The US economy
Because of the leading role the US economy plays in the generation of global output, demand, consumption, trade (imports and exports), technology, cross-border direct investment, and financial flows, the difficulties which it is presently encountering (as highlighted in last week’s column) vividly illustrate the continued fragility of the global economic recovery and why the global economic crisis is not going away. As I have shown, policy actions in the US have been insufficient to spur the desperately needed recovery in jobs, consumption and investment there, let alone the wider world. In turn, this has led to substantial volatility in international equity markets and in the US dollar and other currencies traded on the major world financial markets.
Further, these outcomes have generated significant inequalities along with social and political disquiet in the US. These have spurred the growth of social and political movements, with their own particularistic view of 1) the future of the US under its present political dispensation, and 2) what is needed to be done in order to correct this unwelcome situation.
In this week’s column, I shall argue the case that, while differing in detail and perhaps intensity, the same appraisal would hold true for the European Union (EU).
The European Union
Taken as a fully-fledged integration grouping, the EU constitutes the largest single global economy in terms of national output (GDP). Within its ranks are to be found several of the world’s ten largest individual national economies, in terms of size of GDP. What happens in the EU has enormous global consequences.
As readers already know the EU is made up of 27 member states; 16 of these have formed the euro-currency zone. The grouping has been singled out, as it were, for massive waves of speculative attacks by global investors. I have previously indicated that the PIIGS economies (Portugal, Ireland, Italy, Greece and Spain) have been treated as the most vulnerable, but in recent times even the United Kingdom, France, and Germany have also been targeted.
There are two main reasons for this: 1) Their high levels of sovereign external indebtedness (thus for example, the indebtedness of Portugal as a ratio of its GDP – 99 per cent and Spain 78 per cent); 2) the suspect portfolios of these countries financial businesses (particularly banks). The latter reflects in large measure the contagion effects of derivatives held by these firms, which are linked to the toxic private household mortgage-backed securities issued by US businesses. Of course, it is also true that these countries have had their own housing bubbles, which have burst during the period of the crisis.
As readers also know, in the EU the speculative waves have focused on sovereign bonds issued by those governments felt to be in financial distress; securities of financial businesses (particularly banks) in the targeted countries; commodities largely traded in these countries, including precious metals (gold); stocks and shares on their respective equities markets; and, the euro-zone currency area itself.
The euro-zone: A crisis waiting
to happen
As regards the last item, many investors have expressed the view that the euro-currency (monetary) union (backed by the European Central Bank) cannot serve the macro-economic needs of several sovereign states unless it is accompanied with a fiscal union (that is, a regime of common tax and expenditure policies). The arrangement is a disaster waiting to happen, as soon as speculators realize the inherent contradiction or weakness of putting in place one without the other. The question which can be rightfully asked at this stage, is: has that realization hit global investors/speculators at this point in time?
It can, of course be argued that, in belated recognition of this conundrum, two key arrangements have been put in place by the EU authorities. One has been the expressed commitment by the European Central Bank, the IMF, and the US Federal Reserve System to defend the euro against “unwarranted” speculation. The other has been the formation of the EU’s Growth and Stability Pact. This pact tries to cover for the fiscal weakness pointed out above, in binding member states to 1) limiting the size of their fiscal deficits to three per cent of GDP, and 2) their overall government indebtedness to less than 60 per cent of GDP. These measures are designed to ensure that member states do not live beyond their means, for in doing so they put unnecessary strains on those members that are fiscally prudent. This pact has become ineffective and more recently the authorities have further committed to the establishment (in about two years’ time) of a massive emergency fund to protect member states and the euro currency from “unwarranted” speculation.
We can therefore say that, similar to the US, the EU remains in the eye of the global economic storm. However, because individual member states of the EU are no way as large and resilient as the US, I believe they have become the prime targets of global speculators who are planning to make huge gains from their downfall.
As we shall see next week, China is largely protected from this global speculative onslaught mainly because the marketisation and commoditization of its economy are, as yet, nowhere as thorough and complete as in the US and the EU. It is in this context I shall start addressing the role of the G20 in promoting recovery, before turning to consider the remaining topic: international efforts at addressing global warming and climate change (the Cancun Summit).
