By: Satyajit Das
Driven by massive monetary stimulus, the performance of financial markets, especially stocks, has decoupled from a moribund real economy. Financers assume the rise in equity markets anticipates an economic recovery. But there are reasons why the world may be entering a period of low or no growth. Growth is a relatively recent phenomenon.
In a provocative 2012 National Bureau of Economic Research paper, economist Robert Gordon found that prior to 1750, there was little or no economic growth. It took around 500 years from 1300 to 1800 for the standard of living to double. Between 1800 and 1900, it doubled again.
The 20th century saw rapid improvements in living standards, which increased by five or six times. Living standards doubled between 1929 and 1957, and again between 1957 and 1988.
Between 1500 and 1820, economic production increased by less than 2% per century. Between 1820 and 1900, economic production roughly doubled. Between 1901 and 2000, economic production increased by a factor of something like four times.
Gordon questions whether growth is a continuous process that can persist forever. He argues that growth and improvements in living standards will slow significantly. He speculates that future growth rates may be 0.2%, well below even the modest 1.8% between 1987 and 2007.
Low or no growth is not necessarily a problem. It may have positive effects, for example, on the environment or conservation of scarce resources. But the current economic, political and social system is predicated on endless economic expansion and improvements in living standards.
Over the last 30 years, a significant proportion of economic growth and the wealth created relied on borrowed money and speculation. Since 2001, borrowing against the rising value of houses contributed to around half the recorded economic growth in the US. Global trade is built on a financial model.
Sellers of goods and services, such as China, Japan and Germany, indirectly finance purchases by lending foreign exchange reserves to countries like the US and the now deeply troubled economies of southern Europe.
An Engine Called Debt
Debt-driven consumption became the tool of generating growth. But this requires ever increasing levels of debt. By 2008, $4-5 of debt was required to create $1 of growth. China now needs $6-8 of credit to generate $1 of growth, rising from $1-2 of credit for every $1 of growth a decade ago.
The ability to maintain high rates of growth through additional debt is now questionable. The need for governments and the private sector to cut debt simultaneously reduces demand and locks the world into a negative spiral of ever lower growth.
Growth was also based on policies that led to the unsustainable degradation of the environment. It was based upon the profligate use of mispriced non-renewable natural resources, such as oil and water.
There are similarities between the problems of the financial system, environmental damage and shortages of resources like oil, food and water. In each area, society borrowed from and pushed problems into the future. Short-term profits were pursued at the expense of risks that were not evident immediately.
Another common theme in the crises in finance, environment and management of scarce resources is mispricing. In the period leading to the financial crisis, risk was underpriced. The true cost of polluting the environment or consuming certain resources has also been underpriced.
In all cases, there was significant privatisation of gains while losses were socialised. Financers entered into increasingly destructive transactions, extracting large fees, leaving taxpayers to cover the cost of economic damage.
Consuming the Principal
In the early 20th century, German economist E F Schumacher observed that human beings had begun living off capital, “Mankind has existed for many thousands of years and has always lived off income. Only in the last hundred years has man forcibly broken into nature’s larder and is now emptying it out at breathtaking speed which increases from year to year.” That comment is now just as true for the economic and financial system as it is for the environment.
The current crisis calls into question the ability of governments to maintain control of the economy of Lenin’s commanding heights — the most important and strategic elements of the economy.
Growth No Rope Trick
Government intervention can cushion some of the costs of the crisis but cannot solve the fundamental problems. It is not self-evident that growth can be conjured up on policy diktat.
If government deficit spending, low interest rates and policies to supply unlimited amounts of cash to the financial system were universal economic cures, then Japan’s economic problems would have been solved many years ago. The lack of easy policy options means that the world faces an unknown period of low, below trend growth.
Arthur Miller wrote, “An era can be said to end when its basic illusions are exhausted.” The central illusion of the age of capital — unbounded economic growth — may be ending.
The writer is a former banker
Driven by massive monetary stimulus, the performance of financial markets, especially stocks, has decoupled from a moribund real economy. Financers assume the rise in equity markets anticipates an economic recovery. But there are reasons why the world may be entering a period of low or no growth. Growth is a relatively recent phenomenon.
In a provocative 2012 National Bureau of Economic Research paper, economist Robert Gordon found that prior to 1750, there was little or no economic growth. It took around 500 years from 1300 to 1800 for the standard of living to double. Between 1800 and 1900, it doubled again.
The 20th century saw rapid improvements in living standards, which increased by five or six times. Living standards doubled between 1929 and 1957, and again between 1957 and 1988.
Between 1500 and 1820, economic production increased by less than 2% per century. Between 1820 and 1900, economic production roughly doubled. Between 1901 and 2000, economic production increased by a factor of something like four times.
Gordon questions whether growth is a continuous process that can persist forever. He argues that growth and improvements in living standards will slow significantly. He speculates that future growth rates may be 0.2%, well below even the modest 1.8% between 1987 and 2007.
Low or no growth is not necessarily a problem. It may have positive effects, for example, on the environment or conservation of scarce resources. But the current economic, political and social system is predicated on endless economic expansion and improvements in living standards.
Over the last 30 years, a significant proportion of economic growth and the wealth created relied on borrowed money and speculation. Since 2001, borrowing against the rising value of houses contributed to around half the recorded economic growth in the US. Global trade is built on a financial model.
Sellers of goods and services, such as China, Japan and Germany, indirectly finance purchases by lending foreign exchange reserves to countries like the US and the now deeply troubled economies of southern Europe.
An Engine Called Debt
Debt-driven consumption became the tool of generating growth. But this requires ever increasing levels of debt. By 2008, $4-5 of debt was required to create $1 of growth. China now needs $6-8 of credit to generate $1 of growth, rising from $1-2 of credit for every $1 of growth a decade ago.
The ability to maintain high rates of growth through additional debt is now questionable. The need for governments and the private sector to cut debt simultaneously reduces demand and locks the world into a negative spiral of ever lower growth.
Growth was also based on policies that led to the unsustainable degradation of the environment. It was based upon the profligate use of mispriced non-renewable natural resources, such as oil and water.
There are similarities between the problems of the financial system, environmental damage and shortages of resources like oil, food and water. In each area, society borrowed from and pushed problems into the future. Short-term profits were pursued at the expense of risks that were not evident immediately.
Another common theme in the crises in finance, environment and management of scarce resources is mispricing. In the period leading to the financial crisis, risk was underpriced. The true cost of polluting the environment or consuming certain resources has also been underpriced.
Consuming the Principal
In the early 20th century, German economist E F Schumacher observed that human beings had begun living off capital, “Mankind has existed for many thousands of years and has always lived off income. Only in the last hundred years has man forcibly broken into nature’s larder and is now emptying it out at breathtaking speed which increases from year to year.” That comment is now just as true for the economic and financial system as it is for the environment.
The current crisis calls into question the ability of governments to maintain control of the economy of Lenin’s commanding heights — the most important and strategic elements of the economy.
Growth No Rope Trick
Government intervention can cushion some of the costs of the crisis but cannot solve the fundamental problems. It is not self-evident that growth can be conjured up on policy diktat.
If government deficit spending, low interest rates and policies to supply unlimited amounts of cash to the financial system were universal economic cures, then Japan’s economic problems would have been solved many years ago. The lack of easy policy options means that the world faces an unknown period of low, below trend growth.
Arthur Miller wrote, “An era can be said to end when its basic illusions are exhausted.” The central illusion of the age of capital — unbounded economic growth — may be ending.
The writer is a former banker
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