The fall of Lehman nine years ago when it filed for bankruptcy on September 15, 2008, is a reminder of several things. First, it was a blow to the concept of financial engineering which was touted to be the most efficient way to multiply lending through some innovative methods. Second, it is a grim reminder that regulation of markets is very important because they do not clear. This questioned the basic tenets of Adam Smith and his ‘invisible hand’. Third, the great benefits from globalisation extolled by Thomas Friedman in his conceptualisation of the world being flat saw the darker side where the meltdown was felt everywhere in the world. Fourth, Keynes made a resurrection as the government attained the prime status as it was realised that when everything fails, it is the government which has to sort out the mess created by the capitalists and perforce socialise the losses.
Fifth, credit rating agencies had to rework their models of conflict of interest when dealing with clients as an advisor and rater. This was similar to the restructuring of accounting and audit firms after the infamous Enron episode. Sixth, executive pay suddenly became a headline and while the world earlier revelled in talking of the drive shown by several such management heads, the tone turned to suspicion and scorn as the brush now painted all of them in one stroke as being greedy capitalists who sucked the system. It was said that CEOs of investment firms always win—when things are up they take credit for it, and when things fail, they are nowhere to be seen and cannot be penalised after they have allotted themselves enormous stock options. Last, on the lighter side, the crisis helped to create several authors as there has been a plethora of books on the subject. Somewhere in between, Thomas Piketty struck the right cord as the world looked upon inequality with an equal eye.
In a way, 2008 was a watershed year for the world economy. The Western world has still to recoup its losses and there are still desperate attempts being made to go back to equilibrium. In between the sovereign debt crisis struck for Europe as countries tumbled into turmoil from around 2010 onwards, with Greece leading the way. The refugee problem and Brexit are now at the fore, and while the emerging markets claimed to have decoupled from the West, the tale took several twists with China slipping sharply from its double-digit growth path. The world definitely looks less promising from what it was prior to 2008 when the great moderation was recognised in the West and leading emerging markets had come together as the BRICS grouping, heralding a different model of growth.
How have countries performed in these two groupings? To iron out single-year variations, the three preceding Lehman, i.e., 2005, 2006 and 2007, have been compared with the last three years’ (2014, 2015 and 2016) average in the accompanying graphic. GDP growth has slowed down in all the countries, even six years after Lehman, meaning the world economy had not recovered from the setback. This holds for both the developed countries as well as the BRICS nations. Hence the decoupling story has not quite played out, and while the impact was greater for the developed countries, there was significant collateral damage for the emerging markets as well.
Growth in exports is a good indicator of the success of globalisation, as one of the highlights of this process is the extent to which countries get interconnected through trade. Here, too, it is the same story where growth has slowed down across all countries—in a way, this is also related to GDP growth rate.
The unemployment rate however has come down for all the countries except France, Italy and South Africa. The CAD, which is another indicator that reflects the state of the external sector, also showed improvement for most countries, which was aided mainly by low crude oil prices which helped almost all countries witness stronger balance of payments situation. China had lower surplus, while the UK had higher deficit. France moved into a low deficit, while Germany strengthened its surplus while Italy moved into the surplus zone. Therefore, lower GDP growth and falling crude prices helped to bring about this improvement.
The accompanying graphic also provides information on two major fiscal indicators that are under constant watch by multilateral agencies: fiscal deficit ratio and debt-GDP ratio. Here, the picture is straight forward. All countries witnessed higher deficits in general with the level of government debt also moving up as a % of GDP. Germany was the only exception with the fiscal balance being in surplus in the last three years. Russia and South Africa which were in surplus before 2008, went into a deficit while there was substantial increase in deficit of Brazil, the UK and the US.
A larger role for the state, which involved resuscitation packages of pump-priming, followed which also increased the debt of the governments which rose sharply for all the developed countries while they were of a moderate level for the emerging markets. For India, it came down, while it was a modest increase for Russia and Brazil.
Hence, the financial crisis’s shadow is still upon the world economy, and there is a constant struggle to revert to the normal that prevailed before the onset of Lehman crisis. The stock market has recovered—which is expected with the market capitalisation-GDP ratio for the world improving from 67% in 2008 to 99.4% in 2016. However, the earlier peak of 114.3% in 2007 or 106.4% in 2006 is still to be achieved, which is telling of confidence. Hence, while a lot of housekeeping has been done in terms of getting the regulation in order as well as introducing transparency in government finances (Euro region, in particular), the world economy is still to get back to the earlier normal. Central banks are struggling to move out of the support mode, which was witnessed for the first time through an uncoordinated effort at quantitative easing. While countries are hopeful of a recovery being on the anvil, it is more driven by hope than conviction and it does appear that it would take at least a couple of more years to reach equilibrium.
Chief economist CARE Ratings, Madan Sabnavis. Views are personal.