trillion or 78% of one year’s GDP for US. – Hysteresis: investment, risk-taking, labor skills and experience:

prolonged recession has permanent effects on growth.


Short-term Outlook for US Economy: Uptick in 2015-2016?

• CBO and consensus forecasts predict US growth pickup in 2015 (3.0-3.5%)– Strong corporate balance sheets and improving household balance

sheets (debt service and net worth)– End to fiscal retrenchment/contraction; headwind dissipating– Improving housing market (home prices, affordability index, home

inventories, demographics); headwind dissipating– Stronger labor market and consumer demand; headwind dissipating– Non-residential Capex? Downward trend as share of GDP last 30

years—but possible uptick from stronger consumer demand and game-changing investments in energy, big data, internet of things.


US Outlook and Labor Market

• Unemployment rate decline to 6.1% and creation of 10 million private sector jobs since recovery began.

• Private sector employment has recovered pre-recession peak but job growth insufficient to absorb new entrants to labor force: jobs gap of 5.6 million of which 4.0 million are private sector jobs.

• Other signs of persistent labor market weaknesses– Share of long-term unemployed remains elevated (halfway back to pre-

recession level); low labor-force participation rate (63%); low employment/population ratio (59%); high share of part-time workers who would prefer full-time employment.

– Anemic wage growth: average hourly wage growth at 2% in nominal terms during recovery means stagnant real wages for most workers.


Labor Incomes in US

• Wages have stagnated relative to productivity; real hourly compensation should track labor productivity. That was case from 1947 through 1980. Thereafter, real compensation growth (1%) at 50% growth of labor productivity (2%). – Globalization, labor arbitrage and labor-saving technological progress

• The distribution of wages has become more unequal. Median real wage grew by only 5% 1979-2012 while wages at top 95 th percentile grew by 39%. Growth of 154% for top 1% of wage earners. Bottom 20th percentile stagnant wages and bottom 10th percentile falling wages. – Polarization and skill-biased technological change and labor arbitrage (factor

price equalization)


The Debate about Long-term Growth Rate in US

• CBO projects US growth at 2.2%--potential growth rate between 2014-2024; slower than in both1980s and 1990s as result of retirement, slower productivity growth, and fiscal drag. – New Gordon paper: 1.6% growth over next decade. CBO too optimistic.

• Gordon: 1891- 2007 growth in US per capita income at average 2.0%. Next 25 years growth will be less than half as much because of demographics and slower productivity growth.

• Secular stagnation and savings glut (?)• Cautionary tale from 1993-1996 CEA/NEC experience with

standard macro models—too pessimistic; from 2008-2010 CEA experience—too optimistic.


Technology Optimists and Pessimists

• IR2: electricity, running wage, communications and 80 years of rapid productivity growth

• IR3: ICT revolution with productivity growth effects smaller (productivity effects apparent in 1996-2004); and diminishing returns have set in.

• IR4: internet of everything and social networking: productivity effects too early to assess. Are these productivity game changers?

– Effects on quality and consumer gains are difficult to measure

• Evidence that post 1972 pace of technological change peaked in 1996-2000 and has been slowing since then

• Gordon: productivity growth about 0.6% during recovery, 1.2% during last decade, compared to 2.3% 1947-2007; evidence of slowdown predates great recession.

– Big question: Will productivity growth rebound?


Policies to Boost Potential Growth Rate in US

• Investments in STEM, R&D, infrastructure • Immigration policy• Tax reform and Capex incentives• Transatlantic and Transpacific trade agreements


US Fiscal Outlook

• 5th year of decline in fiscal deficit/GDP ratio: current at 2.9% compared to 40 year average of 3.1%. With current policies, 2024 estimate is 3.6% of GDP

• Debt/GDP ratio stabilized at 74%, up to 77% by 2024.• With current policies, by 2023, federal government spending rises to about

22% of GDP, about Reagan level and about 40 year average; and federal government revenues remain about stable 18% of GDP about 40 year average. (Taxes as share of GDP in US are lowest among developed countries).– Social security, health and net interest account for 85% of increases in spending over

next 10 years. Discretionary federal spending as share of GDP headed to 5.2%, a forty year low.

– US FISCAL PROBLEM IS A REVENUE PROBLEM AND A HEALTH CARE COST PROBLEM.


China Economic Outlook

• China growth at 7.0-7.5%: policy-engineered slowdown from unsustainable 10%; future targets in 6.5-7.0% range

• Consolidated central leadership committed to market reforms• Rebalancing growth away from investment and exports to

consumption and domestic demand (service sector as key driver of domestic growth—reversing 30 year trend)

• Gradual opening of capital account and movement toward exchange rate convertibility: continued appreciation in real value of RMB—is RMB still undervalued?

• China has strong policy execution record and strong leadership


China Risks

• Job market remains strong—upward pressure on wages—reduction in labor market arbitrage opportunities

• Protectionism in China: anti-monopoly law and anti-corruption regime and vulnerability of foreign companies operating in China– Market access barriers and preferences for SOEs in key sectors

• Housing and credit bubbles: government has means and will to prevent debilitating financial crisis from overleveraged state/local governments. Slow steady cleanup of excess leverage and bubbles.

• Rise of nationalism—instability from territorial disputes in South China Sea

• “Airpocalypse” and energy efficiency/alternative energy


Europe Economic Outlook

• A lost decade: 6 years after crisis, Europe GDP 1.7% below pre-crisis level and 10%-15% below potential.

• UK, Germany, France, and Netherlands have recovered to pre-recession levels but Italy, Spain and periphery economies have not.

– Italy triple-dip or continuous recession: real GDP in Italy at 2000 level– France—stagnation– Germany on brink of recession—no gains in industrial production for last 3 years

• A lost decade for the young: 25% of young Europeans are out of work.• EU doing worse in terms of recovery than Japan in aftermath of 1989

financial crisis and than Europe in aftermath of Great Depression. • Russia/Ukraine as negative shock to European growth outlook


Europe and the Risk of Deflation

• Inflation at 0.4%--far below ECB target of 2.0%. • Dangers of deflationary spiral: deflation increases the real burden of debt

and the cost of servicing it. Falling asset values increase the risks of bankruptcy for debtors who cannot pay loans on devalued assets. This means greater pressure on Europe’s troubled banks.

• Policy errors are reason for failed recovery in Europe– At German insistence, restrictive MP and FP have crushed aggregate demand and

made structural reforms more difficult.– Europe’s Growth and Stability Pact targets too tight and transition period too short.

• Draghi Jackson Hole speech: acknowledged policy errors, called for less contractionary FP easier MP: ECB just cut 10BP off interest rate and will begin QE in September. TOO LITTLE TOO LATE?


Emerging Markets Economic Outlook

• Continued growth from industrialization, urbanization and shift into higher productivity sectors.

• Spillovers from China slowdown and Europe recession/stagnation• Higher costs of borrowing and heightened risk of capital outflows as

result of expectations of Fed tapering and heightened risk aversion among global investors

• Greater investor differentiation among individual EMEs– Countries with large current account and fiscal deficits like Brazil, Turkey, India.– Countries confronting geopolitical instabilities like Russia and Turkey

• Failed states: 20% of global population in fragile conflict countries and half of them are middle income states. Syria example.


Japan Economic Outlook

• Three arrows of Abenomics– Easy MP—“super” QE—BOJ buying about 70% of new Japanese government

bonds– Fiscal stimulus—public sector debt headed to 250% of GDP– Structural reforms—bold proposals but little action

• 30%-40% devaluation of yen vs major currencies—dollar and RMB. • Long-term challenges to growth: demographics: savings glut—

Japan a secular exporter of capital; government debt and taxes. • Japan’s place in a China-centric Asia

– Heightened risk of Japan-China confrontation