The Global Economy’s ‘Zombie’ Hangover

- Oct 09, 2018-

BEIJING — FINALLY, after many false starts, setbacks and stumbles, the 2008 financial crisis seems to be behind us. The U.S. economy is surging, with unemployment at its lowest level in 18 years and stocks hitting all-time highs. Sluggish Europe and Japan have enjoyed solid rebounds, too. In the developing world, India, the Philippines and other promising economies continue to roar at a breathtaking pace.

Happy days are here again!

Well, not entirely. Sure, the deep despair of the Great Recession has passed, and the global economy is in much better shape than it was five years ago. But scars remain, sore and raw. In some respects, the steps taken to cure the diseases of joblessness and stagnation have hatched an entirely new batch of ills. Yes, the tumultuous events of 2008 are still a part of our lives today.


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Even now, 10 years after the collapse of Lehman Brothers, the global economy has not fully recovered. World output expanded by just over 3 percent in 2017, its stronger performance in seven years, but short of the 4 percent-plus clip often reached the mid-2000s. Rather than picking up speed, the current expansion of the global economy may already be peaking.

For many workers, the crisis is still something they live with every day. The Wall Street meltdown hit the welfare of American families so hard – with layoffs, long-lasting unemployment and a drop in housing values – that many are struggling to regain what they lost. As of 2016, median household income remained below where it was before the crisis and the poverty rate was higher.

The number of Americans living in poverty in 2017 – 39.7 million – was still higher than in 2007.

Catching up has been difficult. Despite a tight labor market, many workers have not benefited from the recovery as they should. Wage growth has remained surprisingly tepid, especially when adjusting for increasing costs of living. Troubling, too, is how many working-age Americans are choosing to sit on the sidelines and not even look for work.

In Europe, too, growth has improved, but many problems are unresolved. The continent's currency union (which uses the euro) almost unraveled as numerous member countries – including GreecePortugalSpain and Ireland – sank into debt crises. Though the turmoil was eventually quelled, mainly by a concerted stand from the European Central Bank, or ECB, worries about the future of the euro have not gone away. That's why the election earlier this year of a euro-skeptic administration in debt-ridden Italy, one that seemed eager to unleash more government spending, so quickly rekindled fears about financial stability in Europe.


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Meanwhile, the world's most important central bankers, ECB President Mario Draghi and Federal Reserve Chairperson Jerome Powell, are still very much in crisis mode. Both are trying to extricate their institutions from the unorthodox policies adopted to pump cash into the world's major economies in an attempt to restore growth and create jobs. The largesse, and now the pullback, have spawned new turmoil, especially in the emerging world.

When dollars were flooding global financial markets, borrowing them was cheap and easy, and governments, companies and banks in developing nations took advantage. Now that interest rates in the U.S. are rising and the dollar strengthening in value against other currencies, those loans have become more expensive to pay back. Debt among emerging economies has risen substantially in recent years, from 145 percent of their output in 2012 to 194 percent in 2017, according to the Bank for International Settlements.

The result has been uproar in currency and stock markets across emerging economies. The biggest victim so far is Argentina, which had to turn to the International Monetary Fund for a $50 billion bailout in June. Turkey's currency has plunged as fears of a debt crisis mount. The Indian rupee recently dropped to all-time lows, too.


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Even mighty China is feeling the strain of the crisis. Obsessed with maintaining lofty rates of growth, Beijing policymakers unleashed a torrent of credit and state spending in the wake of the 2008 meltdown to prop up the economy. That created a mountain of debt and excess capacity that is weighing on the banking sector, creating "zombie" companies – the term coined to describe businesses that are still operating but cannot repay their debt – and forcing the government to continue injecting fresh credit to keep the economy moving. The surge of debt has raised fears among some investors and economists that China could one day face a banking crisis of its own.

To put the global economy on a sounder footing, the world's politicians need to push ahead with some tough reforms. Generally speaking, what's needed are new policies and investments to boost sagging gains in productivity. For China, that entails withdrawing the heavy hand of the state to allow the market to better allocate money and labor. In the U.S., investments on new infrastructure and education could help. In Japan, repairing an overregulated labor market that forces too many workers into unstable, poorly paid jobs is critical. Emerging economies like IndonesiaRussia and India need to become friendlier to business investment. The European Union requires further cohesion to forge a truly common market.

Unfortunately, policymakers are hurting, not helping, the prospects for new growth. Donald Trump's "American First" strategy is upsetting the world trading order. The United Kingdom's "Brexit" from the European Union is splitting off one of the region's most important economies. China remains wedded to state-led industrial initiatives despite the vibrancy of its private sector.


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Perhaps the greatest leftover danger from the 2008 financial crisis is the mindset it created. The bailouts and rescues of financial institutions used to calm the crisis have implanted in the thinking of the world's bankers that they are indeed "too big to fail." That encourages the kind of risk-taking that fomented the 2008 debacle in the first place.

Asli Demirguc-Kunt, director of research at the World Bank, doesn't see excessive risk building up in the world's banks just yet, but she can envision the chain of events that could lead us into another potential disaster.

"As the economy picks up, and the risk taking incentive continues to exist, and as banks become larger and larger, the same types of patterns start emerging," she says. "I wouldn't be surprised that down the road in five to 10 years something else happens and we say, 'We didn't see it coming.'"

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