The Straits of America

Nouriel Roubini



NEW YORK – Macroeconomic indicators for the United States have been better than expected for the last few months. Job creation has picked up. Indicators for manufacturing and services have improved moderately. Even the housing industry has shown some signs of life. And consumption growth has been relatively resilient.

But, despite the favorable data, US economic growth will remain weak and below trend throughout 2012. Why is all the recent economic good news not to be believed?

First, US consumers remain income-challenged, wealth-challenged, and debt-constrained. Disposable income has been growing modestly – despite real-wage stagnationmostly as a result of tax cuts and transfer payments. This is not sustainable: eventually, transfer payments will have to be reduced and taxes raised to reduce the fiscal deficit. Recent consumption data are already weakening relative to a couple of months ago, marked by holiday retail sales that were merely passable.

At the same time, US job growth is still too mediocre to make a dent in the overall unemployment rate and on labor income. The US needs to create at least 150,000 jobs per month on a consistent basis just to stabilize the unemployment rate. More than 40% of the unemployed are now long-term unemployed, which reduces their chances of ever regaining a decent job. Indeed, firms are still trying to find ways to slash labor costs.

Rising income inequality will also constrain consumption growth, as income shares shift from those with a higher marginal propensity to spend (workers and the less wealthy) to those with a higher marginal propensity to save (corporate firms and wealthy households).

Moreover, the recent bounce in investment spending (and housing) will end, with bleak prospects for 2012, as tax benefits expire, firms wait out so-calledtail risks” (low-probability, high-impact events), and insufficient final demand holds down capacity-utilization rates. And most capital spending will continue to be devoted to labor-saving technologies, again implying limited job creation.

At the same time, even after six years of a housing recession, the sector is comatose. With demand for new homes having fallen by 80% relative to the peak, the downward price adjustment is likely to continue in 2012 as the supply of new and existing homes continues to exceed demand. Up to 40% of households with a mortgage 20 million – could end up with negative equity in their homes. Thus, the vicious cycle of foreclosures and lower prices is likely to continue – and, with so many households severely credit-constrained, consumer confidence, while improving, will remain weak.

Given anemic growth in domestic demand, America’s only chance to move closer to its potential growth rate would be to reduce its large trade deficit. But net exports will be a drag on growth in 2012, for several reasons:

· The dollar would have to weaken further, which is unlikely, because many other central banks have followed the Federal Reserve in additionalquantitative easing,” with the euro likely to remain under downward pressure and China and other emerging-market countries still aggressively intervening to prevent their currencies from rising too fast.

· Slower growth in many advanced economies, China, and other emerging markets will mean lower demand for US exports.

· Oil prices are likely to remain elevated, given geopolitical risks in the Middle East, keeping the US energy-import bill high.

It is unlikely that US policy will come to the rescue. On the contrary, there will be a significant fiscal drag in 2012, and political gridlock in the run-up to the presidential election in November will prevent the authorities from addressing long-term fiscal issues.

Given the bearish outlook for US economic growth, the Fed can be expected to engage in another round of quantitative easing. But the Fed also faces political constraints, and will do too little, and move too late, to help the economy significantly.

Moreover, a vocal minority on the Fed’s rate-setting Federal Open Market Committee is against further easing. In any case, monetary policy cannot address only liquidity problems – and banks are flush with excess reserves.

Most importantly, the US – and many other advanced economiesremains in the early stages of a deleveraging cycle. A recession caused by too much debt and leverage (first in the private sector, and then on public balance sheets) will require a long period of spending less and saving more. This year will be no different, as public-sector deleveraging has barely started.

Finally, there are those tail risks that make investors, corporations, and consumers hyper-cautious: the eurozone, where debt restructurings – or worse, breakup – are risks of systemic consequence; the outcome of the US presidential election; geo-political risks such as the Arab Spring, military confrontation with Iran, instability in Afghanistan and Pakistan, North Korea’s succession, and the leadership transition in China; and the consequences of a global economic slowdown.

Given all of these large and small risks, businesses, consumers, and investors have a strong incentive to wait and do little. The problem, of course, is that when enough people wait and don’t act, they heighten the very risks that they are trying to avoid.

Nouriel Roubini is chairman of Roubini Global Economics ( and Professor at the Stern School of Business, NYU.

Copyright: Project Syndicate, 2012.

Europe’s economies

A false dawn

The recession has been mild so far. But things are likely to get much worse

Jan 14th 2012


A NEW year can bring a burst of optimism, even in as troubled a place as the euro area. Stockmarkets have been a bit cheerier, helped by better jobs and output figures from America. Bond investors seem less skittish: on January 5th an €8 billion ($10.4 billion) auction of French government bonds was comfortably oversubscribed. The €498 billion that banks were able to borrow cheaply for three years from the European Central Bank (ECB) in December has helped to settle nerves.

The news on the economy has also been a bit better. A closely watched index of business activity, based on surveys of purchasing managers across the euro zone, has risen for a second month in a row. The German economy has stayed resilient despite troubles on the European Union’s southern rim. It grew by 3% in 2011, according to figures from the statistics office this week. Business confidence perked up in the last two months of the year on the gauge published by Ifo, a Munich research group. Unemployment fell in December to 6.8%, the lowest level since 1991.
Yet the figures have not been so perky as to suggest the euro-zone economy will avoid recession. German GDP probably shrank in the fourth quarter of 2011, says the statistics office. French GDP was flat, says its central bank. Add in grimmer figures from Italy, Spain and elsewhere, and euro-zone GDP may have fallen by some 0.3-0.4%. The bright start to the year might mean that the current quarter is no worse than the previous one, but much will depend on whether financial markets remain calm. With so much ahead that could go wrong, the chances of that are slim.

The worries begin with sovereign debt. Barclays Capital reckons that euro-zone governments must raise €218 billion in new bonds in the first quarter, of which €167 billion is needed to pay maturing debt. Some €300 billion of short-term bills must also be sold. Italy will be the largest single issuer: it has two chunks of debt due in the last weeks of January and February. The government is likely to pay a high price for its money: yields on ten-year bonds are close to 7%. A bigger concern is that investors might snub one of Italy’s bond auctions.

That would be less of a worry if the euro zone had a stronger safety net for countries that have fallen foul of bond markets. But the EU summit in December deferred until March a discussion on whether to raise the €500 billion lending capacity of the euro zone’s rescue fund. The standing of the fund relies on the credit of the countries that back it, including France, which is threatened with a two-notch downgrade to its AAA credit rating by Standard and Poor’s. A decision on whether to downgrade all euro-zone government bonds is due before Marchone more reason to fear the worst.

The biggest danger is Greece. The country’s slow-motion bank run has continued (see chart 1). Its central bank has provided emergency liquidity to banks to make up for lost deposits, which have dropped by more than a quarter since 2009. An IMF report on Greece just before Christmas was sobering. It says GDP probably shrank by 5.5-6% last year and may fall by a further 3% in 2012. Deepening recession makes it harder for Greece to meet its budgetary targets. The pace of reform and of privatisation has been slower than hoped. Credit is scarce and dear.

The delay in reaching an agreement with private-sector creditors on the losses that they should bear on Greek government bonds has not helped. The IMF reckons that, if all private bondholders agreed to take a 50%haircut” (ie, lose half the value of their bonds) and if Greece were to meet its fiscal targets, public debt might eventually fall to 120% of GDP. That is still a heavy burden. The 50% target agreed on at October’s EU summit is the minimum required to make the debt sustainable. Greece has a €14.4 billion bond due on March 20th. A deal is needed soon so that bonds can be exchanged before then for longer-dated ones. A bigger haircut, or one that is not voluntary, would jolt investors. And there is always a risk that Greece might fail to meet its commitments or that it might fall out with its “troika” of rescuers: the EU, IMF and ECB.

Bond-market indigestion; a rating downgrade; the worsening mess in Greece; or the wrangle over private-sector losses: any of these could rattle confidence and trigger a much deeper recession. Even in the absence of an accident, conditions are hostile to growth. Governments are cutting spending and raising taxes to assuage bond investors, as well as their would-be rescuers in Brussels and Frankfurt. Banks are required to meet EU capital-adequacy targets by June. Raising fresh money is proving tricky and so banks are rationing capital by selling assets. They are reluctant to make new loans. All this has taken a toll on confidence, which fell for a tenth month in December, says the European Commission.

The misery is spreading far beyond the euro area. Sweden’s economy rebounded more strongly even than Germany’s in 2010 but is now flirting with recession. Manufacturing fell by almost 2% in November. Sweden’s central bank lowered its main interest rate in December in response to the euro gloom (as did Norway’s).

In the east industrial production in Poland, Hungary and the Czech Republic has held up surprisingly well so far, says Gillian Edgeworth, of UniCredit. But capital flows—including bank loans from the euro zone—are drying up and countries with large current-account deficits, such as Turkey and Poland, rely on these. Currency weakness is one indicator of the region’s distress (see chart 2). Turkey’s central bank has intervened in the foreign-exchange market and allowed interest rates to rise to support the lira.

What is a worry in eastern Europe is a small blessing in the west and south. The euro’s recent fall against the dollar is helpful to exporters, especially in the struggling periphery (see Buttonwood). Sadly there are many more reasons to be fearful than cheerful about the euro zone.

January 11, 2012
France's Surreal Presidential Race

What kind of country would France be if it abandoned its 35-hour work week (it actually kills jobs), set up an affirmative action program for its Muslim immigrants (featuring a zero-tolerance framework for their assimilation), and scaled back its ambitions for Europe as a global political force to more attainable goals?

Answer: An imaginary one. There are no signs of it happening.

Roughly 100 days before voting in an elimination round April 22, and then in a final ballot on May 6, the French presidential election campaign so far involves back and forth on possible variations in French comforttinkering with, adjusting and applying new coats of paint to familiar and nonthreatening aspects of national life.

There’s something surreal here. Neither Nicolas Sarkozy, who has been a brash president for the last five years, or the presumedly bland François Hollande, named Socialist candidate on Oct. 16, is talking about the perspective for painful change.

You can’t argue about its necessity. In 2012, France lives with:

An unemployment rate of 9.8 percent, a looming recession, and a likely loss of its triple-AAA credit rating.

A report last year that detailed the emergence of Muslim immigrant communities resembling parallel societies, while a Le Monde poll showed that 61 percent of the French regard Muslim integration as failed because of its refusal by the immigrants themselves.

A hardened notion among the French that, with the E.U. debt crisis, their country has clearly become a subordinate player to Germany.

For all of France’s accomplishments and uniqueness, a sense of lost identity and decline resonates.

At a moment that seems to command existential choice, the candidates are responding piecemeal and with calculation in a manner the French callpetit bras” — taking hesitant, little strokes where a full swing is needed.

A confetti swirl of isolated ideas and generalities (literallytruth, hope, fairness and determination) is present rather than coherent blueprints for national overhaul. Just an example: The two likely finalists have proposed either tax code alterations that would irritate the rich, while avoiding the economy’s fundamental rigidities, or arguments for a change in value-added taxation that could help businesses increase competitiveness, although only in theory and probably not in the long term. This says Mr. Sarkozy and Mr. Hollande share an ungracious view of the electorate’s capacity for accepting givebacks.

Their refusal so far to confront sweeping structural change reads as if they agree with the notion that the French perceive almost any change in the system as a threat because virtually everyone’s self-interest is wired to a state-protected status quo. The biggest issue of avoidance for the election campaign is structural reform of the labor market.

As a counterpoint in a decade when countries in northern Europe and Germany were creating more flexible rules for relations between workers and employers, a Socialist government in Paris installed the 35-hour work week in 2000.

No other country has adopted anything similar, but the law, which has made companies shy from hiring, is enshrined here as a monument to progress. Nicolas Sarkozy has never attempted to abolish its symbolism.

The Socialist Party talks fairly vaguely about its interest in a Danish model called “flexicurity,” which exchanges job security for a supple approach to hours, pay and delocalization. But France’s trade unions, representing the biggest bloc of Socialist votes, have made clear it is a nonstarter without cash enhancements and no limitations on strikes.

The campaign’s second essential but absent debate goes to how Islam adapts to French society. Seeking the presidency in 2007, Mr. Sarkozy recognized that the alienation of Muslim immigrants was tearing apart France’s social cohesion, and proposed what he called affirmative action à la française. The pledge was not fulfilled or repeated.

Now, it would get in the way of the incumbent’s hopes to gather in votes from the anti-immigration National Front party in the election’s runoff round. The Socialists, also concerned about loss of white working class support, don’t advocate affirmative action.

As for the French place in the world, and how the E.U. can serve France as an amplifier, a traditional presidential election leitmotif, the debt crisis makes expectations of a multipolar world, with Europe as a powerful pillar, seem very hollow. The French have heard nothing about a reasonable alternative to its leaders’ hamstrung ambitions — like a new focus on an organic trans-Atlantic trade community in response to China’s economic challenge.

Mr. Hollande thinks that by avoiding a clear set of campaign commitments, he can circumvent anything specific that might threaten his wide lead over Mr. Sarkozy in current polling. The president concentrates on casting himself to the French not as a dispenser of much-need reform medicine, but as their worldly, combative protector.

That common burst of subterfuge means an election campaign poor in meaningful, coherent ideas. In this country, normally so productive in inventiveness and nerve, there’s nothing new or promising going on as it stutters and drifts toward choosing a president.


The ugly-bug ball

Traders are picking on the euro again

Jan 14th 2012

ALTHOUGH 2011 was filled with headlines about the potential demise of the single currency, the euro did not actually fare that badly in the foreign-exchange markets. Its trade-weighted decline for the year was only 3.3%.

But traders went into 2012 betting on a further fall. Figures from the Commodity Futures Trading Commission showed a record short position in early January. Sure enough, the euro slipped below $1.27 in the year’s first trading days, before recovering slightly.

Before predicting a collapse in the euro’s value, however, it is worth remembering a couple of salient facts. Markets often make sharp moves in the first days of January that are not sustained in the rest of the year. The euro fell by 3.6% against the dollar in early 2011 before stabilising. The presence of so many bearish bets is a classic contrarian signal that all the bad news may be in the price.

Secondly, foreign-exchange markets are an “ugly contest” in which traders and investors have to pick the least-worst currency. Most developed countries would like to see their currencies fall in order to help their exporters.

Switzerland is trying to cap the level of the franc. Japan has repeatedly intervened to prevent the yen from strengthening too far. America has seen its debt downgraded by Standard & Poor’s and runs its fiscal policy via a series of 11th-hour compromises.

So what explains the current bias against the euro? There is some evidence that central banks are losing enthusiasm for diversifying their reserves into euros. Between the third quarter of 2009 and the same period last year, the euro’s share of central-bank reserves fell from 27.9% to 25.7% and the dollar’s proportion nudged up slightly from 61.5% to 61.7%. It seems as if central banks have been spreading their net more widely into the likes of the Australian and Canadian dollars.

There have also been signs that the American economy is doing rather better than its European counterpart. Whereas the euro zone may already be in recession, America could enjoy a year of “trendgrowth. The labour market is improving, as are other signs of confidence such as house purchases and car sales.

In addition the link between the dollar and the “risk on/risk offtrade may be weakening. Ever since the financial crisis, the dollar has tended to do best when investors are cautious (the risk-off phases) and to fall when they are feeling optimistic. Perhaps American fund managers were selling dollars to buy foreign assets when in upbeat mode and bringing their money back home at more downbeat moments. But their appetite for foreign equities may be waning, especially since Wall Street outperformed European stockmarkets in 2011. So far in 2012 both equities and the dollar have risen.

For much of 2011 the euro also had a clear yield attraction over its main rivals (the dollar, yen and sterling). But two rate cuts in the autumn have brought euro-zone rates down to 1% and further cuts are expected later this year.
There is talk that the euro is now being used for carry trades, whereby investors borrow in a low-yielding currency (like the euro) and invest the proceeds in a higher-yielding asset, such as the Australian dollar.

Some believe that the European Central Bank will eventually be forced to adopt quantitative easing (QE) as the only way of helping the region out of its debt crisis (the recent provision of three-year liquidity to the banks is a step along that road). It is hard to be sure whether such a move would be bullish or bearish for the currency. The conventional assumption is that creating more currency is bad for its value: QE in America is generally agreed to have been negative for the dollar. But if QE is perceived to stabilise the European economy, it could end up being positive for the euro, at least in the short term.

As far as European economies are concerned a moderate decline in the euro would probably be good news, as it would deliver a modest stimulus at a time of turmoil. Few want to see the euro regain the heights of $1.60 reached in 2008.

The big risk, of course, is of a break-up of the euro zone, with Greece being the obvious candidate to depart first. The potential for contagion in the other peripheral economies means that such a move would almost certainly precipitate a wider banking crisis. Although the euro might still survive in the core countries like Germany and the Netherlands, Mansoor Mohi-uddin at UBS is surely right when he says that “the prospect of a stronger euro shorn of its weakest links would take years to materialise.” A break-up would turn a decline into a rout.

January 12, 2012

America Isn’t a Corporation


“And greed — you mark my words — will not only save Teldar Paper, but that other malfunctioning corporation called the U.S.A.”

That’s how the fictional Gordon Gekko finished his famousGreed is goodspeech in the 1987 filmWall Street.” In the movie, Gekko got his comeuppance. But in real life, Gekkoism triumphed, and policy based on the notion that greed is good is a major reason why income has grown so much more rapidly for the richest 1 percent than for the middle class.

Today, however, let’s focus on the rest of that sentence, which compares America to a corporation. This, too, is an idea that has been widely accepted. And it’s the main plank of Mitt Romney’s case that he should be president: In effect, he is asserting that what we need to fix our ailing economy is someone who has been successful in business.

In so doing, he has, of course, invited close scrutiny of his business career. And it turns out that there is at least a whiff of Gordon Gekko in his time at Bain Capital, a private equity firm; he was a buyer and seller of businesses, often to the detriment of their employees, rather than someone who ran companies for the long haul. (Also, when will he release his tax returns?) Nor has he helped his credibility by making untenable claims about his role as a “job creator.”

But there’s a deeper problem in the whole notion that what this nation needs is a successful businessman as president: America is not, in fact, a corporation. Making good economic policy isn’t at all like maximizing corporate profits. And businessmen — even great businessmendo not, in general, have any special insights into what it takes to achieve economic recovery.

Why isn’t a national economy like a corporation? For one thing, there’s no simple bottom line. For another, the economy is vastly more complex than even the largest private company.

Most relevant for our current situation, however, is the point that even giant corporations sell the great bulk of what they produce to other people, not to their own employees — whereas even small countries sell most of what they produce to themselves, and big countries like America are overwhelmingly their own main customers.

Yes, there’s a global economy. But six out of seven American workers are employed in service industries, which are largely insulated from international competition, and even our manufacturers sell much of their production to the domestic market.

And the fact that we mostly sell to ourselves makes an enormous difference when you think about policy.

Consider what happens when a business engages in ruthless cost-cutting. From the point of view of the firm’s owners (though not its workers), the more costs that are cut, the better. Any dollars taken off the cost side of the balance sheet are added to the bottom line.

But the story is very different when a government slashes spending in the face of a depressed economy. Look at Greece, Spain, and Ireland, all of which have adopted harsh austerity policies. In each case, unemployment soared, because cuts in government spending mainly hit domestic producers. And, in each case, the reduction in budget deficits was much less than expected, because tax receipts fell as output and employment collapsed.

Now, to be fair, being a career politician isn’t necessarily a better preparation for managing economic policy than being a businessman. But Mr. Romney is the one claiming that his career makes him especially suited for the presidency. Did I mention that the last businessman to live in the White House was a guy named Herbert Hoover? (Unless you count former President George W. Bush.)

And there’s also the question of whether Mr. Romney understands the difference between running a business and managing an economy.

Like many observers, I was somewhat startled by his latest defense of his record at Bain — namely, that he did the same thing the Obama administration did when it bailed out the auto industry, laying off workers in the process. One might think that Mr. Romney would rather not talk about a highly successful policy that just about everyone in the Republican Party, including him, denounced at the time.

But what really struck me was how Mr. Romney characterized President Obama’s actions: “He did it to try to save the business.” No, he didn’t; he did it to save the industry, and thereby to save jobs that would otherwise have been lost, deepening America’s slump. Does Mr. Romney understand the distinction?

America certainly needs better economic policies than it has right now — and while most of the blame for poor policies belongs to Republicans and their scorched-earth opposition to anything constructive, the president has made some important mistakes. But we’re not going to get better policies if the man sitting in the Oval Office next year sees his job as being that of engineering a leveraged buyout of America Inc.