Satyajit Das: The G20's Lords of Finance will magically conjure up growth. Really?

Das Capital: Crucially, the G20 failed to confront the fragility of many emerging markets

Satyajit Das
Friday 14 March 2014 01:00

Advanced economies committed to a co-ordinated push to boost growth by more than $2 trillion (£1.2 trillion) over the next five years at last month's G20 meeting in Sydney. This additional growth would be driven by "concrete" macroeconomic policies and structural reforms. But there were no specific initiatives, other than a call for additional investment, especially in infrastructure.

The only specific undertaking was that monetary policy would remain accommodative. But this too was dependent on the outlook for prices and growth of individual member nations, a concession to the US central bank's QE "taper" which has created volatility in financial markets.

The targeted additional 2 per cent of economic activity equates to around 0.4 per cent a year. In practice, this would mean real gross domestic product in the G20 would grow by about 3.8 per cent in both 2014 and 2015, above the 3.3 per cent achieved in the past two years. But this would still leave the GDP of the G20 around 8 per cent below its long-term trend, in effect failing to reverse the output losses following the global financial crisis.

In any case, given the poor forecasting record of authorities, the base rate of expansion is uncertain, meaning any additional growth target is meaningless. The IMF and central banks have repeatedly downgraded growth forecasts over recent years. They have discovered what Sebastian Faulks identified in his novel Engleby: "Time makes us pointless."

Apart from well-worn homilies to "fiscal sustainability" and other economic shibboleths, there was little detail on how high debt levels, weak public finances, global imbalances, deflationary pressures, exchange rate instability and other vulnerabilities would be managed. There were only vague reference to exiting from current policies and the normalisation of interest rates.

The commitment to infrastructure investment failed to address how over-indebted governments would finance expenditure in a deleveraging world.

There was no acknowledgement of deep structural issues such as ageing populations, climate change, social stresses and political instability, or their effect on the target.

Crucially, the G20 failed to confront one of the major threats to global recovery identified by the IMF: the fragility of many emerging markets. Emerging market instability has been driven, in part, by the decision of the US Federal Reserve to scale back its purchases of government bonds. Despite the fact that US monetary policy remains expansionary, the taper has resulted in a reversal of capital flows into emerging markets. This has revealed inherent weaknesses of many economies, such as current account deficits, large budget deficits, high debt levels, weak financial systems and a dependence on foreign capital flows. Rapid falls in emerging market currencies, asset prices and foreign exchange reserves have exacerbated the pressures.

In early 2014, the governor of India's central bank, Raghuram Rajan, warned of a breakdown in the global co-ordination of monetary policy. He was reacting to the effects of the adjustment of asset purchases by the US Federal Reserve on the value of the Indian rupee. Mr Rajan argued that the Fed could not ignore the impact of its policies on the rest of the world.

The new Fed chairwoman, Janet Yellen, rejected this accusation. She told US politicians in congressional testimony that the Fed's focus was on the domestic economy. After mouthing the usual platitudes about the need for a strong US economy which would be good for the world, she stated that volatility in emerging markets resulting from US policies was only relevant insofar as it might affect the US economy. It was reminiscent of the US ambassador to the UN Samantha Power's recent articulation of the country's attitude: "This country is the greatest country on earth. I would never apologise for America."

The US position was supported by the German Finance Minister, Wolfgang Schäuble, who blamed India's own internal policies for its economic woes rather than the monetary policies of developed nations.

The G20 meeting communiqué was, unsurprisingly, silent on this issue, reflecting the obvious disagreement of parties on better monetary and exchange rate policy co-ordination. Instead, the Lords of Finance agreed that they would wave their magic wands to magically conjure up growth and prosperity. If that is the case, then the interesting question is: why hadn't they done so until now?

The markets were understandably underwhelmed. Reuters spoke for many, concluding: "The Group of 20's proposal to lift economic activity by 2 per cent over the next five years has so many holes in it, there's no wonder it was the first official target that all members felt happy to agree on."

Satyajit Das is a former banker and author of 'Extreme Money' and 'Traders Guns & Money'

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