Statistically, the Great Recession is already in the history books. But as we all know, things haven’t felt that way in large swaths of the global economy. Yes, the worst-case scenario (a double-dip recession) never materialized, but the recovery is fragile and uneven, at best. Growth in many parts of the developed world has been miserable, and the rebound so far has to a great degree been jobless.
But recently, economists around the world have been infected by a rare case of optimism. The International Monetary Fund recently upped its forecast for global growth in 2011 to 4.4%. Goldman Sachs economists, after raising their forecasts, declared 2011 will be the “Year of Recovery.” A recent report from Barclays Capital proclaimed: “We believe that the slowdown in the global economy is over.”
So is all of this good cheer justified? Is the recovery really, finally here? Really? Truly?
There are sound reasons to feel a bit more comfortable with the state of the recovery. Data out of the U.S. is better than many had expected. The all-important American consumer is spending again, and GDP increased a pretty good 2.9% in 2010. Emerging economies like China and India continue to power ahead, seemingly unfazed by anything in their path. Other economies, like Germany, are also showing signs of strength.
But not everyone is ready to declare “crisis over.” As Stephen Roach, an economist at Yale University, recently told me: “I’m not prepared to give the global economy the green light.” Nor am I. It seems to me that there are just too many threats out there that can still combine to undermine the recovery.
Unemployment is still crazy high, 9% in the U.S. and 10% in the euro area. I can’t see how we can call the recovery rock-solid with so many people out of work, and therefore demand still constrained. IMF Managing Director Dominique Strauss-Kahn made this point in a speech a few days ago:
We will only get the recovery right if we take a holistic approach to managing the economy—one that focuses not only on standard macroeconomic and financial policies, but also on job creation and social protection. Because without jobs and income security, there can be no rebound in domestic demand—and ultimately, no sustainable recovery.
Then there’s inflation, a growing problem for the high-growth economies of the emerging world. Inflation is being caused by a combination of rapid growth, loose money, and high commodity prices. China and India both have major inflation battles on their hands, and both have been tightening money and credit to fight it off. China hiked rates for the third time in four months on Tuesday. China’s not alone. Indonesia’s central bank just a few days ago raised interest rates after inflation came in at a higher-than-expected 7%. Higher interest rates and reduced credit will translate into slower economic growth. Right now, economists are predicting only a slight slowdown in countries like China and India, but if inflation keeps roaring, they’ll have to keep tightening. And slower growth in the emerging world will also hurt growth in the developed world. We also can’t rule out the possibility that inflation will eventually edge up in the developed world, and then we could find ourselves with stagflation – slow growth plus inflation. That’s ugly.
And let’s not forget the euro zone debt crisis is still alive and well. Yes, the euro has shown strength and the sovereign bond market has stabilized on hopes of more action from the European Union. We’ve seen these periods of calm and improved sentiment in the euro debt crisis before – hopefully this one will be permanent. But I wouldn’t rule out future bailouts. Borrowing costs for weaker sovereigns (especially Portugal) remain high, and sentiment could turn quickly if Europe’s leaders post another policy belly flop. Even more, the euro area has yet to address the real, underlying problems of the zone – a good chunk of euro economies are still stuck in the downturn. You know you’re in trouble when your economy contracted 0.1% in 2010 and people take it as good news. That’s what happened in Spain. Until we start to see better growth from the struggling countries of the euro area, the region will remain at or close to the brink. And with countries like Spain, Portugal and Ireland forced into painful austerity programs to cut debt and deficits, finding that growth won’t be easy.
Austerity programs in general could come to hurt the recovery, as pressure mounts across the developed world to reduce budget deficits, even though growth remains tepid. The U.K. posted a shocking contraction of fourth-quarter GDP – and David Cameron’s budget-cutting bonanza is only just kicking in. There is even some heat on Japan to start dealing with its mountain of debt — look at the recent downgrade of its credit rating.
Let’s not leave out the fact that many of the problems left over from the financial crisis are still with us, such as a weak U.S. housing market. Even more worrisome: The world economy seems to be going back to the bad, old habits that got it into trouble in the first place. Those giant imbalances between surplus and deficit nations, for example, are showing no signs of going away, despite pledges of reform from the world’s leaders. Here’s what Strauss-Kahn said on this issue:
We see a worrying development: the pre-crisis pattern of global imbalances is re-emerging. Growth in economies with large external deficits, like the U.S., is still being driven by domestic demand. And growth in economies with large external surpluses, like China and Germany, is still being powered by exports. As the IMF warned in the years leading up to the crisis—and as the G-20 has emphasized—these global imbalances put the sustainability of the recovery at risk.
So yes, the recovery is stronger, and in some cases, stronger than expected. Yet it’s probably not time to pop those champagne bottles either.