By Graham Vanbergen: On January 30th this year, Pierre Olivier Gourinchas of the IMF wrote, “The global economy begins the final descent toward a soft landing, with inflation declining steadily and growth holding up. The clouds are beginning to part.”
Two months before that, the European Stability Mechanism, an intergovernmental organisation established by member states of the euro area, declared that “the world economy is on course for a soft landing (in 2024) after a bumpy journey.”
Many other respectable organisations and experts have said the same over the last three months about the prospects of 2024 and beyond. But the reality is not that clear-cut. It is true to say that the global economy did not slide into recession last year despite the fight against inflation and the sharp rise in interest rates.
Surprisingly, the upbeat mood of economic analysts has not been dampened by the ongoing wars in Ukraine and Gaza and the attacks against commercial shipping in the Red Sea. Indeed, if anything, any expected slowdown was seen as a healthy correction to the inflationary pressures caused by excessive demand.
The optimism we read about is often centred around the surprising resilience of the US economy and productivity gains expected by the growing and global use of Artificial Intelligence systems alongside the performance expectations of several large emerging market and developing economies, as well as fiscal support measures supporting China’s economy.
However, other warning signs need to be considered amongst all the optimism.
We’ve all read about 2024 being the year of democracy, where half of the world’s population gets to vote. But with that, government spending usually surges to artificially boost the economy, increasing public deficits, which require retraction at a later date to balance the books. Tax cuts are often used as the same tool to prompt voters, something akin to a bribe. Taxpayers’ money is then used to pay interest on rising debt, worsening the situation over time.
Then there is the world’s second-largest economy – China. Leaving aside the reality of its somewhat suspect self-declared growth of 5.2 per cent last year, the country looks like it is on a downward course that the government is struggling to contain. Its real estate market, estimated to be worth something like $110 trillion, is imploding. Government debt used to stabilise markets is rocketing. National debt against GDP has increased from 70 per cent to 87 per cent in short shrift. China could even enter a period like Japan did from 1991 to 2001. Japan experienced a significant slowdown in its previously buoyant economy. The economic slowdown was partly caused by the Bank of Japan (BOJ) hiking interest rates to cool down its overheated real estate market – that then lost 45 per cent of value over a decade, the so-called ‘lost decade‘. It has still not fully recovered.
China is also contending with a deteriorating trade relationship with the USA, which is only making matters worse.
In the meantime, it was clear that Europe’s economy had failed to expand during 2023. According to updated figures by the EU statistics agency Eurostat, zero economic growth for the October-to-December period of last year follows the same in the three months before that, narrowly missing a technical recession.
And whilst war rages on their doorstep and the spectre of Donald Trump in The Whitehouse becomes more of a reality, a very costly economic readjustment will be needed if America pulls the plug on its support of Ukraine – or indeed, as former United States ambassador to NATO said just last month – Trump ends America’s full participation in the security alliance. Surprisingly, European leaders do not appear to be preparing for such a scenario, just as ammunition stockpiles are being depleted faster than they can be replenished.
Europe is also grappling with the adverse economic effects of US President Joe Biden’s euphemistically named Inflation Reduction Act (IRA).
Whilst the IRA uses tax incentives to entice European companies on the one hand – it is, for all intents and purposes, a protectionist trade policy on the other. And whilst the IRA may be injecting a short-term booster to the US economy, its long-term consequences could mirror those of the 1930 Smoot-Hawley Tariff Act, which activated an international trade war and helped bring on the Great Depression. However, Trump’s objective is more political and extreme as he has signalled an intent to impose a hefty 10 per cent tariff on almost all imported goods – a strategy that would ruin the balance of the global trading system almost overnight.
It is understandable, therefore, that European countries would want Biden to win another term in office. But how much longer will America keep funding this war of attrition against Russia regardless of who resides in the Whitehouse? The USA has debt to GDP of 129 per cent and rising whereas Russia has 18 per cent. The former has all the constraints of a democracy – a truly divided one at that – the latter does not.
Then, there is basic economics.
If interest rates remain stubbornly high, which looks increasingly likely, governments will be forced to choose fiscal tightening such as austerity measures – or more inflation. The UK, for example, under the doomed 42-day premiership of Liz Truss, learned this lesson from the international money markets, which punished the country for proposing unfunded tax cuts.
The likelihood for 2024 is that global output will slow in 2024. High interest rates will likely persist in their quest to crush inflationary pressures with the byproduct of suppressing economic activity. The World Bank and OECD expect global growth to be around 2.6 per cent, a third down from pre-pandemic 2019. But is even this too optimistic?
The problem is, the cause for optimism from so many commentators neglects to consider what if Kyiv fell, if the cauldron that is the Middle East seriously boils over, if Trump wins the Whitehouse, if China’s economy went into reverse, that global trade fragmented heaping more pressure on surging financial pressures?
And yet, there is still more to consider.
As the Brookings Institute stated in January – “It’s remarkable that the sharpest increase in global interest rates in 40 years so far hasn’t caused the type of havoc we saw in the 1980s.”
The number of developing economies in debt distress reached its highest level in almost 25 years. They demonstrate what happens in more difficult times, just as they are now. A combination of weak growth, high real interest rates, and elevated debt levels makes servicing debt more difficult and pushes more of them into further financial stress. As the Brooking Institute predicts – “Financial stress in developing economies could reduce global growth by about 0.2 percentage point this year, which would reduce growth in developing economies by 0.6 percentage point.”
Another threat to the world economy comes from a study published by the World Economic Forum last October. It concluded that damage from climate change in the previous twenty years had cost over $16 million an hour. But in just 25 years, that cost will rise to an eyewatering $2.5 trillion per year or $2.8 billion an hour – and that is just the cost of damage to infrastructure, property, agriculture, and human health – not transitioning to renewables to help solve the problem.
Soft landing predictions for the global economy have yet to consider that through the fog of many uncertain outcomes, the pilots can’t see the runway, the landing gear is not that robust, or that the runway has potholes. It takes a lot to move the dial on the global economy, but anything can go wrong and in any order – and in this more precarious and unpredictable world – it probably will.