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The World Economy : What Is Causing the Turbulence ?

The World Economy : What Is Causing the Turbulence ?. Erling Røed Larsen, professor BI Norwegian Business School Avinor , November 8th 2012. 1. Economic turbulence. The Euro under pressure The U.S. in bad weather , but QE3 Chinese growth lower than before

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The World Economy : What Is Causing the Turbulence ?

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  1. The World Economy: What Is CausingtheTurbulence? Erling Røed Larsen, professor BI Norwegian Business School Avinor, November 8th 2012 1

  2. Economicturbulence • The Euro under pressure • The U.S. in bad weather, but QE3 • Chinesegrowthlowerthanbefore • Germany: 2-year bonds 0% yield • Japan launches massive monetaryexpansion • The two most pressing questions: • Whathappens to the euro? • Whatway forward for China? • To answer: We must know whatcausedthe storm

  3. Whatwe do know • Is thattheworld’seconomiccapacity is at least as large as in 2007

  4. The real economy is intact • The factoriesarethere • All housesare still standing • Ourknowledge is undiminished • Mankind’stechnology has not evaporated • Workers have maintainedtheir skills • Raw material and inputs have not vanished • The real economy is intact • And: we have more needs and wishesthanresources • So, whydon’tweusewilling and availableworkers?

  5. The world economy is complex • And that’s a goodthing most ofthe time • Most ofthe time, peoplewantdifferentthings • Someprefer to sell • Someprefer to buy • Problems occurwheneverybodywantsthe same thing

  6. Whatthe world cannot handle: synchronization • Miniature market: 10 workers • Everybodysays: ”I willbuy. But I insistuponselling first.” • No. ofdeals: 0 • If no. 1 says: ”OK. I’llbuybeforeselling.” • Then no. 2 buys from no. 3. • Then no. 3 buys from no. 4. • … • Then no. 10 buys from no. 1. • No. ofdeals: 10 • Lesson: synchronization is scary in macro. Not everybodycan do the same thing at the same time

  7. The crisis is man-made a solutioncan be man-made • Not everycountrycanexport • Somecountries have to import in order for exporters to export • Main challenge: trade imbalances • The world does not trade withthemoon • Thus, theworld’s trade surplus = theworld’s trade deficit • Butdeficits entaildebt • Debtinvolvespolitics • Debtincludes a conflictofdistribution

  8. The world’sfinancial system is a sequenceof domino pieces • Late 90s and 2000s: • China did not useitsexports to buy imports • Instead, it bought American 10-year bonds • Long interest rates fell • The yieldcurveflattened • Banks’ profitabilitytook a hit • Venturedintosecuritization • IssuedNINJA-loans for a fee and sold them to Wall Street • Germanyboughtsecurities • The world is inter-connected

  9. The Euro crisis is also a trade crisis • Goodsgooneway: South • Debt (IOUs) og theotherway: North • Whythisimbalance? • Differences in productivity (and wages) • Before: Corrected by devaluations • Now: Wagecuts or labormobility

  10. A thousandyears from now • Everybodywill have forgotten Messi, Bolt, and Phelps • Perhapseven Springsteen, Buffet and Merkel • But: • Theywillrememberthat 1.3 billion peoplewasadded to the world economy in the 2000s

  11. It is worththinkingaboutwhat • would have happenedif China hadtradedexports for imports and not American securities • It would have avoideddestabilizing trade • Good news: It’s happening. NOW!

  12. Whateverybody must know aboutdebt • Money and debt never disappear • If Paul has liabilityof 1 million  John has an assetof 1 million • If Paul pays  John gets 1 million • If Paul doesn’tpay  Paul’s sellers have gotten 1 million • Debt is a zero-sum game • Debt is difficult, not becausesomeonedoesn’tpay or not • Butbecausedebtrestructuringaffectssupply and demandof NEW debt

  13. Main challenges for the world economy • 1. AcceptanceofChina’snewrole • 2. FiguringoutEuro-zonemechanisms • 3. Restarting the US growthlocomotive

  14. 1. China • China’sexports • Entailedshiftofpower • Impliedaccumulationofassets • Now: Internaldemand • China recalibratesitseconomicmodel • Exportsfinance more imports • Re-allocationinternally: more consumption, less investment

  15. 2. Euro-zonemechanisms • Do London and Manchester needtheirowncurrencies • No. Theycan have the same interestlevel and exchange rate • Do England and Bolivia needtheirowncurrencies? • Yes. Economy, law, language, and geography • The euro was a politicaldeal, not an economictool • 17 gearsreduced to 1

  16. Why is labormobility so important? Ifeconomiesperformdifferently, policymakers must adjust speed Interest rates can do it Economytoo fast: higher rates Economytooslow: lower rates Labormobilitycansubstitute for interest rate flexibility Butmobility LOW in euro-zone Thenwages must adjust Obstacle: Peoplerefuse!

  17. 3. The United States • Someencouragingsigns • Thinkaboutthis: • Countries have highgrowthwhentheyare far behindthe U.S. in GDP/cap • Verydifficult to overtakethe U.S. • The U.S. possessesextremeability to innovate and renovate • Patents, mobility, research

  18. American challenges • 1. Housing market  lowmobility • Thus, QE3 $40 billion per month • 2. Skills mismatch? • Gotconstructionworkers – needappcoders • Whatwouldhelp? • 1. Write-offs • Housing market is key • 2. Someinflation • Real debt og real interest rates reduced

  19. Concludingremarks • Turbulencecaused by trade imbalances • China enteredthe world economy • Germany’sexportssoared in euro-zone • New roles: China, U.S., Japan, and Germany • Is it possible to be somewhatoptimistic? • Yes. About China and U.S. • No. Euro-zonewillnot have happy ending

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