In these days of confinement I have been reading the book Crisis Economics written by Nouriel Roubini and Stephen Mihm in 2010. Roubini analyses in detail the most relevant economic crises experienced in our recent history since the 19th century and the economic policies applied to contain them. Although each crisis is different, there are certain triggers that have been repeated in history such as asset bubbles and excess debt that have led to an intervention by governments and central banks applying expansive monetary policies combined with large fiscal stimulus measures to revive consumption and public spending. All this in order to be able to relaunch economic growth.
In this article I would like to present Nouriel Roubini’s reflections on possible future scenarios and trends that we may encounter in this decade. Currently, more than a decade after the great financial crisis of 2007 – 2009, we are facing a very fragile global economic situation that continues to have the risks and structural imbalances inherited from the economic policies applied in the last decade. The COVID-19 crisis has only intensified and accentuated these imbalances which, if not corrected at some point during this decade, could lead us to a great economic depression. In this year 2020, it is foreseeable that the fiscal stimulus packages of governments and central banks at the global level will be of such magnitude that even if we end up in a severe economic recession, they will avoid a great depression.
Possible future economic scenarios may be affected by the following trends:
1.- Public deficit: debt and side effects
The response of governments and central banks to the COVID-19 pandemic involves a massive and unprecedented increase in fiscal deficits exceeding 10% of gross domestic product (GDP), at a time when public debt in many countries is at almost unsustainable levels. The economic indicator -ratio- total debt/GDP at world level in 2019 was 322%. In 2020 this ratio will be close to 350%. Spain closed 2019 with a ratio of 95.5%. In Spain the forecasts for 2020 contemplate a potential scenario of a 10% fall in annual GDP, the public deficit would reach 12% (2.7% in 2019) and the total debt/GDP ratio would be around 120%. The COVID-19 pandemic has directly impacted the labour market with a significant increase in unemployment and the loss of income from the private sector with a debt within this sector that in many cases will be unsustainable, increasing defaults on loans and credits and the bankruptcy of companies. The increase in global unemployment combined with significant increases in debt in many countries and the fall in GDP reflect a scenario of deep economic recession.
2.- Demographics and health coverage
The COVID-19 crisis has shown us the imminent need to increase public investment in health infrastructure and medical coverage for the population. Even more so if we consider that in developed countries we have an aging population. States and governments have an implicit present and future debt in the financing of the so-called “welfare state” which includes the financing of social support structures (social security, health coverage and infrastructure and pensions). This growing implicit debt means an additional increase in the public deficit.
3.- Increased risk of deflation and subsequent stagflation
In addition to having a very high level of global debt, we are facing a demand shock for goods and services (overcapacity and unused machinery), a labor market with high levels of unemployment and a collapse in the price of raw materials such as oil and other industrial metals.
It is the perfect storm for a “debt deflation” scenario, based on the theory of economist Irving Fisher, according to which the real value of debt increases due to deflation, increasing the risk of default on debt for individuals and companies and the consequent insolvency of businesses and companies.
Central banks are going to focus their efforts on combating deflation and controlling the inflationary risks arising from the massive accumulation of debt, using less conventional and higher impact monetary and fiscal policies. In the short term, central banks are going to continue with an aggressive process of monetizing fiscal deficits, Quantitative Easing, to avoid economic depression and deflation. This policy has been applied since the great financial crisis of 2007-2009 (interest rates at historic lows and an increase in the monetary base but with anaemic GDP growth at global level). The growth of fiscal deficits at a global level and expectations that they will continue to be financed with more debt in the future may create inflationary scenarios that combined with economic stagnation would cause stagnation.
4.- Digital economic disruption
With millions of people losing their jobs, or working at reduced wages, the economies of the 21st century will see a widening of the gap between the rich and the poor. To guard against future breaks in production chains, advanced economies will internalize production from low-labor-cost countries into higher-labor-cost domestic production chains. But this protectionist movement, rather than helping local workers, will accelerate the processes of automation in companies, putting even more downward pressure on wages, generating social discontent and fostering populist and nationalist movements.
5.- Deglobalization and fragmentation of economies
La pandemia del COVID-19 está acelerando la tendencia hacia una balcanización y fragmentación de las economías, tendencia que ya estaba en marcha en la ultima década. Los Estados Unidos de América y China se van a desacoplar con más rapidez, y la mayoría de los países desarrollados van a adoptar políticas proteccionistas para proteger las industrias y trabajadores locales frente a posibles disrupciones globales. El mundo pospandemia va a estar marcado por fuertes restricciones en el comercio de bienes de equipo, servicios, capital, mano de obra, tecnología, información y datos. Esto ya está pasando en el sector farmacéutico, bienes de equipos médicos y sector de alimentación donde los Gobiernos están imponiendo restricciones a la exportación y otras medidas proteccionistas en respuesta a la pandemia.
6.- Environmental crises and climate change
Another risk that cannot be ignored is the risk of environmental crises which, as the Covid-19 pandemic is teaching us, can have a more devastating economic effect than the great financial crisis of 2007-2009. Recurrent epidemics (HIV since the 1980s, SARS in 2003, H1N1 in 2009, MERS in 2011 and Ebola in 2014 – 2016) are like climate change, catastrophic human-generated events under conditions of low health and sanitation standards, and which are spread by the great interconnectivity of a globalized world. In the future, new pandemics and destructive effects of climate change are expected to become more frequent, more virulent and more costly.
Conclusions
The trends listed above may represent the perfect storm for economies to be plunged into deep economic recession during this decade. To minimize, mitigate or try to solve the problems posed, we need very competent political leadership at the global level to stimulate a more inclusive, cooperative and stable international order, as well as highly coordinated economic, monetary and fiscal policies among central banks. In this decade we are going to find exorbitant fiscal deficits in some countries whose governments will finance it mostly with more public debt by reducing direct and indirect tax collection. With reference to Europe, the European Central Bank is the largest investor in public debt that will end up financing these deficits. In this decade, it is not unreasonable to think that some countries in Europe will have to restructure their public debt and ask the relevant authorities for a bailout. History repeats itself with new crises but it is in the nature of human beings to overcome them. Each crisis is different, but it has a solution.
Socio- Senior Advisor de Beka Finance
