A “new normal” for the world economy



Oct 1st 2009
From The Economist print edition


The new economic landscape will be grim unless policymakers act to foster growth

Illustration by Jon Berkley






IN THE political dictionary he first published in 1968, William Safire, who died on September 27th, devoted an entry to the word “normalcy”. The term was made popular by Warren Harding, campaigning for America’s presidency in the wake of the first world war. It was inescapable after the terrorist attacks of September 11th 2001. Normalcy is what people call normality when they no longer take it for granted. No surprise, then, that the word reappeared in the communiqué released by the leaders of the G20 group of big economies after their Pittsburgh summit on September 24th-25th. After the wrenching economic crisis of the past year, people crave stability and predictability—in short, normalcy. But how far off is it? And what will a “normal” world economy look like after the biggest financial bust since the Depression?



The new normal
Glance at share prices or short-term growth forecasts and you might feel comforted. Output has stopped shrinking in all the world’s big economies. In its latest forecasts the IMF reckons global GDP will expand by 3.1% next year, 1.2 percentage points faster than it forecast in April. Global stockmarkets have rallied by 64% since their trough. Corporate finance, once frozen, is thawing fast (see article). Bearish analysts are once again having to justify their pessimism (see article).

Yet closer inspection suggests caution. Despite a welcome return to growth, the world economy is far from returning to “normal” activity. Unemployment is still rising and much manufacturing capacity remains idle. Many of the sources of today’s growth are temporary and precarious. The rebuilding of inventories will not boost firms’ output for long. Across the globe spending is being driven by government largesse, not animal spirits. Massive fiscal and monetary stimulus is cushioning the damage to households’ and banks’ balance-sheets, but the underlying problems remain. In America and other former bubble economies, household debts are worryingly high, and banks need to bolster their capital. That suggests consumer spending will be lower and the cost of capital higher than before the crunch. The world economy may see a few quarters of respectable growth, but it will not bounce back to where it would have been had the crisis never happened.

That realisation alone should temper some of the optimism buoying financial markets. But the prospect of a “new normal” (a phrase popularised by Mohamed El-Erian, the boss of Pimco, a fund manager) still spans at least two distinct possibilities. One is that the world economy returns roughly to its pre-crisis rate of growth, without regaining the ground lost. That, the IMF points out, is what happens after most financial crises. The second, more depressing possibility is that growth stays at a permanently lower rate, with investment, employment and productivity growth all feebler than before.

The difference between these outcomes is huge, as our special report on the world economy points out. Persistent damage to economies’ growth potential would result in a darker future of sluggish income gains and diminished expectations. That, above all, is what policymakers must avoid. To do so, they must pull off several tricky manoeuvres: shoring up demand now without wrecking the public finances; containing unemployment without inhibiting the shift of workers from old industries to new ones; and, more than anything else, fostering innovation and trade, the ultimate engines of growth.

Shoring up demand is the most urgent task. It is no secret that global spending must be rebalanced: indebted American consumers must cut back, while thrifty countries should spend more and save less. In China this means a stronger currency, bigger social safety-nets and an overhaul of subsidies to increase the share of national income going to workers. Germany and Japan need structural reforms to boost spending, especially in services. What has long been lacking is the political will—and here the G20 seemed to make progress. The Pittsburgh communiqué promised to subject members’ economic policies to “peer review”. These reviews may prove toothless, but the commitment to them is a step forward.

Private spending in surplus economies will not soar overnight. The world economy will rely more on governments for longer than anyone would like. Premature fiscal repairs could jeopardise the recovery, as America learned in 1937 and Japan rediscovered 60 years later. Governments must eventually fix their balance-sheets, but only when the private sector is strong enough—and it must be done in a way that boosts economies’ growth potential. The bulk of the adjustment should come from spending cuts. Where revenues must rise, taxes on consumption or carbon are better than those on wages or profits.



Out with the old
Governments must also combat joblessness without ossifying their labour markets. High unemployment can do lasting damage, as people lose their skills or their ties to the world of work. This danger justifies efforts to slow lay-offs or encourage hiring. But not all such remedies are equal. Some of the most popular of today’s schemes—such as paying employers to cut hours rather than jobs, as in Germany—try to preserve the labour force in aspic. Economies must be free to reinvent themselves and allow thriving industries to replace ailing ones.

The path of productivity growth will determine the nature of the new normal more than anything else. In the rich world, innovation sets the pace. Elsewhere, trade is often more important. Both are now under threat. Cash-strapped companies are skimping on research and development. Emerging economies are having to rethink their reliance on exports for growth. Both rich and poor governments will be tempted to intervene. They should avoid cosseting specific industries with subsidies or protection. Allowing market signals to work will do more to boost productivity than cack-handed industrial policy.

Add all this up and the difficulties are formidable. “A sense of normalcy should not lead to complacency,” the G20 communiqué says, with both rhyme and reason. The storm has passed. But policymakers have a lot to do—and a lot of mistakes to avoid—if they are to make the best of the recovery.

The People's Republic at 60

China's place in the world

Oct 1st 2009
From The Economist print edition


The world has accepted that China is emerging as a great power; it is a pity that it still does not always act as one

Illustration by Jon Berkley






FOR a country that prides itself on its “peaceful rise”, it was an odd way to celebrate a birthday. The People’s Republic of China marked its diamond jubilee on October 1st with a staggering display of military muscle-flexing (see article). Goose-stepping soldiers, tanks and intercontinental ballistic missiles filed through Tiananmen Square, past the eponymous Gate of Heavenly Peace, where, 60 years ago, as every Chinese schoolchild is taught (wrongly, it now seems), Mao Zedong declared that the Chinese people had “stood up”.

For many Chinese, daily life remains a grim struggle, and their government rapacious, arbitrary and corrupt (see article). But on the world stage, they have never stood taller than today. China’s growing military, political and economic clout has given the country an influence of which Mao could only have dreamed. Yet Chinese officials still habitually complain that the world has not accepted China’s emergence, and wants to thwart its ambitions and “contain” it. America and others are trapped, lament these ascendant peaceniks, in a “cold-war mentality”. Sometimes, they have a point. But a bigger problem is that China’s own world view has failed to keep pace with its growing weight. It is a big power with a medium-power mindset, and a small-power chip on its shoulder.



Seventy-six trombones and better nukes
Take that spectacular parade. What message was it meant to convey to an awestruck world? China is a huge, newly emerging force on the world scene. And it is unapologetically authoritarian, as were Japan and Prussia, whose rises in the late 19th century were hardly trouble-free. Nor is China a status quo power. There is the unfinished business of Taiwan, eventual “reunification” with which remains an article of faith for China, and towards which it has pointed some 1,000 missiles. There is the big, lolling tongue of its maritime claim in the South China Sea, which unnerves its South-East Asian neighbours. And China keeps giving reminders of its unresolved wrangle with India over what is now the Indian state of Arunachal Pradesh, which it briefly overran in 1962. Nor has it reached agreement with Japan over disputed islands.

China’s intentions may be entirely peaceful, but its plans to build aircraft-carriers are shrouded in secrecy and it is modernising its nuclear arsenal. A modicum of anxiety about its ambitions is more than just cold-war paranoia. And those prey to it will have been reassured neither by the October 1st parade nor by the massive military build-up and the increasingly sophisticated home-grown weapons technology it flaunted.

None of this is to deny that China is playing a constructive—and vital—role on a number of international fronts. A year ago there was much scepticism about whether the huge fiscal boost it announced for its economy was genuine. Its insistence that its main role in responding to the crisis would be to keep China’s economy growing smacked of an excuse for inaction. The stimulus, however, did prove real and effective (though it was imposed without debate). Also, China has been a helpful part of the global recovery effort. At last month’s G20 summit in Pittsburgh it even signed a communiqué committing itself to a process of economic co-operation and IMF-assisted mutual assessment. How far China’s decision-making, opaque even to its own officials, will be submitted to outside scrutiny is questionable. But for a government so fiercely insistent on the inviolability of its own sovereignty, this was a big step.

It has also softened this same principle as applied to some of its nastier diplomatic friends, such as Myanmar and Sudan. Flouting its hallowed doctrine of “non-interference”, it has nudged them into slightly less hostile stances towards the West. North Korea would probably not be a nuclear power today if China had been prepared to exert more pressure on it in the past. But at least China now plays host to the six-party process aimed at getting it to ditch its nukes, and is trying to bring it back to the negotiating table. Wen Jiabao, the prime minister, is off to Pyongyang on October 4th. Elsewhere, China has forsaken belligerence for courtship. Despite those missiles, it at present seems more intent on winning Taiwan by sending tourists to buy it than soldiers to conquer it. And it has agreed with Japan on the joint exploration of some disputed gasfields.

Yet as a constructive international partner in multilateral diplomacy, China still seems to dabble—to pick and choose the issues where it is willing to help. It will find expectations running ahead of it: the more it proves it can contribute, the more will be demanded of it. There is no shortage of issues, from climate change to virus-containment, where its role is crucial. But the image that it would like to cultivate, as a responsible, unthreatening, emergent superpower, is constantly being undercut by two of its leaders’ habits.

One is the knee-jerk resort to hysterical propaganda and reprisals when a foreign country displeases it by criticising its appalling treatment of political dissidents, or accepts a visit from the Dalai Lama or other objects of the Communist Party’s venom. The other is its readiness to put its perceived economic self-interest ahead of strategic common sense. That is the message from its reluctance to contemplate sanctions against Iran. Much as it would abhor a nuclear-armed Iran, China does not want to jeopardise important supplies of oil and gas. And this is merely one among many countries, especially in Africa, where China may be suppressing its global political influence for the mirage of energy security.



Were you watching, Mrs Wang?
China’s leaders rightly point out that theirs is still a poor country which will naturally give priority to lifting its economic development. And this in one sense answers the question about the message conveyed by the National Day parade: its main audience was not the outside world, but China’s own people. With no popular mandate, the government’s legitimacy relies on its record in making China richer and stronger. The display of strength, showing how well it has done in this, hints at its own lack of confidence. For those worried about where China’s rise might lead, that the government is so insecure is not a comforting thought.

MAO ZEDONG called it protracted war; the Spanish in Napoleonic times knew it as guerrilla; and Muslim militants from Indonesia to Mauritania call it simply jihad. Perhaps the best description of insurgency is “War of the Flea”, the title of a 1965 book on revolutionary warfare by Robert Taber, an American who witnessed Fidel Castro’s success in Cuba. “The guerrilla fights the war of the flea,” he wrote, “and his military enemy suffers the dog’s disadvantages: too much to defend; too small, ubiquitous and agile an enemy to come to grips with.” In the end, exhausted, the dog dies or gives up the fight.

It happened, among others, to the British in Palestine, the French in Algeria and, momentously, the Americans in Vietnam. The helicopters whisking evacuees from Saigon in 1975 still haunt America. “Vietnam”, synonymous with “quagmire”, is shorthand for an unwinnable war. So it was over the war in Iraq. And so it is now over the one in Afghanistan. President Barack Obama rejects the comparison with Vietnam—“You never step into the same river twice,” he says. But the V-word is back in vogue.

In the most recent version of the allegory, the backdrop is the Hindu Kush, with an even fiercer reputation for breaking foreign armies than Indochina. President Hamid Karzai, besmirched by a fraud-ridden election, plays the role of Ngo Dinh Diem, South Vietnam’s repressive and corrupt prime minister and later president. General Stanley McChrystal who, having received 21,000 extra American troops wants up to 40,000 more, is cast as General William Westmoreland, whose answer to every problem was to use more force. Mr Obama’s role is undecided. The chorus asks: will he play John Kennedy, who rejected his generals’ demand for combat troops (he sent advisers); or Lyndon Johnson, whose misguided air- and land-war doomed his presidency?

The characters consult oracles, but the advice is ambiguous. Gordon Goldstein’s “Lessons in Disaster” tells the story of the Vietnam-era national security adviser, McGeorge Bundy, who later recanted his hawkish views. Rufus Phillips’s “Why Vietnam Matters” argues that America’s error was to take over the war from the South Vietnamese.

To many, Vietnam proves the futility of Western powers using force in somebody else’s country. The West’s record in colonial wars, and later interventions, is hardly glorious. Yet there have been some successful counter-insurgency campaigns, notably by the British in Malaya in the 1950s and by the Americans in the Philippines a century ago. Even in Vietnam, many scholars argue, the Americans belatedly got the knack for irregular warfare, blending political, economic and military action. South Vietnam, they note, was largely pacified after the 1968 Tet offensive; it succumbed not to the insurgents, but to the regular armies of North Vietnam, after the war effort was starved of support by Congress. America did not lose the fight; it lost the will to fight.

Such lessons have been learnt, or rather relearnt, by the American army and encapsulated in the now-famous counter-insurgency (COIN) manual, FM 3-24, issued in 2006. Seeking to exorcise the ghost of Vietnam, it says the main objective is to protect the population rather than kill the enemy. Such ideas were adopted with considerable success (and luck) in Iraq. Even as Mr Obama withdraws from Iraq, it looked as if he would apply the same theory to what he called the “war of necessity” in Afghanistan. He sent more troops there, approved a “comprehensive” counter-insurgency strategy for Afghanistan and appointed General McChrystal, a veteran of the Iraq war, to put it into action.

But suddenly Mr Obama is wobbling. He says he will consider the general’s request for troops with a “sceptical” mindset even though it should have come as no surprise. Protecting a population needs lots of boots on the ground. General McChrystal wants around another 200,000 Afghan soldiers—recalling America’s abortive attempt at “Vietnamisation”.

A’stan is not ’Nam
Yet the comparison between Afghanistan and Vietnam has obvious flaws. The Vietcong had the full-blooded support of North Vietnam which, in turn, was backed by China and the Soviet Union. The Taliban enjoy a haven in Pakistan (and perhaps the help of some of its spooks) but they have no state sponsor. The scale of fighting is much smaller today. In Vietnam America lost hundreds of aircraft and about 55,000 soldiers; in Afghanistan America has mastery of the skies and has suffered about 850 dead (one-fifth the losses in Iraq). NATO allies have lost some 570 soldiers. American opinion is ambivalent rather than hostile. There is no draft, and no taunts that American soldiers are “baby-killers”. The memory of the attacks on September 11th 2001, ordered by al-Qaeda leaders who lived in Afghanistan, is still powerful.

In some respects, though, lessons of Vietnam should be heeded. Winning over a population requires a credible and legitimate government. It must be tempting to dump Mr Karzai. But the American-backed coup that killed Diem in 1963 brought in an even less savoury bunch. Mr Karzai may be deeply flawed, but he is probably more popular than the other options. The message is that America should compel Mr Karzai to reform—or at least set a clearly better example than the Taliban.

Mr Obama’s understandable caution is starting to look like weakness—even Pakistan’s former leader, Pervez Musharraf, says so. Prevarication is encouraging the sceptics of counter-insurgency (the so-called COINtras) to call for withdrawal from Afghanistan, or for a diminished campaign that focuses on air strikes and raids by special forces to kill al-Qaeda leaders. America’s qualms will sap European allies’ readiness to stay in Afghanistan. And they will embolden the Taliban into thinking that, after eight years of flea-bites, the American dog is about to roll over.

EASTERN EUROPE owes a huge debt to the Germans. By showing that capitalism worked better than planned economies, West Germany helped win the cold war. East Germans kept trying to escape, forcing the Soviet-backed regime to build the Berlin Wall, destroying communism’s claim to be popular. East German people-power brought that wall down and tore up Stalin’s map of post-war Europe by demanding unification. In the 1990s Germany forced expansion onto the European Union’s agenda and then made it happen (and paid for it, German taxpayers would add sourly). And to this day, Germany’s Vergangenheitsbewältigung is a template for other countries wanting to come to terms with their past.

All the odder, therefore, that Germany is not more popular in the east. The burgeoning trade and political ties between Berlin and Moscow have spooked the countries in between. Germany and Russia are planning a condominium, just like 70 years ago, the worriers say. An opinion poll last year showing that a substantial majority of Germans would oppose the military defence of the Baltic states if they were attacked further stoked those fears. The countries between Russia and Germany feel squeezed—all the more so now that America is distracted, NATO divided, and Britain out of the game.


Whose foreign policy?Germans find that sort of talk rather hurtful, especially when it is laced with crude references to the Nazi past. Some Polish politicians have made a speciality of that. The result is a vicious circle. German policymakers see the easterners as ungrateful and mad, so concentrate more on the profitable business of selling things to Russia. The easterners see a game being played over their heads, and get even crosser.

Until this weekend, the easterners had a point. Even the best German diplomats could not conceal the fact that Germany’s economic relationship with Russia to some extent trumped the security fears of the nominal allies in the east. German scepticism about NATO expansion was well-known. Even the departure of the Russia-loving Gerhard Schröder, who after leaving the chancellery went to work for a German-Russian gas pipeline, made little difference. Angela Merkel might have the right instincts, the Poles and others reckoned, but she was constrained by the grand coalition with Mr Schröder’s old party, the Social Democrats.

This weekend’s election offers a glimmer of light. The Social Democrats are out and the liberal Free Democrats (FDP) are in. Their leader, Guido Westerwelle (pictured at right, above), is likely to be Germany’s new foreign minister. Although a foreign-policy novice, one of his few notable campaigns was against Mr Schröder’s business dealings. The ex-chancellor fought a lengthy legal battle to gain an injunction preventing Mr Westerwelle from repeating allegations of improper conduct.

It would be premature for the east Europeans to pin much hope on Mr Westerwelle. Even in the days of his FDP predecessor, the legendary Hans-Dietrich Genscher, it was the federal chancellery, not the foreign ministry, that largely decided Germany’s foreign policy. Freed from the baleful influence of the Social Democrats, Mrs Merkel may be tougher with Russia on some issues. But Germany’s business lobby is the biggest supporter of the “Russia First” policy. And conservatives in Mrs Merkel’s CDU/CSU have the closest ties to German industry.

What could make a difference is having a solidly pro-nuclear German government. If Germany makes serious plans to extend the lives of its nuclear power stations, it reduces the country’s dependence on imported Russian gas—the cornerstone of the “special relationship” between Berlin and Moscow. Perhaps countries such as Poland, which love whinging about energy security but have been slow in doing anything practical, may then get round to following Germany’s example. Just don’t expect gratitude.

GENEVA, Oct. 1 -- The United States and Iran tentatively stepped back from looming confrontation on Thursday, as the Islamic republic reached an agreement with major powers that would greatly reduce Iran's stockpile of low-enriched uranium and reset the diplomatic clock for a solution to Iran's nuclear ambitions.

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The outcome, which President Obama in Washington called a "constructive beginning," came after 7 1/2 hours of talks in an 18th-century villa on the outskirts of Geneva that included the highest-level bilateral meeting between the two countries since relations were severed three decades ago after the Iranian revolution. But the difficulties that lie ahead were illustrated when the chief Iranian negotiator, Saeed Jalili, held a triumphant news conference at which he denounced "media terrorism," insisted that Iran has always fully met its international commitments, and refused even to acknowledge a question from an Israeli reporter.

The sudden show of cooperation by Tehran reduces for now the threat of additional sanctions, which has been made repeatedly by the United States and others over the past week after the revelation of a secret Iranian nuclear facility. The United States will need to keep the pressure on Iran to avoid being dragged into a process without end.


Under the tentative deal, Iran would give up most of its enriched uranium to Russia in order for it to be converted into desperately needed material for a medical research reactor in Tehran. Iran also agreed to let international inspectors visit the newly disclosed uranium-enrichment facility in Qom within two weeks, and then to attend another meeting with negotiators from the major powers by the end of the month. The series of agreements struck at the meeting was in itself unusual because, in the past, the Iranian negotiators have said they would get back with an answer -- and then fail to do so.

U.S. and other diplomats present at the talks said the tone of the Iranian delegation privately was not different from the public posture, with much of the morning devoted to lengthy exchanges of official talking points. But they said the mood shifted subtly after the participants broke for lunch. The chief U.S. negotiator, Undersecretary of State William J. Burns, spent 45 minutes in a small sitting room with Jalili while the other diplomats gathered in the back yard of the Villa Le Saugy, admiring the views of the Swiss Alps and Lake Geneva as they mingled in small groups and ate from a cold buffet of fish and salads.

The negotiators -- including diplomats from Britain, France, Germany, Russia, China and the European Union -- never returned to the conference table but continued huddling in a rotating series of groups to structure the agreements.

The outcome of the talks was immediately criticized by former U.N. ambassador John R. Bolton, who as a Bush administration official balked at George W. Bush's efforts to entice Iran into negotiations. "They've now got the United States ensnared in negotiations," he said. "This is like the movie 'Groundhog Day.' " But another Bush-era official, former undersecretary of state R. Nicholas Burns, said that even if talks fail, Obama will have demonstrated that he tried hard to make diplomacy work -- and will win greater support for sanctions.

Despite the drama of sudden movement on an issue that has been in stalemate for seven years, all sides agreed that they are months, even years away from a resolution. The ultimate U.S. goal is suspension of Iran's uranium-enrichment activities -- and Tehran insists that it will never take that step.

"This is only a start, and we shall need to see progress through some of the practical steps we have discussed today," said European Union foreign policy chief Javier Solana, who headed the delegation of six nations meeting with Iran. He said he hoped for "rapid and intense" negotiations to follow.

U.S. officials have asserted that the revelation of the Qom facility had diplomatically isolated Iran, leaving it little choice but to cooperate or face new sanctions. Diplomats said the term "sanctions" was never uttered during the lengthy day, though oblique reference was made to a statement issued by foreign ministers of the group last week. That statement raised the possibility of more sanctions if no negotiating track was soon established.

Iranian Foreign Minister Manouchehr Mottaki -- who was given a rare visa by the Obama administration to visit Washington on Wednesday -- told reporters in New York that Iran is not building any other nuclear facilities, saying the "only case under construction is Qom." He said that the Geneva talks took place in a "constructive" atmosphere and that Iran is committed to continuing negotiations with the six powers, including the possibility of a future presidential summit. But he also made it clear that Iran would not yield to pressure to suspend its enrichment of uranium.

The agreement concerning the medical reactor was unexpected, and U.S. officials cast it both as a way to respond to a pressing Iranian need and to extend the time available to hold negotiations. "It is a confidence-building measure which will, to some extent, alleviate tension and buy some more diplomatic space to pursue the more fundamental problem of Iran's nuclear program," said one senior U.S. official, speaking on the condition of anonymity.

Iranian President Mahmoud Ahmadinejad, in an interview last week with The Washington Post and Newsweek, said he was seeking international assistance to fuel the reactor, which is closely observed by international inspectors and produces medical isotopes to help detect and treat diseases. He said the reactor, which requires uranium enriched to 19.75 percent, is running out of fuel because countries had refused to sell it to Iran.

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In the meantime, Iran's Natanz reactor has accumulated enough low-enriched uranium gas that it, in theory, could convert it to enough weapons-grade uranium for one nuclear weapon. Under the tentative agreement, U.S. officials said, Iran would export most of its 3,300 pounds of low-enriched uranium to Russia, which would then convert it to the material needed for the reactor. France would also assist in fabricating the material into metallic rods for use in the medical reactor.

Officials said the removal of the low-enriched uranium from Iranian soil should lessen concerns -- particularly in Israel -- that time was running out for a negotiated solution. Russia has long offered to enrich uranium for Iran, an idea never fully embraced by either Iran or the Bush administration, but U.S. officials insisted that the deal was not intended as a template for a future solution.

Under U.N. Security Council resolutions, Iran is prohibited from exporting nuclear material, so a new resolution would probably need to be approved for the deal to go through.

Obama said at the White House that the United States has "entered a phase of intensive international negotiations" and warned that "pledges of cooperation must be fulfilled." He also said Iran now has "a path towards a better relationship with the United States."

The conversation between Burns, the American negotiator, and Jalili was described by one U.S. official as "direct and candid." It focused mostly on the nuclear issue but also included a "frank exchange" on human rights. Several other U.S. officials also took the opportunity to meet one-on-one with Iranian counterparts, with one raising the case of three American hikers being held in Iran.

Fifteen months ago, Burns was in Geneva at a similar meeting but, under rules set by the Bush administration, was barely permitted to speak and was ordered to avoid contact with Jalili. This time, the depth and length of their conversation may have been unusual in the annals of U.S.-Iranian diplomatic discourse, but Jalili did not seem to make much note of it. Asked about the conversation, he simply said he had spoken individually to many of the diplomats at the meeting.

Staff writer Colum Lynch at the United Nations and Anne E. Kornblut in Washington contributed to this report.