The world’s progress brings new challenges

Preserving peaceful relations in an era of rapid shifts in relative power is tough

Martin Wolf




In the past half century, humanity has made extraordinary progress. This is unquestionable.

This consists of more than higher incomes. It consists also of longer and better lives. We know this has happened. We also know why. But achievements bring new challenges. These are no exception.

In the early 1970s, the average woman produced just under five children. Many prophets of doom warned of unmanageable population explosion. Today, the global fertility rate is down to 2.4. In China, it is well below replacement level. In Brazil, too, where the Catholic Church was deemed an overwhelming obstacle to birth control, it is also below replacement level. Sub-Saharan Africa is the only big region where fertility rates remain high. (See charts.)

Chart showing declining global fertility rates

Why are families so much smaller? It is partly because wealthier people want fewer and better-educated children. But perhaps still more it is because their children survive. In 1960, 246 out of every 1,000 Indian children died before the age of five. By 2016, this was 43. In Brazil, the child mortality rate has fallen from 171 in 1960 to 15 in 2016. Even in rich Japan, it has fallen from 40 in 1960 (today’s world average) to three. We all love our children. So think what this transformation means to happiness.

Globally, life expectancy has jumped from 53 years in 1960 to 72 in 2016. China’s life expectancy is now 76, the same as Japan’s in 1977. Brazil’s is now the same as China’s. India’s is 69. Even Nigeria's life expectancy has risen from 37 in 1960 to 53. Being very old may not be much fun. Yet few regret a long life.

Chart showing declining child mortality rates

Then there is extreme poverty. That is currently measured by the World Bank as an income of below $1.90 a day (at 2011 purchasing power parity). This is what the late Hans Rosling, the Swedish doctor and statistician who founded the marvellous data animation website, Gapminder.org, views as the lowest of the four “levels” of current material existence. In 1800, almost all people lived in such poverty. As recently as 1980, 42 per cent of humanity still lived at this level. By 2013, this was down to 11 per cent. In China, the rate fell from 67 per cent in 1990 to 1 per cent in 2014. This progress is astounding. When I joined the World Bank in the early 1970s, such advances against extreme poverty seemed almost inconceivable.

Rosling’s magnificent posthumous book, Factfulness, describes these and many other dimensions of progress. These include the spread of female education, improvements in the supply of clean water, the huge rise in the number of vaccinations and even the spread of democracy. The book also helps us think more clearly about why we tend to be (wrongly) so pessimistic. Another new book, Enlightenment Now by the experimental psychologist Steven Pinker, places the credit for these advances where it is due, in the best of the enlightenment project of reason, science and concern for human welfare.

Chart showing rapid decrease in extreme poverty

Progress always leaves much unfinished business. That is true on all the above dimensions. It also creates new challenges. Managing mass urbanisation is one. Another is the ability of disease to spread more quickly than before. We still struggle to contain the fragility of our financial system. But the biggest risks are surely those of global conflict and environmental disaster.

On the former, Kishore Mahbubani, a Singaporean expert on international relations, brings a compelling warning in his succinct new book, Has the West Lost It? His fundamental messages are, first, that the west won, second, that it is now losing, and, finally, that the west must adapt.

The west has won because everybody realises that science and technology work and a growing number of societies have learnt to harness it.

Chart showing increases in life expectancy


The west is losing, as a direct result of this lesson, because the domination by an eighth of the world’s people is coming to an end. The west must adapt because it has no sensible alternative.

The lesson the west — above all, the US — must learn is, he insists, to interfere far less and co-operate far more. It cannot run the world. It needs to stop its arrogant and usually foolish interventionism. It is hard to disagree with this advice from such a well-informed friend of the west.

Preserving peaceful relations in an era of rapid shifts in relative power is a huge challenge. Yet so, too, is managing the global commons. As humanity becomes richer, its impact on the global environment has hugely increased. The most potent indicator of this is the continuing rise in emissions of greenhouse gases. But important problems also arise elsewhere, notably in the oceans, as a result of overfishing and destruction of habitats. Far too many people in rich countries think the answer is for the billions of poorer people to abandon hopes for a better life.

That is not just immoral: it is infeasible. Remember, not least, that the billion richest people consume more than half of all the fossil fuels we burn.

Chart showing changing share of global GDP

The world is a far, far better place than it was. At the global level, it is even less unequal than it was four decades ago, because of the rapid rise in the average incomes of previously destitute countries. But powerful countries in relative global decline resent their change in position.

Countries that contain substantial populations in relative domestic decline are consumed by the politics of rage. Yet, if progress is to be sustained and the dangers are to be managed, peaceful co-operation is necessary.

The clever way for the west to achieve this, argues Mr Mahbubani, is to adhere to the multilateral rules and agreements they created (such as the Paris accord on climate) in order to encourage China to do the same. That is the opposite of what the US is now doing.



We have come far, and can come much further. But this will not happen automatically and may not happen at all. Am I optimistic that the world will rise to the challenge? The answer is: No.


America’s Exploding Budget Déficit

Martin Feldstein

 The Social Security Administration offices in Denver

CAMBRIDGE – The United States has an enormous and rapidly widening budget deficit. Under existing law, the federal government must borrow $800 billion this year, and that amount will double, to $1.6 trillion, in 2028. During this period, the deficit as a share of GDP will increase from 4% to 5.1%. As a result of these annual deficits, the federal government’s debt will rise from $16 trillion now to $28 trillion in 2028.

The federal government’s debt has risen from less than 40% of GDP a decade ago to 78% now, and the Congressional Budget Office (CBO) predicts that the ratio will rise to 96% in 2028. Because foreign investors hold the majority of US government debt, this projection implies that they will absorb more than $6 trillion in US bonds during the next ten years. Long-term interest rates on US debt will have to rise substantially to induce domestic and foreign investors alike to hold this very large increase.

Why is this happening? Had last year’s tax legislation not been enacted, the 2028 debt ratio would still reach 93% of GDP, according to the CBO. So the cause of the exploding debt lies elsewhere.

The primary drivers of the deficit increase over the next decade are the higher cost of benefits for middle-class older individuals. More specifically, spending on Social Security retirement benefits is predicted to rise from 4.9% of GDP to 6%. Government spending on health care for the aged in the Medicare program – which, like Social Security, is not means tested – will rise from 3.5% of GDP to 5.1%. So these two programs will raise the annual deficit by 2.7% of GDP.

This officially projected increase in the annual deficit would be even worse but for the fact that the cuts in personal income tax enacted last year will lapse after 2025, reducing the 2028 deficit by 1% of GDP. The official deficit projections also assume that the recently enacted increases in spending on defense and non-defense discretionary programs will be just a temporary boost. Defense spending is expected to decline from 3.1% of GDP now to 2.6% in 2028, while the GDP share of non-defense discretionary spending will fall from 3.3% to 2.8%. These deficit-shrinking changes are unlikely to happen, causing the 2028 deficit to be 7.1% of GDP – two percentage points higher than the official projection.1

If a deficit amounting to 7.1% of GDP were allowed to occur in 2028, and to continue thereafter, the debt-to-GDP ratio would reach more than 150%, putting the US debt burden in the same league as that of Italy, Greece, and Portugal. In that case, US bonds would no longer look like a safe asset, and investors would demand a risk premium. The interest rate on government debt would therefore rise substantially, further increasing the annual deficits.

Because financial markets look ahead, they are already raising the real (inflation-adjusted) interest rate on long-term US bonds. The real rate on the ten-year US Treasury bond (based on the Treasury’s inflation-protected bonds) has gone from zero in 2016 to 0.4% a year ago to 0.8% now. With annual inflation running at about 2%, the increase in the real interest rate has pushed the nominal yield on ten-year bonds to 3%. Looking ahead, the combination of the rising debt ratio, higher short-term interest rates, and further increases in inflation will push the nominal yield on ten-year bonds above 4%.

What can be done to reduce the federal government’s deficits and stem the growth of the debt ratio? It is clear from the forces that are widening the deficit that slowing the growth of Social Security and Medicare must be part of the solution. Their combined projected addition of 2.7% of GDP to the annual deficit over the next decade is more than twice the officially projected rise in the ratio of the annual deficit to GDP.

The best way to slow the cost of Social Security is to raise the age threshold for receiving full benefits. Back in 1983, Congress agreed on a bipartisan basis that this threshold should be raised gradually from 65 years to 67, cutting the long-run cost of Social Security by about 1.2% of GDP. Since 1983, average life expectancy of individuals in their mid-sixties has increased by about three years. Raising the future age for full benefits from 67 to 70 would cut the long-run cost of Social Security by about 2% of GDP.

At this time, slowing the growth of Social Security and Medicare is not a politically viable option.

But as the deficit increases and interest rates rise, the public and the Congress might return to this well-tried approach.


Martin Feldstein, Professor of Economics at Harvard University and President Emeritus of the National Bureau of Economic Research, chaired President Ronald Reagan’s Council of Economic Advisers from 1982 to 1984. In 2006, he was appointed to President Bush's Foreign Intelligence Advisory Board, and, in 2009, was appointed to President Obama's Economic Recovery Advisory Board. Currently, he is on the board of directors of the Council on Foreign Relations, the Trilateral Commission, and the Group of 30, a non-profit, international body that seeks greater understanding of global economic issues.


In Italy, an End-Around of Democracy

By George Friedman

 

Sometimes the surest way to bring about change is to resist it. Such might be the case in Italy, whose elections recently brought to power two nationalist and euroskeptic parties known as the Five Star Movement and the League. Together, they won enough seats to form a coalition government, which they endeavored to do last week, and though both parties have moderated their anti-EU campaign rhetoric, they selected for finance minister a controversial figure who wants out of the eurozone. Then, in a move no one anticipated, the Italian president, normally a figurehead, vetoed the nominee’s appointment. The coalition collapsed. To add insult to injury, the president picked a former International Monetary Fund official to be the interim prime minister. He will lead a technocratic government that cannot undertake initiatives but can work within a designated framework – that is, until new elections are held.
In other words, the president circumvented the will of the people. He appointed an official of an organization loathed by the constituents of the winners of free and fair elections and gave him the power to continue the policies they essentially voted to undo. Notably, he also exposed how weak the coalition really was. Few of its members have experience in Italian high politics. Its supporters may wear this as a badge of honor, and its opponents may consider it a flaw, but neutral observers simply see it for what it is: The inevitable result of the transformation of Italian politics.

The president’s tactics may well backfire. He is betting that by forcing a new election, a new outcome will emerge. That is possible. After all, in Italy, support for EU directives is relatively low, but a majority of Italians still support remaining within the eurozone. They just want to make the decision on their own.
 
But it’s as likely as not that the anti-establishment forces that brought the League and Five Star to power will swell, especially if Italians believe their democracy is at risk. Over the next few months, Italian politics will be operatic, and it will resonate throughout Europe, especially in places such as Poland, Hungary and the Czech Republic, which have all bucked Brussels’ authority.

The EU will no doubt accept the Italian president’s decision to replace an elected coalition with a caretaker government that is at least less hostile to the EU. The argument will be that the Italian president operated within the rules of the Italian Constitution. This is true. But the fact is that he reversed the results of the election, and it will be seen as such. It will be seen as a trick used by the losers against the winners, an obstacle that prevents a popularly elected government from taking power. Not being an expert in Italian constitutional law, I hesitate to speculate that this was not the intent of the constitutional principles used. Still, the unwillingness of the EU to sanction Italy will be seen as support for moves to block, anti-democratically if constitutionally, the outcome of a fundamentally anti-EU election.

The problem this poses to Italy is obvious. Crisis is a given. Italy is a major country and a founding member of the EU. Its citizens elected parties that formed an anti-European government. The president scuttled it.

The problem this poses to the EU is no less pronounced. The Europeans will back the president on narrow constitutional grounds. They will be attacked on broader democratic grounds. But more revealing of the EU’s fundamental weakness are the limited choices it has in responding.  If it simply accepts the nullification of a free election, it will look desperate, anti-democratic and selectively moralistic. If it takes action against Italy – something it is unlikely to do – it will undermine the supporters the EU has left in Italy and elsewhere.

Things are constantly getting rougher in Europe.

 A Spiking Dollar = Emerging Market Chaos, Part 2: The Story In Four Charts

 

For most of the past few years, emerging market stocks and bonds were among the favorite investments of everyone from hedge funds to pension funds to retirees.

Now, not so much.

The next two charts (courtesy of Saturday’s Wall Street Journal) show the huge recent run ending in January, to be replaced by a full-on rout.


emerging market stocks
emerging market bonds


What happened? Well, it turns out that a big part of the apparent success of economies like Argentina and Indonesia came from their ability to borrow in international markets – frequently in US dollars – and use the resulting cash to build roads, bridges, airports, and soccer stadiums — that is, things that imply visible progress. Visitors came, saw all the “modernization,” went home impressed and hit “buy.”

But then US interest rates started to rise and the dollar spiked off of its recent lows. Treasury bonds suddenly started to look attractive relative to EM securities, while all those EM dollar debts began to look onerous rather than wondrous. The hot money decided to leave, putting downward pressure on EM currencies (which makes dollar-denominated debt even harder to pay off) and forcing EM central banks to tighten monetary policy and raise rates.

emerging market currencies
emerging market interest rates


The result? Contraction where once there was limitless growth, and instability where there was rock-solid continuity. Emerging markets have been here before, of course, and history teaches that it will get worse before it gets better.

History also teaches that trouble on the periphery frequently moves towards the center to threaten developed world institutions that were buyers of all that EM dollar debt. Hedge funds, pension funds, bond funds, global stock funds, and major-bank prop trading desks, are all on the hook for Brazilian, Argentine, and Mexican paper, which means – history again – that US taxpayers are actually the ones on the hook.

So watch for apocalyptic headlines as the 1% softens the rest of us up for yet another transfer of wealth from middle to top.

 Housing Bubble Pathologies Start to Bite – Yet Another Sign the Cycle Has Peaked 


The early stages of a housing bubble are fun for pretty much everyone. Homeowners see their equity start to rise and feel smart for having bought, home seekers have to pay up, but not too much, and fully expect their new home to keep appreciating. People with modest incomes feel a bit of pinch but can still afford to stick around.

But later on the bad starts to outweigh the good. Existing homeowners still enjoy the ride but would-be buyers find themselves priced out of their top-choice neighborhoods. And residents who aren’t tech millionaires find that they can no longer afford to live where they work.

Consider the plight of a teacher or cop pretty much anywhere in California these days:
Housing prices drive Davis teachers out of town. Legislators could give them a break from parcel taxes. 
Drew Barclay has a master’s degree in education and three years of experience as an English teacher, but, like most new teachers in Davis, he can’t afford to live there. 
Instead, Barclay, 31, shares a rental in Sacramento that costs him $950 a month — about 40 percent of the $2,550 he brings home each month after taxes. 
He is so certain that he won’t be able to qualify for a loan for a home in Davis on his $47,000 annual salary that he hasn’t bothered to house hunt. The median price for a house in the city in March was $682,500, according to tracking firm CoreLogic.  
Renting also is prohibitive, with the average rent in Davis about $2,500 a month, according to Zillow, a real estate website. 
Davis Joint Unified officials hope to get a little help from state legislators. Last week, the state Senate voted 24-8 to waive the annual school district parcel tax of $620 for teachers and other employees of the Yolo County school district. 
Davis school board member Alan Fernandes said that about two-thirds of the district’s teachers live outside Davis where housing is less expensive. He said the bill would encourage more of the district’s teachers to live in the community they serve. 
Davis Joint Unified regularly passes parcel taxes to keep class sizes down and to support classroom programs. In 2016, 71 percent of Davis voters approved Measure H, a yearly tax of $620 on each parcel of taxable real property in the district for eight years. The measure raises $9.5 million a year to support math, reading and science programs and reduced class sizes for elementary grades. 
But the roughly $50 a month exemption isn’t likely to help Davis Joint Unified teachers enough to make buying a house affordable. The teachers are some of the lowest-paid educators in the region, with some of the highest health care costs. 
Barclay said he knows teachers 10 or 15 years older than he is who are renting rooms in other educators’ homes to get by. He said some teachers have weekend jobs to make enough money to pay their bills. 

“Because I’m fairly certain I can’t put down permanent roots here, I don’t see this position as a permanent one,” Barclay said of his job as an English teacher at Davis Senior High School. 
California school districts have responded by offering signing bonuses, housing stipends, computers and free tuition to educators who sign up with their districts.

When housing costs reach this point there’s no real fix. Raise taxes to increase teacher pay and there’s political trouble. Cut back on other services and the quality of life declines.

“Streamline” the schools and educational outcomes and teacher morale plummet.

There’s a limit, in other words, to the ascent of home prices beyond which the system starts to break down. And when the people who make a town run smoothly – teachers, firefighters, cops, sanitation workers – can no longer afford to live there, that town has clearly crossed the line.

Based on the Case-Shiller home price index, which is now back to its 2007 housing bubble peak, there are a lot more Davis, CAs out there, with all the pathologies that that implies.

Case Shiller housing bubble

A housing bubble, of course, is just a symptom of a bigger problem. Easy money distorts the workings of a market economy by causing the prices of many assets to soar beyond all reason, enriching the owners and impoverishing the users. Typically, when housing reaches this point so have stocks and other financial assets, CEO salaries, corporate concentration, political corruption and a long list of other evils that feed on low interest rates and lax lending standards. The confluence of resulting problems then brings the cycle to a noisy end.

Housing says we’re getting close.