N Chandra Mohan: The crisis contagion

Last Updated: Sun, Jun 03, 2012 19:21 hrs

The woes of the world economy are not coterminous with the worsening worries of the debt-ridden, recession-hit euro zone economies. The most powerful economy in the world, the US, is expected to slip into recession within the first half of this year. The future growth engines like China and India, too, are experiencing weakening growth prospects. In nearly two-thirds of the 20 leading economies in the world, the level of industrial production is lower today than it was six months ago. The prognosis is indeed grim that the world economy is in an era of more frequent crises.

These insights were from a presentation on the “Global and Indian Cyclical Outlook: A Review” by Professor Pami Dua of the Delhi School of Economics and Economic Cycle Research Institute (ECRI) to the Forum of Financial Writers in Delhi. Reflecting the growing interdependence of the world economy, recessions and recoveries also happen to be synchronous. The Great Recession of 2008-09 was the “most synchronised recession on record” in which the economies of developed countries shrank rapidly with the export-dependent emerging economies, she argued. So, too, was the subsequent global recovery.

A popular definition of a recession is two successive quarters of negative growth. But the process is more complex than this in market-determined economies in which there are alternate expansions and contractions that characterise a business cycle. According to the National Bureau of Economics Research and ECRI, a recession is a sustained decline in economic activity – output, employment, income and trade – from the peak of expansion to the bottom of a contraction. In fact, the previous recession in the US that began in December 2007 lasted for 18 months till the bottom of the cycle was hit in June 2009.

ECRI’s forecast of another recession in the US economy – which accounts for a fifth of global GDP – kicking in during the first half of 2012 stems from the weakness of personal real income growth and employment. During the last three months, the year-on-year growth of real personal income stayed lower than it ever was at the beginning of the last 10 recessions in the US economy. According to this NewYork-based institute, the past 60 years hasn’t seen a slowdown where year-on-year job growth has also dropped this low without a recession. Confirmation of the R-word, however, will take some more time.

“The world lacks locomotives of growth,” stated Professor Dua as she gave an overview of the dismal prospects everywhere, besides the euro zone that is contracting. In the Asia-Pacific region, in leading economies like China, the overall growth outlook is fading. In India, it remains weak. Japan’s outlook is restrained. Prospects in South Korea are downbeat. The only exception is New Zealand in which the outlook is “cautiously optimistic”. The other Brics economies (Brazil, Russia, India, China and South Africa)are no different since there is an “elevated recessionary danger” in Brazil. In South Africa, growth prospects are considered dull.

In this milieu, there is no such thing as decoupling or some regions or countries remaining insulated from the contagion of crisis that is fast spreading from the crisis-ridden developed world. When the all-powerful US economy sneezes, the rest of the world does catch a cold! The channels of transmission are from the financial side – as was the case during the Great Recession of 2008-09 – and also trade. The growing interdependence of the world economy is seen in the dramatic rise in export-dependence of the major economies, developed and developing.

Given such trade linkages, manifested in global supply chain networks, leading developing countries are subject to the Bullwhip Effect: small fluctuations in end-consumer demand in the developed countries, translate into larger fluctuations in intermediate goods demand and even bigger ones in input material demand and in raw material prices, according to ECRI. As trade in intermediate goods is estimated to account for 77 per cent of overall global trade, it is difficult for supplier economies in the developing world embedded in global supply chains to escape the Bullwhip Effect.

In such an interdependent world, business cycles or ups and downs of developed and developing countries are bound to move together. Countries like India are no more islands unto themselves and remain highly vulnerable to what is happening in the US and euro zone economies. From a robust nine per cent plus growth, the pace of expansion in India slipped to 6.7 per cent at the time of the Great Recession. The country, however, escaped slipping into a recession although the downturn in its economy was somewhat prolonged from January 2009 to the bottom in July 2010.

After two back-to-back years of 8.4 per cent growth, the recovery process started to falter from last year with a nine-year low of 6.5 per cent. A slowdown has hit the Indian economy once in every two to three years, according to Professor Dua’s work along with Anirvan Banerji of ECRI. The Centre for Development Economics-Delhi School of Economics India-LINK macroeconomic model estimates growth at 7.2 per cent for 2012-13. It could be much lower if the global economy lurches into a deeper crisis.

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