Economic Growth and Crisis 2012

by:- Amit Bhushan Date Jan 2012 Contact: amitbhushan@rediffmail.com

A mans quest to improve his well being is unquenchable. People want to evolve and ameliorate themselves from their existing state to what they perceive as a better position/situation. This is how human beings create and sustain economy. It is thus important for one and all to understand the genesis of the present economic situation which is being described as being in crises mode. The word crises are being used for the current state of world economy as - in the present situation, the present power centers are no longer capable to manipulate economy or give it a direction. The economy is drifting away more and more from the current power centers and new players seem to be emerging on the horizon. It must however be admitted that such new players seem to be at a distance from either seizing full or even partial control; or having power to make as much impact as the existing power centers. However the fact that the new players have unraveled themselves and are making attempt to assert them in the face of existing centers is - signal for an emerging new era. Some other symptoms for the crises are shrinking of economic activity or economy of some of the smaller power centers or developed countries and slowdown in some others. This however certainly gives all of us opportunity to analyze the economy through various prisms and perspectives to unravel all or most of the probable mysteries, so as to select a course or direction that may be beneficial for our own growth and investments so that they prove to be beneficial and sustainable over a significant period. The paper intends to present one of the many probable ideas/hypotheses as an explanation for the emerging scenarios. One of the challenges for any analysis of economic or any other social science event is that the underlying causes are multitudinous factors simmering over a large period (usually several years) and itching to unravel. It is almost always a spark that helps them to ignite and erupt into a volcano which continues to pour out and this often leads to washing away of quite a few bad or good existential societal barricades and controls (existing in form of traditions, regulations or institutions). This may then be followed by some intermittent outpours cascading into belief of continued misery. Frequently the smoke billows for some more time and covers most of the sky and this often is perceived as continuance of the pain. It takes time for common man to realize that the things have normalized and to see the sun shining again. Date: 25th Dec. 2011 By: Amit Bhushan Contact: amitbhushan@rediffmail.com Page 1

The brighter side of Crises is that it helps to bring out those human endeavors which are unsustainable including societal traditions & rituals, rules & regulations, political structures, institutional set up etc. Those that are not reflective of the wisdom of the times are clearly segregated and made visible during such social crises and macro-economic event. The crises thus facilitate a rethink among the wise and intellectual class, who pause from their routine to take notice of the bigger picture. Ideally, it should focus us to concentrate our efforts to build what may be relatively more stable, however a lot of effort is normally spent on to save the existing structure to satisfy the current power holders with their bruised egos but fabulous histories. As with previous such crises, in spite of all the good effort only some of the vestiges who manage to transform and realign along the emerging contours (which presently are foggy at best) will survive. The others will extinguish themselves fighting gloriously with the future. The debate may be acrimonious but those with wisdom know that its better to bet on what is likely to sustain through the current environment and stay put into the future rather than trying to save the present structure. For them, the challenge is to peep through the various formations in the kaleidoscope and try to predict the formations that shall survive and move to the future. If compared to our current situation, the economic crisis has erupted and is testing the strength our institutions and regulations. The first round witnessed slaying of several financial institutions in US and Europe. Several giants were sent packing home and have only managed to sustain because of largesse of public money doled out by the governments of respective countries. At the International level, it witnessed that body such as G-7; G-8 lost their relevance almost overnight and body such as G-20 gained more prominence. Countries such as Iceland propelled by exports of their financial services sector have failed; and same is the case of Greece, relying on tourism; strength of Ireland (relying of a mix of banking or Financial Services Exports, IT Enabled Services among other sectors) is in serious question. Some other economically troubled countries are Portugal, Spain and Italy; of course these are relatively more diversified and larger economies than the earlier ones. Other European countries that may have to face further trouble include Latvia, Croatia, Ukraine, Belarus and possibly Kazakhstan. Some of other countries that may be slowed by the crisis include Mexico, Argentina, Venezuela, Pakistan and may also include Vietnam. A brief study of countries like Iceland, Ireland, Greece and Portugal reflects that these countries mainly relied on export of tourism and services including financial services to the rest of Europe. These countries do not have any regulations such as financial secrecy laws akin to Switzerland or large institutions and deep markets such as UK. The advantage in terms of labour rate that they enjoyed was lost when countries such as Poland joined the Union. Technologically, they have challenges not only from the larger players but also from countries such as India as well as Poland. The advantages like free labour movement within Europe, same time zones,

low or negligible cultural, social and language barriers, infrastructure & taxation related advantages are being successfully challenged by Polish people. While Iceland and Greece have accepted the fait accompli and are looking to reinvent, the Irish and Portuguese are still holding out. While Irish may be relying on their large US customer base and superior language and customer servicing skills, Portuguese may be relying on their larger more diversified economy being able to adjust and realize its competitive advantages. The governments of the troubled countries are still in the mode of fiscal adjustments and monetary accommodation to minimize the negative fallout and steer the economy to safe zones with the help from friendly governments and multi-lateral institutions. Lets first look at the various features of the chaos: 1) Unraveling of Mortgage crisis in US kick started through failure of Lehman Brothers, but cascading to impact several institutions. 2) Refusal of Energy and Commodity prices to come down to earlier weak economic signal levels vis--vis US $. 3) Continued surge in Chinese Trade surpluses even as the developed economies show weakness. 4) Rise of Primary commodity exporter nations such as African countries, the Central Asia etc. along with Australia, Canada, and Brazil etc. 5) The continued weakness of Euro even as Renminbi, Yen and gold rises along with US $. 6) Mass protests leading to some positive action in MENA region where common people had neither tasted money nor political power based on principles. People in general are yearning for greater economic and political equality with transparency in Africa (Zimbabwe) and Asia (Myanmar) as well. 7) Asian countries being forced to raise domestic consumption levels. This mainly revolves round the Chinese allowing rise in real wage levels of domestic workers, likely to be followed by movement of a few industries to other low wage countries in Asia, followed by an increase in wages there. 8) Increased deployment of Shale gas fracking technology to reduce dependence of Oil from Middle East Asia. Also, rise in mining activity in Americas. Similarly, there has been increased usage of communications and data management/computation technologies. The activity in these areas is growing. The mass media consumption is also growing by leaps and bound as is biotech or gene manipulation technology. Other energy saving technologies such as LED, Fuel Cell etc. are also on rise. By: Amit Bhushan Contact: amitbhushan@rediffmail.com Page 3

Date: 25th Dec. 2011

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Resilience of Indian IT and ITeS companies from India even in face of weakness in Europe and US buyers. However, there is general weakness in India on account of pull-back of FII investments, who may at present be focused on investing in re-priced assets in Europe and US which are available at a fraction of earlier price. The same is the case for most other East Asian economies with the difference that they had suffered a bit more in 2008-9 and thus have been able to adjust since then.

10)Europe continues to occupy primacy in wealth management of petro-dollars as their middle-east patrons still continue to believe in Europes ability to steer clear of the crisis as an entity. They have not yet hedged their bets or patronized other competing countries such as Asian countries like Singapore, Hong Kong or Dubai, Qatar etc. Although, there is increased demand of data sharing from FIs is Europe and other safe/tax heavens, yet there is possibility that such center may mushroom in Asia in countries which need to attract such funds while competing for Jobs and businesses. However, such countries will need to gain trust of investors and achieve same levels as FIs and regulators in Europe have achieved. A geographical look of the safe heaven suggests that these have existed near hubs of Wealth and Consumption. It is undeniable that the new hub for Wealth and Consumption is Asia. 11) Dominance of Dollar continues albeit due to weakness of Euro and inability of other currencies to offer similar kind of freedom from manipulations by their domestic power holders or having similar international acceptability. While Dollar + 1 scenario still includes Euro (where Euro services as an alternate currency for settlement of International Trade), but doubts remain on this arrangement. If Euro continues to drift then Dollar + 1 scenario may include Renminbi, a scenario not many FIs have considered. Also, in such scenario there may be huge impact of ITeS outsourcing scenarios, Impact on Euro, Trade Settlement scenario etc. 12) The corporate need to hedge their bets for scenarios in point 10 and 11 as these may have huge impact on businesses. As of now, there is single minded attention to save the Eurozone from most quarters barring UK which seems to be hedging itself from any fallout but this again is to maintain Fiscal and Monetary independence basis domestic pride rather than cold calculations required to handle the Crisis. 13)Investors, Institutions and Governments are all circumspect as most have exhausted their energies defending the present structures. Requirements of the future structures are yet to be deciphered. People are looking at present leadership to direct them for way out of this crisis while the current leadership itself seems to be embroiled in protecting its turf rather than peep into the future.

14)Asia continues to be marred by a complex geo-political relationship which overhangs over economic, social and cultural relations among the countries. The level of distrust is very high and is further complicated by strategic intervention by West including military presence. The physical and financial networking among countries of the region is pathetic compared to Europe but the region has somehow managed to outsmart their colonial masters because of US capital (including from Japan & EU as well) and communication technologies led synergies, coupled with low wages, domestic mineral resources and peace being brokered by careful balancing of power act of the West. The system now faces the China test which has different outlook for the region compared to Europe or Japan. Rise of India growing more under tutelage of the West may be required to balance China factor, but may also complicate the regions geo-politics. 15)As Europe falters on economy, US will be forced to look at implications for its own economy. This may cause consternation in Asia. While Asia may willingly yield more space for China on economic front (entering in to currency Swaps arrangement or allowing Yuan as a settlement currency as well), it may resist on security and geographical designs front. An authoritarian China does not gel well with rather more democratic East Asia (with numerous power centers in each country) or a culturally diverse South Asia or Muslim West Asia. A Central Asia with strong influence of Russia and West Asia is also much distinct from China politically though the land locked energy/mineral rich region may eye China as a big market next door. 16)Marred by Corruption, low potentiality for enforcement of contracts, weak jurisprudence and in some cases even absence of the rule of law; flip-flops in the government policy, nepotism, threat to security of personnel and assets etc. in Asia countries along with shallow markets, regulatory barriers coupled with endemic poverty levels and lack of support structure for Western companies and staff are a big put off for Western Investments in even relatively stable countries like India. The West or for that matter Petro-dollars rich middle-east is unable to identify it as a clear hedge for their investments bets where they should feel safe parking a portion of their wealth. The investors are not comfortable yet about ability of Financial Sector in India to be able to manage even a fraction of their wealth with same degree of honesty, sincerity or transparency as their counterparts in Europe. Also, the sector does not enjoy the same level of freedom as their European counterparts in managing even Foreign Wealth. 17)While post world war II, US companies in their quest for markets and expansion helped in developing wealth and consumerism in Europe, off course not to rule out europes own efforts and political and policy maturity along with their educated manpower and mature administrative machinery. Date: 25th Dec. 2011 By: Amit Bhushan Contact: amitbhushan@rediffmail.com Page 5

Even Japanese had support of American Capital and technology and so had rest of Asia. However in Asian scenario, China is still not open enough for economic evangelism of similar kind. Japan in its quest for markets may be making some serious attempts, but it may be viewed with various prisms and meet limited success. In such scenario, Asian stability and growth may be in jeopardy unless serious rectification takes place. 18)A likely 10% shrinkage in demand from Europe is likely to result in 1.5 trillion US $ hole in world economy (possible scenario in current crisis). This can be offset by a 30% growth in China, an unlikely scenario because of Chinas level of dependence on exports. However if entire Asia grows at near 10% for 3 years, the demand levels may be achieved. For this Asia must synergize its game plan. This may have several challenges but far larger dividends in the long run. 19)Europe has consumed capital like a bottomless pit. However, level employment, consumption level as well as starting of new ventures is down compared to past years of health. Signs of deterioration keep on rising above the horizon, with valiant efforts to extinguish them by European leadership followed by further capital impairment charged to European taxpayers. While at present Foreign investors may still be comfortable and may still loosen purse strings basis past experience with mature European leadership and administrative machinery, however at some point, they may look for a hedge and look at other locales. 20)As the investment sentiment would soar on the back of easy liquidity for period in most of the developed world mainly Europe, the United States and Japan i.e. the three big daddies (minus China off course) of the World Economy, the commodity prices would start to soar. This will be accompanied with soaring wages in China; a measure that is partly a result of Chinese policy of huge infrastructure enhancement in the deep hinterland in its Western and Central regions. This may cause rise of inflation in West (and in the larger World economy) as till now the inflation in the developed World was balanced by cheap Chinese imports which did not allow manufacturers to raise prices. Now, the Chinese wages are rising at 10-15% and its currency is rising at 3-5% against US Dollars and other Global currencies. There are no matching gains in productivity and this is causing manufacturers to shift a bit production out of China i.e. either to other emerging countries which can support cheaper production costs or back to the consuming centers. The US is witnessing a surge in blue collar production jobs. The Europe has not benefitted much partly because they didnt relied on China to that extent and they also have relatively higher production costs and time requirement for such adjustments to kick in. 21)The surge in jobs and prices of retail assets such as homes may offer some

solace to the US citizens for some time however as inflation sets in and starts showing its affects in time to come would put pressure back on manufacturers to cut costs. This will be accentuated by the fact unemployment rate is unlikely to come down in US to the pre-crisis levels and the movements such as Occupy Wall Street may gain sympathies from these classes as well as the low wage earning blue collar workers. The Corporates may be forced to reduce prices which in turn may force them to outsource Admin, Services, and Procurement jobs among others in order to cut costs and maintain profitability (which will be focused upon in a tight credit situation). 22)The US service industry faces a lot of competition from European firms which have significant market share within US. When US corporates face pressure to cut costs of services, they in turn would force Service providers to lower their costs or offer more discounts. Faced with such pressures and in order to out compete their European counterparts already in economic and political turmoil, the US services industry may seek to aggressively outsource jobs to cut costs in the next few years. This may also be forces upon them by competing services companies from emerging markets such as China who may make significant inroads on the back of their corporate customers needs (in US local markets), stronger presence of technology outsourcing companies, gains in process maturity of outsourcers, development in technology and market space, need to have cheaper delivery models to maintain market share among others.

Date: 25th Dec. 2011

By: Amit Bhushan Contact: amitbhushan@rediffmail.com Page 7