Ruchir Sharma: Wall Street’s New Global Thinker
The Morgan Stanley macroeconomist sees more woes ahead for China and Russia. The U.S., India, and Germany will prosper.
By Jonathan R. Laing
And though it’s somewhat beyond his purview, Sharma thinks the civil disobedience and racial strife afoot in the U.S. can be explained, in part, by the antiestablishment sentiment that “is sweeping the world and lapping up on America’s shores.” The rising tide of antiglobalization and growing inequality of wealth have also added to the tensions in U.S. cities and elsewhere.
THE 42-YEAR-OLD SHARMA has spent the past 20 years with Morgan Stanley Investment Management, beginning as an analyst in Mumbai. He was raised in Delhi, the son of a military officer, and had been writing a newspaper column for India’s largest financial daily, the Economic Times, since age 17.
Today, he’s the firm’s chief global strategist and heads its emerging markets equity team. As such, he travels the world, averaging one week out of each month visiting developed and developing countries alike, talking to folks ranging from heads of state and central bankers to business leaders and people on the street. “You’d be surprised how much you can learn, from mall visits to barnstorming around the countryside, about what’s going on,” he avers.
Sharma and his team of 25 analysts, economists, portfolio managers, and other professionals also pore over all manner of economic statistics and government reports to get a bead on the latest trends. The unit, a pioneer in emerging market investing, runs some $20 billion in assets.
He’s a prolific author, writing essays and op-ed pieces in leading publications in the U.S. and Europe, such as The Wall Street Journal, the New York Times, and the Financial Times. And his latest book, The Rise and Fall of Nations: Forces of Change in the Post-Crisis World, published in June, seems to have captured the current global zeitgeist over disappointing economic growth. In it, Sharma describes four megatrends in the global economy that figure to impede global economic growth over the next five years from reaching the spirited levels of the pre-crisis period. Yet, in that period, the economic fortunes of some countries will wax, while those of others will wane. He ranks their prospects by a proprietary set of characteristics, or what he calls rules, such as debt-to-GDP ratios laid out in a chapter wittily called “The Kiss of Debt.”
“I purposely keep my forecast periods short, five years max, because there’s too much that can happen beyond that, in terms of technological and secular changes, to make longer predictions reliable,” he says.
He labels the megatrends that he sees at play “the four ‘Ds’ ”: depopulation, deglobalization, deleveraging, and de-democratization.
Depopulation, he explains, is a reflection of the decline in the working-age population in developed regions including Western Europe, Japan, Taiwan, and Korea. It likewise is affecting the world’s second-largest economy, China, which passed that fateful milestone last year. And while the U.S. is on the path to a shrinking workforce, immigration may well keep that wolf at the door for at least the next decade.
More often than not, a 1% drop in the labor force lops off 1% in economic output, Sharma points out, and boosts in productivity—output per man hour—have been limp of late in the U.S. and elsewhere.
He also sees a worrisome trend toward what he labels deglobalization. Since the 2008 crisis, world trade has trailed as a percentage of economic growth, and international capital flows have plummeted, largely because international banks have pulled back lending to within their home borders.
Trade has also suffered from a recrudescence of protectionism in the form of competitive currency devaluations and the erection of stealth trade barriers to counter alleged malefactions by competitors, such as goods-dumping and unfair subsidization of exports. Trump has made a centerpiece of his presidential campaign the alteration of various U.S. trade agreements that he claims have shipped U.S manufacturing jobs overseas. Even Hillary Clinton, the Democratic nominee for president, has withdrawn her support for the Trans-Pacific Partnership, a pact with 11 other Pacific Rim countries, the passage of which was once considered a slam-dunk.
His final “D,” de-democratization, has also impaired the recovery. In many countries, populaces have embraced autocratic leaders promising to relieve economic distress through decisive executive actions. “Such unchecked meddling often destroys investor and business confidence, and delivers less-healthy economic growth in the long term,” says Sharma.
IT ISN’T BY CHANCE, he claims, that a survey by watchdog group Freedom House shows that, over the past decade, the number of nations showing a decline in political and human rights exceeds those that have seen an increase. “This is largely the result of regimes trying to force-feed enhanced economic growth,” he explains.
Yet Sharma isn’t unduly pessimistic. He merely believes that economic growth expectations have to be tempered somewhat to accommodate the new reality of a post-boom world. He thinks that developing nations, for example, should be content with 4%-to-5% annual GDP growth, rather than, say, 7%. The new target for wealthy developed countries like the U.S. should be 1.5%, rather than more than 3%.
To rate the near-term prospects of different countries, he uses various measures of his own confection that are based on both his globe-trotting experience and deep-dive studies capturing the influence of a host of factors on national economic growth.
Demographic trends in working-age populations tend to be fairly straightforward. But he leavens that with adjustments for worker-participation rates, the percentage of women in the labor pool, openness to immigration, and freedom of opportunity. The U.S. gets high marks here despite all of the controversy currently surrounding immigration reform. Sharma points to the fact that 30% of the workers in Silicon Valley are foreign-born. Of the top 25 U.S. tech companies, as of 2013, 60% were founded by first- or second-generation immigrants, including Steve Jobs of Apple, Sergey Brin of Google, and Larry Ellison of Oracle.
Sharma also puts much stock in combing billionaire lists of different countries to gain insight into the vulnerability of different societies to populist unrest triggered by resentment over wealth inequality. He looks at how much of that wealth was inherited or achieved through other than honest means.
In the past five years, he notes, the wealth of U.S. billionaires as a share of GDP has risen to 15% from 11%.
But that doesn’t tell the entire story. Most of the U.S. plutocrats are what Sharma calls “good billionaires,” that is, self-made men and women who created their wealth by developing unique products and services that boosted jobs and economic growth.
“Bad billionaires,” he says, abound in countries like Russia and Mexico, where their wealth is largely the result of chicanery, family connections, and payoffs. “You tend to find the bad guys in rent-seeking industries like construction, real estate, gambling, telecom, oil, and mining, in which monopoly status or government favoritism protect them from real price competition,” says Sharma. “In such an environment, economic growth suffers because the poor and middle class account for a smaller share of national income and the rich don’t spend enough.”
Obviously, political leadership matters mightily to the economic fortunes of countries. Even many reformers who come to office after an economic crisis typically turn “stale” after a term or so in office. Surrounded by sycophants and toadies, they tend to become more dictatorial and rapacious with the passage of time.
Prime examples of this are Russia’s Vladimir Putin and Turkey’s Recep Tayyip Erdogan, who took office near the turn of the millennium during financial crises in their respective countries.
Both succeeded at reforming antiquated tax systems and cutting fiscal excesses to right their economies. But soon, both leaders morphed into full-blown autocrats seizing ever more levers of power, abridging civil liberties and stamping out free expression. Erdogan’s mass arrests of thousands in the wake of the recent failed military coup is merely of a piece with his long-running campaign of suppression of political opposition and stamping out of a free press.
ANOTHER OF SHARMA’S important markers is the aforementioned national debt-to-GDP ratio. His study of historic debt binges indicates that when the five-year increase in the private debt to GDP ratio exceeds 40 percentage points, that nation is headed for a severe economic slowdown and, in many cases, a severe credit crisis. China, which he says has gone on the biggest debt binge in human history, has seen its debt to GDP ratio increase by 80 percentage points in the five years following its pedal-to-the-metal stimulus program to counter the effects of the 2008 global crisis.
Of course, of paramount importance is how nations, in particular developing ones, invest their savings and foreign direct investment. Sharma argues that economic growth is best fostered by investment in manufacturing, with an eye toward moving up the export value chain by going from shoes and textiles to, eventually, cars and electronic goods. Manufacturing, if done right, creates an affluent middle class to build a consumer culture around. It also spurs innovation and leads to a buildout of infrastructure, such as roads, bridges, rail lines, ports, and power grids. He sees such countries as Mexico, India, Vietnam, Bangladesh, and Kenya moving smartly up this development escalator.
A strong manufacturing sector also serves to protect economies from much of the volatility of global economic cycles. That, of course, isn’t the case with economies reliant on what they can garner from exporting oil, natural resources, and other commodities.
The price swings in these markets are vicious, leading to gross overspending by countries in good times “that they think will go forever,” followed by economic despond during the inevitable commodity bear markets. Russia, Brazil, Saudi Arabia, Nigeria, South Africa, and even Australia and Canada are currently caught in this commodity black hole.
SHARMA ALSO KEEPS CLOSE WATCH OVER what he considers unhealthy investment binges in real estate and national stock markets. China, these days, is the poster child for such speculative excess, and that is an important signal of coming problems. Academic studies show that nearly two-thirds of recent serious recessions around the globe followed on the heels of busts in national real estate or stocks. “These binges leave little in the way of productive assets behind for future growth,” Sharma opines.
Media hype of different national economic prospects can also prove problematic for rating economies. The press usually follows the conventional wisdom of economists and experts at the World Bank and elsewhere, who typically miss key turning points. One can point to all sorts of busted media themes since the turn of the millennium. Among them: predicting the convergence of incomes between rich and developing nations and the inevitable rise of China to economic predominance in this century.
“I prefer to look closely at countries that are so disdained by media that they are virtually ignored,” he explains. Argentina fits his bill. After 14 years of Peronist misrule and economic mismanagement, the new president, technocrat Mauricio Macri, is making long-needed moves to tame hyperinflation, bring about budgetary order, boost investment in infrastructure, and settle nagging international debt disputes.
Sharma also scrutinizes capital flows in and out of countries to glean important shifts in national economic growth. He believes in “following the local money,” because local businessmen and investors tend to have a more granular, nuanced view of what’s going on in their own economy than do international lenders and foreign investors who are usually last to get the memo. That’s what makes recent bouts of capital flight in China so worrisome. The current economic problems in Russia were anticipated by a heavy flow of oligarch money out of Russia as long as two years before the oil market crash last year.
Macroeconomics is an unforgiving field in which even seasoned veterans like Sharma can get fooled. He admits to have been somewhat blindsided by the 1997 Asian financial crisis, which began in Thailand, and also by the speed of the recovery two years later, after the region’s currency values steadied and economic growth resumed.
Sharma has rueful memories of a large bank conference he addressed in Moscow in October 2010, in which he predicted serious economic troubles ahead for the nation because of Putin’s failure to diversify its natural-resources-based economy. The problem was that a poker-faced Putin was sitting on the dais as Sharma spoke, along with then French Minister of Finance Christine Lagarde, who kept shooting Sharma shocked sideways glances.
Sharma was savaged in the state-controlled press the following day as an ingrate from Wall Street, whose money Russia emphatically didn’t need. Yet, speaking and writing truth to power is part of Sharma’s remit.
That’s one of the aspects of his job that makes it interesting.
World events seem to have spiraled out of control this summer, especially in the developed world of the U.S. and Europe. Against all predictions, United Kingdom citizens voted to leave the European Union, calling into question the very future of this noble experiment in transnational governance.
Islamic terrorists have made abattoirs of disparate locations, from Orlando, Fla., and Istanbul to Paris; Ansbach, Germany; and Nice, France. Racial strife has flared in U.S. cities, and police have been targeted in Baton Rouge, La., and Dallas.
In the view of Morgan Stanley macroeconomist Ruchir Sharma, at least some of these baleful developments, most notably Brexit, have their roots in the painfully slow global recovery from the 2008 financial crisis that wreaked such damage on world economic growth. For one thing, the recovery triggered growing income and wealth inequality within societies, as central banks, led by the Federal Reserve, have engaged in unprecedented loose monetary policies in an attempt to juice economic growth. The unintended consequence of these policies saw the rich benefit mightily as financial asset prices rose while the wages for the vast majority of the citizenry remained largely stagnant.