Stephen King: Can the world economy survive a US downturn? Yes, it already has.

Click to follow
The Independent Online

It may be a clumsy expression but "decoupling" has, nevertheless, become a key part of the economic lexicon. The reasons are obvious. We can feel the chill wind of economic weakness from the other side of the Atlantic. Simultaneously, we can sense the hot breeze coming from the emerging markets. These contradictions raise the question: can the global economy survive a major US slowdown?

In the recent past, the answer has been a definitive "no". In 2000, the year before the last recession, the global economy expanded at a rate of 4.2 per cent. Within the overall figure, output in the developed world rose 3.7 per cent, while output in the emerging world rose 6.6 per cent. In 2001, the year in which the world economy succumbed to the earlier stock market collapse, developed world output rose 1.2 per cent while emerging world output rose 3.2 per cent. So, although emerging world growth remained stronger than developed world growth, the loss of momentum was, in fact, greater in the emerging world.

The 2001 downswing was US-led. US consumer spending growth more or less halved that year, while capital spending collapsed. Some countries reacted very quickly to America's problems. Japan's nascent recovery disappeared in a puff of recessionary smoke. Turkey and Argentina suffered personal crises (arguably, these were connected more to the emerging market difficulties of the late-1990s).

The eurozone economies held up well for about six months (allowing eurozone policymakers to celebrate temporarily their good economic management) only to plunge into a major downswing in 2002 and 2003.

There were one or two exceptions. The UK performed remarkably well, supported by a fortuitous loosening of fiscal policy. China continued to boom, perhaps benefiting as companies the world over looked to cut costs through furious outsourcing. Nevertheless, despite China's strength, other Asian economies mostly surrendered to US economic weakness. Hong Kong, Malaysia, Singapore and Taiwan all found themselves nursing their economic wounds in 2001.

Past performance, then, is not encouraging for the decoupling thesis. Many argued in favour of decoupling in 2000. The stock market boom was made in America. The tech bubble was an American invention.

The US was more vulnerable than others because of its sizeable balance of payments deficit. All reasonable points, perhaps, but they all proved to be irrelevant. We now know that the rest of the world was simply not immune to a US economic downswing.

So why even bother to argue in favour of decoupling today? Although I'm always wary of arguing that "this time it's different", I'm actually a bit of a decoupling fan. The simplest argument in favour of decoupling is that it has already happened. The US economy will post growth this year of about 2.0 per cent. By US standards, this isn't much.

Back in the late-1990s, the US economy would typically expand by more than 4 per cent per year. Growth in the emerging world this year will, however, come in at around 7.3 per cent, a continuation of the heady rates of expansion seen in each of the previous three years. The US may have slipped up on a housing-related banana skin, but there is very little evidence of recessionary trouble in the emerging world.

Beyond this very simple observation, though, there are other important changes. Emerging markets now account for a bigger proportion of global economic activity. At HSBC, we calculate their share of global GDP to have risen from around 18 per cent in 1999 to about 22 per cent today. The emerging market share of global capital spending (including everything from machinery through to house building) has jumped from about 20 per cent in 1999 to well over 30 per cent today. We are witnessing an economic revolution.

These developments, in turn, are having a remarkable effect on global trading patterns. In the late-1990s, the top five contributors to Eurozone export growth were, in descending order, the US, the UK, Switzerland, Japan and Sweden. In the first seven months of 2007, the top five contributors were Russia, the UK, Poland, Opec and China. Indeed, over this latest period, Eurozone exports to the US have fallen (not surprisingly, given the strength of the Euro against the Dollar). In effect, the emerging markets have bailed out European exporters who, otherwise, would have been exposed to an increasingly chilly US environment.

None of this guarantees that decoupling is here to stay. Capital spending in emerging markets may be strong, but for what purpose? To satisfy the needs of emerging market consumers or, instead, to meet the import demands of US consumers? While more and more eurozone exports are heading to China and Opec, what happens if, for example, US demand slows a long way? Might Chinese demand for European semi-manufactures slow if Chinese companies are unable to export quite so much to the US? Might Opec's demand for a bit of European luxury fall away in the light of a slower US economy which, in turn, could lead to a plunge in oil prices?

All of these things are possible. The evidence, though, is pointing in the opposite direction. Even though the US economy has softened, oil prices continue to climb. There's no evidence, therefore, that a weaker US economy is hindering Opec spending power.

The US slowdown has already contributed to a narrowing US balance of payments deficit which, in effect, implies a reduction in US demand for goods and services produced elsewhere in the world. Despite this – and despite, also, a much weaker dollar – the rest of the world still seems to be performing rather well. In fact, the emerging world may be performing rather too well. Last week, China's statisticians revealed that China's economy expanded at an 11.5 per cent rate in the third quarter, only a minor slowdown relative to an ebullient 11.9 per cent outcome in the second quarter.

These impressive growth rates suggest that China's economy continues to overheat. China's economy isn't the only one. Other booming emerging market economies include Argentina (with GDP up an estimated 7.8 per cent this year), Brazil (5.1 per cent), Chile (5.8 per cent), Poland (6.6 per cent), Russia (7.5 per cent), Turkey (5.3 per cent), Ukraine (7.4 per cent), Egypt (6.8 per cent), the United Arab Emirates (6.4 per cent) and India (8.8 per cent).

That they're doing so well in the face of a wilting US economy is more impressive. On closer inspection, there is a connection. Because many of these countries tie their currencies to the dollar, US interest rate cuts prevent emerging market central banks from tightening monetary policy very much, even if their economies are overheating. In other words, a weaker US economy leaves monetary conditions too loose in the emerging world, pointing to heightened inflationary pressures.

Eventually, the emerging markets may re-couple with the US, but that's only likely to happen after the current inflationary bubble bursts. That could be years, rather than months, away.

Stephen King is managing director of economics at HSBC

stephenking@hsbc.com

Comments