In These New Times

A new paradigm for a post-imperial world

The World is Now Changed

Posted by seumasach on June 18, 2009

W Joseph Stroupe

Asia Times

18th June, 2009

Decoupling on the part of the under-developed economies is defined as accelerating along the path of eliminating inordinate reliance upon the US and other developed economies as export markets. Decoupling would also tend to undermine reliance upon the dollar and boost the role of regional currencies in trade, finance and in forex reserves composition.

Decoupling would be accomplished fundamentally by boosting domestic demand and by increasing trade amongst the emergingeconomies to replace the strategic loss of trade volumes with the developed economies.

Skeptics of the decoupling concept are generally of the same mind as those who still cannot get past the outdated conventional wisdom addressed earlier in this article, the unfounded notion that the global order at present revolves almost exclusively around the US and the dollar and will continue to do so for the foreseeable future.

True, the concept of decoupling experienced a serious blow to its credibility when the present global crisis proved that China and the other under-developed economies still relied upon the US and the rest of the developed economies for a very large portion of their export fortunes. However, at most this proved the under-developed economies had not yet achieved decoupling, but it did not in any way prove they could not do so going forward. As we shall see, this global crisis, centered in and focused extraordinarily upon the US and the other developed economies of the world, is providing powerful impetus, urgency and grand opportunity for the emerging economies to finally achieve decoupling.

The impetus and the urgency to finally achieve decoupling derive from the growing recognition, throughout the under-developed world and beyond, of the fact that the world’s traditional driver of demand and economic growth (the US and the developed economies) has extraordinarily been lost. Even US Treasury Secretary Timothy Geithner acknowledged this fact in his speech during the recent visit to China. He stated:

In the United States, saving rates will have to increase, and the purchases of US consumers cannot be as dominant a driver of growth as they have been in the past.

In China, as your leadership has recognized, sustainable growth will require a substantial shift from external to domestic demand, frominvestment and export driven growth, to growth led by consumption. Strengthening domestic demand will also strengthen China’s ability to weather fluctuations in global supply and demand.

Globally, recovery will have come more from a shift by high saving economies to stronger domestic demand and less from the American consumer.

The world at large increasingly recognizes that the “conspicuous consumption” of the US consumer is dead. The drunken party is over and the colossal hangover has arrived. Earlier in this article we examined the increasingly grim outlook for governmentfinances in the developed economies, and the equally grim outlook for a return to vibrant economic growth anytime soon. The leaders of the under-developed nations now fully recognize that any return of the traditional global driver of demand and growth is extremely unlikely, and that their fortunes now lie much more in spurring domestic demand and in strategically boosting trade amongst themselves – in other words, decoupling.

Both mechanisms – spurring domestic demand and boosting trade outside the developed world – are already achieving largely unforeseen but quite respectable advancement down the path of decoupling. How so?

In the case of China, many assumptions made in the West with respect to the export-dependency of its gross domestic product (GDP) have been exposed as being faulty all along. In fact, exports accounted for significantly less of China’s GDP than was assumed in the West. That means it wasn’t nearly as dependent upon trade as the experts thought. That in turn means that its dependence upon the US and the other developed economies of the world was considerably less than assumed. Finally, these things mean that the task of achieving decoupling isn’t surmountable after all. What are these facts regarding China’s level of reliance upon exports?

According to multiple sources (see the references at the end of this article), China possessed an underlying domestic demand component of considerable potency that most experts in the West either missed entirely or excessively discounted. This component of domestic demand can be throttled at will, and it was throttled back by China’s leaders during the boom years so as to avoid over-heating of the economy.

When the present crisis caused export levels to collapse, China’s leaders quickly throttled the domestic demand component forward, and China’s economy avoided the collapse of GDP suffered by most of the rest of the under-developed export-based economies. Its GDP growth tumbled from 13% in 2007 and nearly 10% in 2008 before the crisis really began to bite, to 6.1% in the first quarter of 2009. While that is a significant fall, it isn’t anywhere near a recession. China is widely forecast to accelerate its growth later this year to as much as 8%.

China possesses so much unmet domestic demand that it has been able to quickly turn industrial production inward. The savings rate of the average Chinese consumer is very high. Now that industrial production is turning inward it can benefit from the huge potential of that enormous pool of wealth. In addition, China’s leaders have begun to remove the monetary/financial constraints they placed on domestic lending, thus helping to throttle forward the domestic demand component. Additionally, its domestic stimulus package is very effectively accomplishing the same thing. During the export-led boom years China was building a large middle class. Now that large middle class is serving China’s decoupling efforts very well by fueling domestic demand.

There are risks, of course. China’s leaders have directed thebanks to keep strict credit guidelines in place so as to keep the bad-loan rate at acceptable levels. The leaders already have a good track record of preventing asset bubbles from getting out of control. The negative example of the US here serves as a potent incentive for China’s leaders to stay vigilant and to act with courage to prevent asset bubbles and bank failures.

As China continues to emerge as the key driver of demand and growth, leading the under-developed economies out of this recession first, against the backdrop of the inability of the developed economies to do so, then trade amongst the under-developed economies, trade that significantly revolves around China as the key driver, will surge.

Since the demographics and other key factors amongst the under-developed economies of the world strongly favor a more rapid implementation of the domestic demand component than predicted by Western experts, then this world sector is very likely to emerge stronger than predicted from this crisis, and be increasingly attractive to global investors, against the backdrop of the ever-more deeply troubled dollar and US governmentbonds. Inflows into the emerging markets are already quickening, providing crucial financing and capitalization required for consolidation of the domestic demand component and for bolstering trade amongst the members of this world sector.

What we have in the under-developed economies then, overall, is an excellent formula for achieving a very respectable measure of decoupling over the next very few years. Once again, the expertswere wrong as China and the emerging economies continue to surprise on the upside, while simultaneously the developed economies continue to alarm on the downside. Perhaps now the reader can begin to see why the recent advice from PIMCO’s chief executive and chief investment advisor Mohamed El-Erian is so relevant:

The rebalancing of relative economic power is not only alive but gaining momentum … Average investors need to make sure that they are not hostage to an outdated conventional wisdom that underexposes them to this phenomenon.

Summary
A number of popular assumptions continue to be bandied about in the media with respect to the issue of whether any new globaorder is arising to replace the old one that revolved around the US and the dollar.

One of these assumptions is that China has lent the US so many dollars that it cannot do anything about its deep exposure to the US currency without triggering a potential collapse in the value of its huge holdings. This popular notion continues with the line that therefore, US leverage over China’s actions is, in effect, greater than China’s leverage over US actions. To many this line of reasoning appears sound. It isn’t.

For one thing, China’s leaders are accelerating along the path of converting excess dollars into resources and other hard assets. For another, they are accelerating along the path of decoupling. And for yet another, they are positioning to oblige the US to issue panda bonds (see BRIC group plans own revolution, Asia Times Online, June 17, 2009).

The US, represented by the present administration, most certainly will not be able to withstand the mounting external pressure, not only from China but also from Japan and other key foreign lenders, to begin borrowing in foreign currencies so as to protect the interests of the lenders. Keep close watch on unfolding developments because you will soon see the notion that China is “stuck” with the dollar get thoroughly exposed for being the groundless conjecture it really is.

Another popular but unfounded assumption is that China and the other under-developed economies cannot achieve decoupling from the US and the rest of the developed economies. We have seen in our analysis that China is already achieving a significant measure of decoupling, via its ability to quickly throttle forward domestic demand. If it had not already been able to achieve this significant measure of decoupling then its GDP would have collapsed into negative territory (recession). It has not and will not do so.

We have also seen how China’s partners in the emerging economies increasingly revolve around it (China) as a new driver of global demand and growth, and how, collectively, the under-developed world is rapidly displacing the US and the other developed economies as the real driver of global demand and growth. While the developed economies remain stuck on the sidelines, being forced by their own massive over-reach to deal with the seemingly endless cascade of self-inflicted financialand economic problems, the under-developed world is beginning to emerge first from this global crisis. That spells the incremental arrival of a new global driver.

Yet another popular myth is the assumption that the US and the developed economies are merely undergoing a cyclical downturn, albeit a severe one, and they will soon return to growth and will recapture their global position as the driver of demand and growth.
This crisis is no mere cyclical downturn for the developed economies. It is rather a full-blown crash of their shortsighted bubble-based economic model which they fully embraced in such a foolhardy fit of arrogance and greed. Now they are paying the colossal price for their un-wisdom. The finances of the developed economies are in profound trouble. Yet their governments continue to spend colossal sums of money in a vain attempt to reboot their utterly failed model.

The world’s lenders are increasingly repulsed by this slipshod conduct and are becoming ever more wary of holding the dollar or Treasuries. Considering the massive amount of government propping and stimulus, the US and the other developed economies may soon “revive” to some nominal economic growth for a brief time, but it absolutely cannot last. The multipronged and excessively painful bill for all the profligate spending being undertaken by the governments will inevitably come due, trouncing their economic growth prospects for a long time to come.

In addition to perpetual economic stagnation, or worse, they are setting themselves up for an inevitable and enduring bout of inflation, or more likely, hyperinflation. Stagnation and simultaneous inflation (stagflation) spell eventual doom for their already deeply troubled fiscal positions, and impending crisis for the dollar.

Consequently, against the backdrop of all the unyielding facts detailed in this series of articles, let no one fool himself into imagining that nothing fundamental is changing for our global order. Indeed, a truly fundamental transition of gargantuan consequence is underway and is even now accelerating. The global order is progressively finding a new center around which to revolve.

The fact that the dollar is still the most prominent global reserve currency (it is wholly contrary to the facts to refer to the dollar as the global reserve currency, since the dollar shares that reserve currency status with other currencies) only papers over the elemental transformation of the global order that is already taking place.

The reader must take to heart the sagacious advice of PIMCO’s El-Erian: “Do not allow yourself to be held hostage to outdated conventional wisdom that blinds one to the reality of the accelerating rebalancing of global economic power” – a rebalancing that features the strategic rise of the emerging economies and the simultaneous strategic decline of the developed economies.

References
1. “The Chinese puzzle: why is China growing when other export powerhouses aren’t?”, Brad Setser/Follow the Money, June 9, 2009.
2. “Data Shows China Relies More on Growth at Home”, New York Times, June 11, 2009.
3. “Why the Export Slump Won’t Doom China’s Economy”, BusinessWeek, April 20, 2009.
4. “El-Erian Says Summit Shows ‘Rebalancing’ as BRICs Buy IMF Bonds”, Bloomberg News, June 12, 2009.
5. “China Loosens the Yuan-Bond Market”, Wall Street Journal, May 20, 2009.
6. “Panda Bonds Could Help China Avoid the Risks of US Treasury Bonds”, East Asia Forum, Dec 19, 2008.
7. “Analysis: Time to Reintroduce the Panda Bond”, Caijing Magazine, Dec 17, 2008.

W Joseph Stroupe is a strategic forecasting expert and editor of Global Events Magazine online at http://www.globaleventsmagazine.com

Copyright 2009 Global Events Magazine, All Rights Reserved

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