Yet more years of low but stable growth is unsustainable

The longer the economic malaise endures, the greater the influence of anger politics

by: Mohamed El-Erian

   Markets should be less confident about central banks' ability to continuously repress volatility © Reuters

The reality is likely to be different. Right now there are broadly three possible scenarios for the global economy in coming years — a continued muddle-through; a significant economic and financial downturn; or a favourable lift-off. Of these, a continuation of the recent tepid performance is becoming the least likely. This is because for things to continue as they are, you need to be confident that the economic, financial, political and social tensions spawned by low growth will not become the defining drivers of the economy. And that is increasingly unlikely in light of what is transpiring on the ground every day.

Start with the economics. The consequences of low growth go beyond today’s forgone opportunities.

The longer they persist, the more they eat away at the potential for future growth. This is understood by companies that have become more cautious, including postponing investment plans. Over time, this damages consumer sentiment and weakens a key growth engine. These concerns are amplified given that the benefits of limited growth have largely accrued disproportionately to the better-off sections of the population, thereby reducing the diversity and resilience of the growth dynamics.
Such disappointing economics acts as fuel for political polarisation and dysfunction. It feeds mistrust about “expert opinion” and, when combined with the worsening inequality of income, wealth and opportunity, accentuates suspicion of the ruling elites and the establishment, be it the public or private sectors.

It is therefore no surprise that the influence of anti-establishment movements is growing in most advanced countries. From the UK Independence party-inspired Brexit referendum vote and multiplying threats across continental Europe to further integration, to the loud antitrade rhetoric in the US, the result is to undermine longstanding tenets of cross-border economic and financial relationships, and thereby threaten growth.

The longer the economic malaise endures, the greater the influence of anger politics among electorates, fuelled by technological advances that facilitate group dynamics among like-minded individuals. With that comes greater pressure on politicians to opt for isolationist positions on immigration and trade. This is especially true in times of security threats from destructive non-state actors and lone wolves.

Despite all these uncertainties, financial markets have rewarded many investors with high returns and, even more notably, low market volatility. For that, they have central banks to thank.

Targeting better economic outcomes, and only having the “asset channel” at their disposal, they have felt compelled to deploy ever more experimental measures. These now include negative interest rates, asset purchases and, most recently, reverting to targeting interest rate levels. But with prolonged reliance on such unconventional measures comes concerns about collateral damage and unintended consequences.

From distorted financial valuations to excessive risk-taking, these are real dangers to the future wellbeing of the global economy, especially when monetary policy is insufficiently supported by better-suited structural reforms, fiscal policy and international co-ordination. As such, markets should be less confident about central banks’ ability to continuously repress volatility.

Put all this together and it is difficult to see how the global economy can sustain many more years of low but stable growth. Instead, it risks one of two transitions, depending on how long it takes the political systems in the US and Europe to meet the challenge of a generation, that of enabling high and inclusive prosperity.

If the political response continues to disappoint, low growth will give way to a recession while artificial stability in the financial system is replaced by disorder. But if politicians shoulder their economic responsibilities, the opposite outcome would become not just possible but also probable.

While we wait to see how politicians will act, one thing is clear. The “new normal” is coming to an end. The reason is simple: it has lasted for so long that it is now breeding the causes of its own destruction.

The writer is chief economic adviser to Allianz and author of ‘The Only Game in Town’

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