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| Purgatorial pathway |
| Edward Hadas / Sep 05, 2009, 00:14 IST |
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Exit strategies: A solution can also be a problem. The bevy of measures that stopped the early-2009 economic free-fall - huge fiscal deficits, minimal overnight interest rates and wide-ranging aid for the financial system - will have to be reversed. But the exit path is narrow and tricky.
The G20 finance ministers, gathered in London on Friday and Saturday, have already taken the easy first step. They have assured investors that they will move back towards normalcy as soon as it is safe. That isn’t quite yet, even though the economic news is getting a bit better.
Still, the right time might be coming soon. There are significant risks in moving too slowly. Bond investors could desert governments which are perceived to have acquired an incurable habit of overspending. Officially-supported banks could extend extra-cheap credit too widely, pushing up asset prices — or even spurring retail inflation.
Perhaps the greatest danger of excessively protracted stimulus is that the wrong lessons will be learned. There are already signs that financial types returning to their former reckless ways. Consumers might forget about thrift — reversing the trend to narrower trade imbalances and building new mountains of debt.
An over-stimulated world may breed bad habits, but too quick an exit is also dangerous. Policy reversals in the US in the 1930s and 1980s and in Japan in the 1990s turned tentative recovery into renewed recession. And in all those cases, the stimulative policies were less extreme than the current set.
After two years of news that was consistently worse than expected, policymakers are more afraid of renewed banking woes and an economic double-dip than of too-easy credit or too-rapid growth. That is probably the right bias for now.
But what the world economy needs most is greater balance. Chronic borrowers — the US, UK and Spain — should rebuild their productive capacity and chronic lenders — China, Japan, Germany and the oil exporters — should get domestic demand closer to supply. This is the route to sustainable long term growth, avoiding a return to the bad old ways.
Such transitions require sacrifices. If the G20 wants to find the right path, rich nations should accept several years of, say, 1 per cent GDP growth and high unemployment. The G20 exit strategies should be designed to achieve that – not a rapid return to the 2-3 per cent rate previously considered normal. It’s a shame the politicians aren’t likely to see it that way.
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