Guideposts for the Post-Bubble World
Why is it unlikely the fallout from the U.S. subprime crisis will come to a quick end?
August 15, 2008
What are most people losing sight of?
“The progression of bubbles is an insidious process. From equities to property to credit, the bubbles have expanded in scope and risk.”
Is there a new form of contagion?
“Yes. As I see it, a bubble-prone U.S. economy became a breeding ground for a gathering storm of systemic risks in the United States and in an increasingly interdependent world economy. And now, we are left to pick up the pieces.”
How about the decoupling argument?
“Decoupling — the supposed untethering of developing economies from the developed world — is antithetical to the linkages that have become central to the powerful globalization trends of the past five years.”
So what about the fallout in the United States?
“The United States will now have to come to grips with a much slower growth trajectory — with real GDP growth likely to slow from the 3.2% trend of the past 13 years to no higher than 2% over the next two to three years or longer.”
And the rest of the world?
“This should prove to be a very challenging outcome for the rest of the world — especially for those developing nations, which have derived so much of their economic sustenance from exporting goods to over-extended U.S. consumers.”
What’s the way out for the rest of the world?
“The task here is essentially the opposite of that which faces the United States — for export-led developing economies to shift the mix of growth toward domestic demand, especially private consumption. That won’t be easy for nations who have relied on cheap currencies, surplus saving and infrastructure strategies as the principal means to achieve spectacular progress on the road to economic development.”
How optimistic are you about this shift actually occurring this time around?
“With their major export market — the United States — now under pressure and with little consumption offset likely elsewhere in the world, the developing world has little choice other than to embark on a consumer-led rebalancing of its own.”
What are the economic consequences for the developing world?
“This probably means slower economic growth in the developing world as well for the next several years — with the 7.3% average annual growth pace of the past years conceivably slowing into the 5% vicinity over the next two to three years.”
Which lessons do you see for the United States?
“If this crisis is anything, it is a wake-up call. For all too long, the United States broke many of the most important rules of conduct for a leading economy. It failed to save. It levered asset bubbles in both equities and homes to sustain unparalleled excesses in current consumption.”
“It went deeply into debt to sustain that course of action and borrowed heavily from the rest of the world to close the funding gap. The U.S. authorities were complicit in this binge — especially a central bank that condoned unbridled risk-taking and excessive monetary accommodation.”
Why did this go on for so long?
“The longer the United States sustained the unsustainable, the more it believed in the perpetuity of its charmed existence. The real message of this crisis is that this game is now over. But steeped in denial and feeling the heat of voters in a politically charged presidential election year, Washington politicians insist that the game can go on.”
So what’s the answer for a post-bubble U.S. economy?
“More than anything, the United States now needs ‘tough love’ — a new course that owns up to years of excess and the remedies those excesses now require. It is not that difficult to fathom the broad outlines of what the new approach might entail — more saving, as well as more investment in both people and infrastructure.”
What else needs to happen?
“An energy policy might be nice as well — as would be more prudent stewardship of the financial system. This program won’t win any popularity contests. But in the end, it is America’s only hope for a sustainable post-bubble prosperity.”
Editor’s Note: For an in-depth discussion of Mr. Roach’s latest views on the global economy, see his August 1, 2008 essay, “Pitfalls in a Post-Bubble World,” which is available here (PDF format).
"We can expect slower economic growth in the developing world for the next several years — with the 7.3% average annual growth pace of the past years conceivably slowing into the 5% vicinity."
"More than anything, the United States now needs 'tough love' — a new course that owns up to years of excess and the remedies those excesses now require."
"As I see it, a bubble-prone U.S. economy became a breeding ground for a gathering storm of systemic risks in the United States and in an increasingly interdependent world economy."
Stephen S. Roach
Former Non-Executive Chairman of Morgan Stanley Asia Stephen S. Roach is a senior fellow at the Jackson Institute for Global Affairs, Yale University, and a member of the Yale School of Management faculty. He was previously the Non-Executive Chairman of Morgan Stanley Asia (a position he held after serving as managing director and chief economist […]