The most recent G7 finance ministers? meeting in October was an utter failure. The only thing that they agreed on was to admonish China to revalue its currency. The yuan?s value, while important, is not the central question facing the world economy today. The real immediate problem concerns what is happening and what will happen to the dollar. But the real issue for prosperity concerns the foundations of the global financial system.
How low will the dollar go? How can we undo the imbalances of economies?China, followed far behind by Europe?exporting massively to the US or to the dollar zone? Will the US mortgage market subside into calm, or will it contaminate the whole international financial system? Is there a risk that rising oil prices?will cause further debt defaults worldwide? The spate of earning reports from America?s biggest banks suggests that there are real worries here.
According to many economists, commentators and journalists, today?s worries are temporary, solvable difficulties. There is no general crisis on the horizon.
I disagree. I believe that we have entered a period of weakening across different parts of the global economic system, and that this may lead to a global recession. This weakening calls for a strong international public response, including tighter regulation, if we are to avoid such a crisis.
Why does the world economy look so flimsy? First, the way capitalism operates nowadays has changed mightily from just 30 years ago. In developed countries from 1945 to 1975, capitalism brought rapid growth, an average of 5% per year for long periods. Of course, it was subject to ups and downs, but it was not subject to financial crises of the type that we see regularly today. Moreover, capitalism in the post-WWII decades maintained full employment, with unemployment often hovering around 2% in Europe, North America, and Japan. Job insecurity back then was mostly unknown and mass poverty had disappeared.
The keys to that period of growth and happiness were a strong social welfare system and mainly Keynesian domestic and foreign economic policies in all the world?s big states. Above all, every developed economy pursued policies designed to provide high wages, which would guarantee high consumption and thus rapid growth. Shareholders used to put up with relatively meagre dividends.
Thirty years on, shareholders have broken definitively with this system. Pension, investment, and hedge funds have taken the lead in this revolution. In all developed economies, profits have leaped spectacularly in the past 25 years, by between 8% and 10% of GDP. But wages and social security revenues have suffered an equivalent cut.
As a result, growth has weak underpinnings. Everywhere, labour is becoming insecure and mass poverty has reappeared in developed countries. As economic deregulation increased, financial crises began erupting: since 1990, there have been three distinct crises in Latin America, one each in Russia and Asia, the Internet bubble, and now the subprime crisis. Second, over the past 6-7 years, strong GDP growth in the US and UK has been offset by staggering debt. The US now borrows $2 billion a day, 95% of it from Asia and 45% of that amount from China?s central bank. America?s total debt exceeds $39 trillion?roughly 3.5 times its GDP. This situation will remain manageable only if oil prices stop increasing. And yet, the opposite is more likely, with domestic inflation bringing the threat of higher interest rates.
Finally, while assets nowadays are much more liquid, this has not boosted long-term productive investment. Instead, the profitable carving up of healthy companies has freed up capital to flow to intangible assets, houses and other forms of real estate, fueling a speculative crisis. In short, the global economy has lost its moral bearings. There is an urgent need for a global conference?a Bretton Woods II?to adopt strict rules to contain today?s wayward financial markets.
Michel Rocard, former Prime Minister of France, is a member of the European Parliament.
? Project Syndicate, 2007