Global economy down, but far from out

Regional gridlock and wobbles in China prompt legitimate fears. But when the two biggest inputs for business—money and energy—are as cheap as they are today, growth should prevail
By Ian McGugan

Let’s acknowledge the obvious. With Canada at least technically in a recession, China slowing and Europe trapped in political gridlock, business leaders in this country have good reason to be worried about the outlook for the world economy over the year ahead. Even the normally restrained International Monetary Fund sees grounds for anxiety. It warned in early September that growth is falling short of already muted expectations and pleaded with nations to take a slow and cautious approach to raising interest rates. So pessimists, rejoice: You have lots of material to hyperventilate about.

With all due respect, however, the case for panic may be getting a bit more airtime than it warrants. In fact, let’s say that a bit more emphatically: despite the world economy’s obvious issues, there is a surprisingly high chance that global growth will deliver a positive surprise over the months ahead.

One reason for optimism is the plunge in oil prices over the past year. While Albertans may beg to differ, expensive petroleum has usually been a bad thing from the perspective of the world economy. Oil prices soared in 1990, 2000 and 2008. In each case, a deep downturn followed.

In contrast, low and stable oil prices went hand in hand with strong growth during much of the 1980s and 1990s. If energy prices remain at their current bargain basement levels—and that seems quite likely, barring an unexpected change of strategy on the part of Saudi Arabia—they will deliver a powerful stimulus to global commerce by reducing the cost of transportation and power.

Low interest rates are likely to amplify this beneficial effect. In fact, it’s difficult to think of a time when a combination of low rates and low oil prices didn’t result in solid growth. Money and energy are two major inputs for most any business and both are available in large quantities these days, at remarkably low cost.

To predict a severe slowdown despite cheap energy and inexpensive money, you have to assume that some shock is looming that will be so big, so severe, that it will sweep away the beneficial effects of these bargain inputs. But what could that disaster be?

One possibility would be an aggressive move by the U.S. Federal Reserve to boost interest rates from their current near-zero state. However, while a small hike or two are in the cards, a rapid, sustained crusade is unlikely, precisely because of the still fragile nature of the U.S. and world economies.

A more plausible horror scenario would be a hard landing in China. The country’s stock market slump, soaring debt levels and slowing economy have underscored fear that it could be on the verge of a disastrous downturn. After two decades of frenetic growth, wages have risen to the point where the Asian giant can no longer rely on cheap labour to provide it with a competitive advantage.

China’s growth strategy appears to be hitting its limits in other ways as well. The country has long put a lid on borrowing rates to encourage building of apartments, factories, roads and airports by companies and governments, but now much of the needed infrastructure has been completed, and the country is deriving lower and lower rates of return from every dollar of additional investment. It’s clear that if China is to continue growing, it can no longer depend on massive investment in physical facilities to fuel expansion. Consumer spending will have to lead the next stage of development.

But does all of this qualify as a global disaster in the making? It’s hard to see how.

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China is experiencing a transition that is to be expected. Any poor, labour-rich country that is playing catch up with more developed nations can expand rapidly by pouring capital into large infrastructure projects and moving workers out of agriculture and into more productive uses, such as export-oriented manufacturing. But once a country has made that shift, growth slows. That is what happened in South Korea, where GDP expanded at 7-8% a year in the 1980s and 1990s, but eased back to 3-5% after 2000. There’s no reason to expect China’s growth to follow a different course.

To be sure, a slowdown in China hits hard at commodity producers like Canada, Australia and Brazil, which have thrived in recent years by shipping oil, logs and metals to Asia. But the current Chinese downshift and resulting fall in commodity prices means that manufacturers and builders elsewhere in the world will now have to pay less for raw materials. That, in many ways, is actually a good thing.

“We think the picture is not so gloomy,” writes Andrew Kenningham of Capital Economics. “Emerging economies have certainly slowed but the major developed economies are, if anything, doing better than expected. And over time, lower commodity prices should be a net positive too.”

Whether the problems afflicting China today turn out to be transitory and mild (with growth holding in the 7-8% range for another five to 10 years) or deep and protracted (with growth slipping to no more than 3-4%), not even the skeptics are predicting any outright contraction.

At the same time, the United States appears to be emerging from its post-crisis funk, a euro zone recovery is continuing (although more slowly than hoped) and Japan is also soldiering ahead. Cheap oil, bargain commodities and low interest rates provide fertile ground for businesses that want to expand. Add it all up and the cloud of pessimism over the global economy doesn’t appear nearly as thick as the doomsayers like to think.

Ian McGugan is an award-winning business journalist in Toronto and the founding editor of MoneySense magazine. E-mail:

Photography: Kim Kyung Hoon/Reuters

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