Bremmer-Roubini 2010 Global Forecast

Author: Nouriel Roubini  ·  January 28th, 2010  ·  258331http%3A%2F%2Fwww.economonitor.com%2Fanalysts%2F2010%2F01%2F28%2Fbremmer-roubini-2010-global-forecast%2FBremmer-Roubini+2010+Global+Forecast2010-01-28+14%3A00%3A37Nouriel+Roubinihttp%3A%2F%2Fwww.economonitor.com%2Fanalysts%2F2010%2F01%2F28%2Fbremmer-roubini-2010-global-forecast%2F › Share This Print

As meetings in Davos begin, political scientist Ian Bremmer and economist Nouriel Roubini share their region-by-region political and economic expectations for the year ahead.

The United States

Ian Bremmer: Beginning in theUnited States,the big political battle in 2010 is likely to be over financial regulatory reform, mainly because both Democrats and Republicans will be looking for an opportunity to play the populism card ahead of mid-term elections in November. The package that passed the House of Representatives will be moderated in the Senate, but I think we should still expect reform more ambitious than anything we’ve seen since the 1930s. Unlike health care reform or cap and trade, we’ll see some real bipartisan collaboration on this, though the approach of elections may push the fighters back into their corners. The final product will include a structure created to monitor and address systemic risk, and it will be largely financed by the financial community. We’ll also see changes on a wide range of issues from derivatives regulation to the role of the Federal Reserve. With elections looming, lawmakers will focus (at least their rhetoric) on issues like consumer protection and executive compensation.

Regulators will be given significant new discretionary powers, including some authority for breaking up institutions deemed a systemic risk. Unless the mood of voters improves considerably over the next several months, there’s a serious risk that newly empowered regulators will issue rulings that go well beyond what’s provided for in the legislation. With the government running record deficits and the Democrats trying to restore their standing with independents following tough recent election losses in Virginia, New Jersey, and most recently in Massachusetts, there’s also a risk of heavier-than-expected fees and taxes on the financial services industry—a political formula of making the big guy pay to make life more secure for the little guy.

Nouriel Roubini: In the first half of 2010, temporary factors (eg, fiscal and monetary stimulus, restocking of inventories, homebuyers tax credit, the census hiring hundreds of thousands of workers, and base effects) will lead economic growth to be closer to potential (about 3%), but this recovery will falter in the second half of the year with growth returning to an anemic, sub-par, below trend range closer to 1.5%. Factors that will drive this anemic recovery include the fizzling out of the fiscal policy stimulus, weakness in the labor markets, the need for the US consumer to save more and deleverage, the glut of capacity that will keep capex spending, residential and non-residential investment subdued, the damage to the financial system (both traditional banks and shadow banks) that will keep credit growth weak, and an anemic recovery of growth in most advanced economies.

There are also other risks: The exit strategy from the policy stimulus may lead—especially in an election year—to policy mistakes if the exit occurs too soon or too late; Republicans may regain partial control of Congress in November and this divided government will exacerbate fiscal deficits as Republicans will veto needed tax increases while Democrats block needed spending cuts; the outcome may end up being continued monetization of large budget deficits. More broadly, sovereign risk and/or the risk of monetization of large fiscal deficits is rising in many advanced economies including the Eurozone, the UK, and Japan.

Moreover, dollar funded carry trades will continue, given the loose stance of the Fed, and this will feed asset bubbles in the US and abroad that eventually could crash. Thus, we cannot rule out that the anemic recovery will turn, by 2011, into a serious double dip recession. To avoid other assets bubbles and a return of systemic risk, breaking up too-big-to-fail financial firms and returning to Glass-Steagall type of restrictions may be necessary but politically difficult to implement in spite of the recent proposals of the administration that finally move in the right direction.

Latin America

Bremmer: I do think we can expect a solid recovery in Latin America in 2010, as most governments in the region profited from sharply improved macroeconomic fundamentals to survive the slowdown with minimal damage. But a busy electoral calendar over the next two years, highlighted by Brazil’s presidential election in October, will tempt policymakers to inflate their political popularity via heavy state spending. Governments like those in Brazil, Mexico, Chile, and Peru will benefit from the sound macroeconomic policies of recent years. Political officials in places like Argentina, Venezuela, and Ecuador may find their popularity built atop shifting sands. The Cristina Fernandez de Kirchner government in Argentina, faced with rising inflation and an increasingly hostile congress, will prove especially vulnerable.

The really interesting story this year is in Brazil, where oil wealth and President Lula’s popularity have seduced the government into less disciplined macroeconomic policy and a more statist approach to foreign investment and strategic economic sectors. Lula’s preferred presidential successor, Dilma Rousseff, should be considered a slight favorite to win. If she does, she’ll deepen state involvement in Brazil’s economy. If opposition candidate Jose Serra wins, we’ll see less bias toward state-owned enterprises and tighter fiscal policy. Whoever wins, there is one obvious wide-open sector for foreign investment: transport infrastructure. There’s a lot of work to do to prepare Rio for the World Cup in 2014 and the Olympics in 2016.

Roubini: Latin America is divided between economies that follow market-oriented policies (while attentive to social issues) such as Brazil, Chile, Uruguay, Colombia, Peru, and more populist governments in Venezuela, Bolivia, Argentina, and Ecuador. The latter group maintained its political popularity and solid economic performance given that commodity prices recovered, but some of these regimes are fragile and weakening. Venezuela’s recent devaluation is a signal of a seriously mismanaged economy; in Argentina, the popularity of the Kirchner duo is faltering and the next president—whoever he may be—is expected to be more moderate and market friendly; Ecuador’s Correa populism is kept in check by the popularity of dollarization.

Even in market-oriented economies, important structural reform challenges remain. In Brazil, Lula maintained macro stability (sound fiscal policy and independent central bank but with some recent slippages in fiscal discipline), but he failed in implementing structural and micro reforms that would accelerate the potential growth of Brazil. Implementation of those reforms will depend on whether Jose Serra or Dilma Rousseff is elected president. In Chile, Pinera will have to work hard to ensure that more aggressive market-oriented reforms don’t lead to a return to greater income and wealth inequality.

Throughout Latin America, democratic transitions require that presidents (ie, Uribe, Lula, Correa, and Chavez) avoid tinkering with constitutions and electoral laws to seek endless terms in power. Otherwise, the nefarious regional tradition of strongmen and caudillos will return. Alternation of power is necessary to strengthen democratic institutions.

Asia

Bremmer: Turning toward Asia, the financial crisis and China’s rebound illustrate that Chinese growth will continue to depend in large part on access to consumers in Europe, America, and Japan. If the leadership moves too hard and too fast to shift the country’s growth model toward greater domestic consumption, it risks pushing millions of export-sector workers into the streets. The leadership won’t be taking that risk in 2010. It’s also clear that the surge of state spending meant to revitalize a slowing economy has largely bene
fited state-owned companies, intensifying a state capitalist trend already well underway before Western banks began to implode and the global economy slid into recession. That’s bad news for foreign companies hoping to find a level playing field once they enter the country. And it didn’t take long in 2010 to find how angry at least one large foreign company is about China’s so-called “indigenous innovation” program. Google now has a tough choice to make, and the only sure thing is that China’s government won’t grant Google’s wish to offer an uncensored version of its product to Chinese consumers.

In Japan, we’re seeing a level of political upheaval virtually unprecedented in a major industrial democracy, as the Democratic Party of Japan–led government looks to fundamentally shift the balance of domestic political power following decades of rule by the Liberal Democratic Party. Given Japan’s fiscal constraints, this is a really bad time for such an ambitious plan. Don’t be surprised if DPJ kingmaker Ichiro Ozawa is shopping for a new prime minister before year’s end.

Roubini: The Chinese policy response to the global financial crisis has led to a rapid recovery of economic growth. But there are significant risks. This growth recovery has been led by an unsustainable credit boom and bubble. Plus, monetary and credit policy remains too loose—in spite of the recent tightening—and is feeding economic overheating, rising inflation and asset bubbles in real estate, equity markets, and commodities. Given the faltering of net exports with the retrenchment of US consumers, China should stimulate private consumption demand and reduce the savings rate. But this requires structural reforms such as the creation of a social safety net and the reversal of the subsidization of state-owned sectors by the household sectors that the exchange rate and interest rate policies of China have caused. China instead has continued with a model of growth based on fixed investment (infrastructure and more capacity added by state-owned enterprises) that is leading to a glut of capacity in heavy industry sectors and in commercial and residential real estate. The Chinese currency policy will remain a source of rising trade tension with the US and Europe, with rising protectionist sentiments in advanced economies.

Japan needs structural reforms to increase a potential growth rate that is now stuck below 2%. But those reforms are not likely to be accelerated by the new DPJ administration. Long-term challenges such as ageing and high levels of public debt (now close to 200% of GDP) are exacerbated by an anemic recovery as a strong yen will constrain the growth of net exports and increase deflationary pressures.

The rest of Asia is recovering after a severe recession, but its fortunes—with the partial exception of India and its robust domestic demand—depend too much on the growth of advanced economies and the sustainability China’s recovery.

Europe

Bremmer: In Europe, we’re seeing the return of political risk to the Eurozone in a big way, as the line between developed and developing states becomes a little less distinct. Member states’ coordination on fiscal policy has been breaking down for awhile, but a sharp economic slowdown has made matters worse. Markets may be underestimating risks of default among the most vulnerable; EU support is something less than a sure thing. Even without a default, governments will respond to economic stagnation with spending meant to prop up vulnerable sectors. As in America and China, it’s all about jobs, jobs, jobs, and jobs.

In fact, stubbornly high unemployment is an especially serious problem in Eastern Europe, where a host of elections in 2010 could heighten tension and stoke unrest. Upcoming elections in a number of key countries materially increase the likelihood of instability. Nervous policymakers and legislators will face the temptations of channeling the frustration and anger of the unemployed with protectionist, populist, even xenophobic policy plans. Ukraine, Hungary, and Latvia are especially vulnerable, but even Poland could hit some turbulence.

Another issue to worry about: If one of the big Western European banks active in Eastern Europe finds itself in trouble, rescue efforts could become a mess.

Roubini: The recovery of the Eurozone and the rest of the advanced economies in Europe will also be anemic and below trend for several reasons: Potential growth in the Eurozone (2%) is lower than in the US (closer to 3%). Most Eurozone economies could not do much counter-cyclical fiscal stimulus as they started—even before the crisis—with large fiscal deficits, large stocks of public debt, and financial systems that are both too big to fail and too big to save, because the sovereign does not have the resources to bail them out in case of a systemic crisis. Indeed, sovereign risk is rising in the Eurozone—currently in Greece and Ireland but soon enough in Spain and other periphery economies. The European Central Bank has followed a tighter monetary policy than the Fed and may exit from low rates and QE sooner, thus hampering the economic recovery. Financial institutions in Europe have not fully recognized the losses on their toxic assets and have large exposure to Central and Eastern Europe, where the economic and financial crisis are not yet over. Moreover, the strength of the euro is hampering the recovery of the Eurozone economies, and the Club Med economies have both a competitiveness and a public debt problem, as nominal wages rising faster than productivity have led to rising unit labor costs, real appreciation, and large external imbalances. Thus, even the viability of the European Monetary Union may be challenged over the next few years.

The Middle East

Bremmer: It’s much smoother sailing this year in the Persian Gulf, despite Dubai’s well-publicized troubles and the multiple-front fighting in Yemen. Saudi Arabia is looking especially strong. The oil price rebound has boosted the Saudis more than many other oil producers thanks to its conservative budgetary assumptions, and it looks as though the eventual political succession process will be handled smoothly. Most importantly, the Saudis are realizing the potential of long-neglected sectors, regions, and segments of the population. The socially more liberal Bahrain is doing the same. Abu Dhabi has politically stabilized the UAE.

Roubini: The collapse of oil prices during the global recession led to a massive slowdown of growth in the Middle East, but the recovery of oil prices from a low of $30 in early 2009 to levels ranging from $75–$80 in recent months has triggered a recovery of growth and an improvement of fiscal conditions. Dubai’s troubles may reverberate in other parts of the Gulf, where a real estate bubble took place, but they will otherwise be contained. Policymakers throughout the Middle East have the medium- to long-term challenge of investing in infrastructure, education, health, and other public services to improve the skills and economic opportunities of growing numbers of young people, diminishing the political threats that rising Islamist movements in both Sunni and Shia countries engender. As long as oil prices remain at current levels, the budgets of the region’s energy-exporting economies will allow this crucial structural transformation and modernization of these economies while containing risks of social and political unrest. These structural reforms need to be accelerated. In countries like Saudi Arabia, a lost generation of youth raised on Islamic education alone lacks the skills to be productive in a modern economy.

Africa

Bremmer: InAfrica, countries like Kenya, Angola, and Ghana are part of an important good news story. In all three, governments emerged from the economic crisis with an even stronger commitment to economic liberalization. Investors worried that South African Pres
ident Jacob Zuma would push his country sharply to the left have learned that he is strong enough to resist pressure from trade unionists and communists, who want him to shed the pragmatic approach of his predecessors. The most worrisome regional story is in Nigeria, where the meltdown of the country’s banking sector and a fall in oil revenue have pushed the government toward emergency capital controls. Only after considerable fumbling has a new central bank governor stabilized the country’s banks. The country’s oil reform bill will cast a serious shadow over the foreign investment climate.

Roubini: The African continent suffered a lot from the global economic crisis, with its growth sharply slowing to 1% from the average 6% of the previous four years. The recovery of the global economy from its severe 2009 recession will improve the growth rate of the African continent even if a return to the high growth rates of the pre-crisis period is unlikely. The continent is divided between economies committed to economic reforms and with more stable political systems that can grow at a robust rate (ie, South Africa, Kenya, Ghana, Angola, Botswana, and Tanzania) and others that are still stuck in an underdevelopment trap. A food crisis may be also brewing in parts of sub-Saharan Africa, as rising food prices and food shortages make the specter of famines a serious threat.

Ian Bremmer is the founder and president of Eurasia Group (www.eurasiagroup.net), a leading global political risk research and consulting firm.

Nouriel Roubini is the co-founder and chairman of Roubini Global Economics (www.roubini.com), an innovative economic and geo-strategic information service and consultancy.