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Why is it necessary to be on the safe side in 2010?
This week we have been touching upon the question "How will 2010 be in global terms?" We have first addressed the issue with some information took place at Reuters: the IMF has revised upward the global growth estimate for 2010. This was the fifth revision by the IMF about growth rate in 2010. Estimates have been revised three times since April 2008, all downward. Now, for the first time the estimate was revised upward. A while ago, IMF expected 1.89 percent growth for 2010. Now, it says 2.4 percent growth is expected. In the meanwhile, the World Bank announced that they expect 2 percent growth in 2010 (By the way, the World Bank revised 2009 growth estimate for Turkey to 5.5 contraction. Remember that the estimate announced by TEPAV in March 2009 was also 5.5 percent contraction.). Now, under these circumstances, it is wise to call the IMF a cautious optimist. It is not pessimist at all; it is cautious optimist. So, on what this cautious optimism is based? Let us take a look at the "conditions of optimism" today. Let us see why it is necessary to be cautious about 2010.
Among the preconditions of optimism, the first factor is taking a step toward the establishment of stability. Remember that we were caught in this trouble as "sewage water melted into mains water system". Then, everyone started to hesitate saying each other "how much dirt does your balance sheet contain" and thus stopped engaging in transactions with each other. So, we came to this point. Eventually, the importance of New York in the American economy started to fall while that of Washington started to rise. The state started to collect the savings of the citizens and distribute it among the needy. As the financial stability deteriorated, financial system was deactivated and fund flows were carried out through public sector and central banks. While the American example took rapid steps forward, Europe lagged behind. In a meeting we participated in, an official proudly said "While 80 percent of financial flows in the US is from public sector and 20 percent is between banks; the situation is the exact opposite in Europe". But we guess it is not that easy. Equal effort to ensure financial stability was not made everywhere. Yes, banks started to sell their own borrowing securities again; but only under public guarantee. Are we currently standing at a good position? Why do the CDS differences lie high at top when compared with the start of the crisis, or even with the Lehman Brothers incidence? It appears that there still is a problem. And the problem is as severe as in the start. So, here is the first reason to be cautious.
Second precondition of optimism is the gradual recovery in fund flows. Here, the mechanisms introduced by the IMF and Fed sure make a contribution. Remember that Fed and the IMF defined additional financing facilities taking countries like Turkey into consideration. IMF has distributed around 30 billion USD of loans since the beginning of the crisis without questioning much to whom it lends. And the value of agreements the IMF signed averages 150 billion USD. What does this mean? It means that the IMF and FED gave hand to hand to secure the survival of international fund flows. If you don't try to substitute somehow the tightened foreign exchange generating channels, people can change their behavioral patterns. Therefore, to put the fire, the IMF and Fed try to operate the system with some tools that were not in operation before. That the mechanisms which were not operative at the beginning of the crisis operate now does not mean things are going back to normal. What is the problem? How will these temporary control mechanisms be deactivated? We do not know yet. Moreover, that things are not yet back to normal and that we still not know what normal is must be considered as reasons to be cautious.
What else do we have? Doubtlessly, third precondition of optimism is composed of expansionary fiscal policies implemented all over the world. The problem as usual is about coordination. First, there exists a global free rider trend. You shoulder the cost of all measures you have implemented, but only a part of the benefit applies for you. There is no doubt that this is unsustainable. Moreover, it hinders the design of optimal fiscal policy. Second, the mentioned global free rider trend either eventually legitimizes protectionism or makes essential the design of a supra- nation state policy. Therefore, the solution is not easy. Either protectionism will gain ground or we will need a global State Planning Organization at a supra- ration state level. And the path in between the two is not smooth. This is exactly why Trichet says "first everyone shall keep the promises they made". Those two breaks their promise and acts as a free rider eventually pushes those he deceived to protectionism; don't they? Yes, steps are taken but not exactly in the promised direction. So, what? Again, it is wise to be cautious.
Fourth reason of optimism is that oil and raw material prices have plunged down. This decreases the cost of adjustment in the middle of the fire. The economy is already contracting, but up to this point, the reduction in oil bills was bigger. In this respect, this is a good thing. It eases the pain. But, what will the pace that this trend turns around? Does this lead to a coordination problem when temporary global coordination mechanisms are deactivated? We will wait and learn.
Let us conclude with the fifth point. Yes, current situation is different than the beginning of the crisis. We now stand at a better position. The reason behind this is not that the economy get back on its normal course, it is that temporary global control mechanisms have been activated. Currently world economy is like a patient connected to different life support units for each organ. So, how will those who failed to implement the measures under the scope of a certain plan decide when and how they will turn off the complicated life support unit? Each surgery breaks a mechanism that used to perform healthily; let us see how this will end. Here is a big coordination problem; here is a big warning to be cautious.
Note that we have not touched upon concepts like debt stock or fiscal sustainability yet. In our consideration, the IMF and the World Bank is aware of the situation. This is why they act as cautious optimists.
This commentary was published in Referans daily on 25.06.2009