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Saturday, 26 March 2011

As the world turns


I am back. Missed my last column as I had to put in a “bionic” spine on March 6. Technically, I underwent major surgery to resolve degenerative lumbar kypho-scoliosis causing severe multilevel spinal stenosis. Simply put, I had to fuse lumbar vertebrae #L2, L3, L4, L5 and S1 (the secrum).

The outcome: I now have 10 screws at my lower back and these are held together by two 7-inch titanium rods. It took 7-hours of surgery, so I now have sort of a “bionic” lower spine. That does sound awesome but I am fine walking and sleeping without pain; a trade-off I assumed in exchange for a rather stiff and inflexible lower back. No more golf for me, I am afraid.

The past week was not all bad. On March 19, I was conferred the Honorary Doctorate in Economics by Universiti Sains Malaysia, at which I served as Pro-Chancellor for the past 10 years (2000-2010). It was an honour I deeply appreciated.

Then on March 23, I was awarded the Brand Laureate Brand Personality Award 2010-2011 for achievements in economics and finance. That's rather thrilling since I have also been associated with (sitting on the boards of directors mainly) some of the best Malaysian and foreign brands over the past 17 years: Jobstreet, Mid-Valley MegaMall, Genting and Resorts World, Silverlake, Top Glove, F&N and Coca-Cola, Great Eastern Life, Straits Trading, and Cabot of Boston.

State of the world
Just as economic expansion is stabilising in the long-troubled US and eurozone, concerns are now emerging on the economic health of Asia and the Middle-East. The unfolding disaster in Japan following the March 11 earthquake and tsunami, along with the continuing turmoil in the Middle-East, have raised new concerns and uncertainties over economic prospects in these regions, including their impact on food and commodities' prices, especially oil.

As events turned, the US economy now appears healthier, with growth slowly gathering strength and consumers cautiously borrowing again. But, it's still a sluggish recovery with high unemployment at 8.9%, albeit its lowest in nearly two years, and a struggling housing market.

Let's face it. US households are still carrying far too much debt. Relative to income, families' debt today is nearly twice as high as in 1980s. Borrowing relative to disposable income after tax today stands at 120%. To return to normal (70%), debt would need to be cut by some US$6 trillion (or 45% of GDP).

The deleveraging process still has ways to go. Much is said about the bounce that could come from improving profitability of corporate America, if the cash finds its way into increased capital spending and employment. With companies still uncertain about the future, that's not happening. So like it or not, the anaemic recovery may yet require another jolt of new stimulus. That won't come easy, if at all.

The eurozone, on the whole, will see very moderate growth certainly lower than the United States, according to World Bank which talks of 2011 as a year of deceleration. In Europe, you get a mixture of some growth in Germany and France, and very soft recoveries (if at all) in debt-ridden Portugal, Greece, Ireland and Spain. The risks lie in the impact of continuing emphasis to contain inflation, while helping to keep the region's most indebted nations afloat.

The United Kingdom, in the midst of austerity, is now struggling. With markets unnerved by further rating downgrades on Greek and Spanish debt, the effective capacity of the European rescue funds has since been bumped up to 500 billion euros (US$700bil), with strings attached to whip eurozone laggards into shape through vigorous economic and fiscal workouts (including putting in law a pledge to get a grip on public debt). The intention is to prevent its sovereign risk woes from spreading beyond Portugal. Despite these steps, markets are not convinced. Europe is seen to continue to muddle and fuddle.

Where does this leave the rest of the world? The World Bank's January outlook talks of emerging and developing countries (EDCs) expanding at nearly twice (6%) the rate of global growth in 2011, and more than double 2.4% expected for high-income nations. Still, the overall pace of growth is not strong enough to give global recovery a solid traction.

Even so, the World Bank talks of “serious tensions and pitfalls persist in the global economy, which in the short-run could derail the recovery to different degrees.” These threats include eurozone financial market crisis, volatile capital flows and rising prices of commodities, especially food and fuel. Alongside are affordability issues, where poverty impacts could intensify with dire consequences for social and political stability.

Impact of oil

But the world has since changed with new concerns coming from Asia and the Middle-East. The Arab world has seen unprecedented political unrest as its people sought to bring down long-standing regimes, resulting of late in a new “war” in Libya.

As the region is a crucial supplier of oil, its price assumes a new risk. The world faces the prospect of another bumpy ride if oil prices persist on current levels. This time is more alarming because oil prices are rising out of fear that global supply lines are being disrupted. Not because demand for oil is racing ahead along with the price.

The World Bank says this surge in prices would dent growth in EDCs by 0.2-0.4 percentage points. Overall, this is unlikely to be large enough to derail the strong recovery we now see in EDCs. But a spike to US$150 or even US$200 a barrel would present a serious risk. For March, the price stood at US$90-US$120.

Yet a lot more can still go wrong. As I see it now, consumers can withstand a moderate rise in oil prices. But at anything above US$150, we are in unchartered waters and can cause panic, which in turn could lead to a double-dip recession in the West and high inflation in the East. It's a risk to be taken seriously.

However, oil prices have a firm floor (underpinned by demand) but a soft ceiling because of spreading unrest. If recent rise proves temporary, the world economy can shrug off its effects with relative ease. If the price rise persists, outlook could darken quickly.


The Middle East and North Africa (MENA) produce more than one-third of world's oil. The spread of unrest across the region threatens widespread supply disruption. Sure, the oil market has many buffers today: government stockpiles, high commercial stocks and Saudi Arabia's ample spare capacity to pump more.

Yet, more disruption can't be ruled out. The joker in the pack could be Saudi Arabia which bears many characteristics that had fuelled unrest elsewhere, including a large pool of disillusioned youth. Despite spending US$36bil to “buy-off” dissent, the Kingdom continues to face demand for reform.

Furthermore, a second threat could come from gradual dwindling of spare capacity. All points to a continuing high premium for oil.

Today, the world is less vulnerable to damage from higher oil, but not immune. The conventional rule of thumb is a 10% rise in oil price will cut world growth by one-quarter of one percentage point. The World Bank puts global growth in 2011 at 3.3% (3.9% in 2010), but its impact on inflation, especially in EDCs is much more serious.

The United States, facing low inflation now, sits rather comfortably. Even so, US consumer confidence fell sharply once petrol went pass US$3 a gallon. It's now at US$3.38. But Europe, already getting more unsettled with inflationary expectations, could over-react and tighten too far which can push its still-fragile economies back into recession.

The worse hit will be EDCs, many of them (India, Brazil and China) are facing problems of high inflation and rising inflationary expectations. Most serious is impact on the poor which has led many governments to subsidise both food and fuel. This has already put enormous pressure on the budgets of India and Brazil.

But the biggest damage lies in MENA itself, where subsidies on food and fuel are increasingly used to quell unrest. Fuel importers, such as Egypt, face enormous challenges in bankruptcy from spiralling high oil prices and ever-growing subsidies. At worst, the risks are circular with dearer oil and political uncertainty feeding on each other. So the world remains shakier than we all realise.

And then, there's Japan

As of now, the Japanese situation appears to be under control. There has been disruptions, of course, but not so serious as to cause real difficulties for the world economy as a result of earthquake and tsunami. Nevertheless, two areas of some concern remain. The first has to do with effects of nuclear plants which contribute up to 30% of total electricity generated in Japan.

In the event of catastrophe, the shortage of electricity and rolling power outages would adversely affect economic activities, which in turn could lead to cut-backs in imports and exports. These have attendant effects on other economies, especially in Asia.

The second deals with fears over Japanese supply chain disruptions. Some multinationals have begun to halt output due to shortage of parts from Japan. Especially hit are high-tech, automotive and steel industries, including electronic and raw materials for making semiconductors.

For example, Japan accounts for 90% of world's supply of bismaleimide triazine, a key material used in production of printed-circuit boards used in chips for tele-handsets. Japan is also a large suppler of silicon wafers used for semiconductors. It is home to many manufacturers of glass substrates, a key material in making liquid-crystal-display panels used in smart phones, tablet computers and TVs.

These disruptions are already affecting businesses which run “just-in-time” inventory processes with very little slack. Undoubtedly, the short term is likely to see disruptions. Japan is in urgent need to import coal, LNG and oil products to restore energy consumption, but damaged storage tanks, ports and refineries make it difficult to absorb fuel and raw materials foreign suppliers are prepared to rush in. All these would slow auto, technology and ship-building industries worldwide.

Cost of rebuilding has been variously estimated at US$150-US$250bil (1995 Kobe earthquake damage cost US$100bil). The upper end is about 4% of GDP. The government now talks of at least US$200bil. Reconstruction will take years with safer new structures of higher quality. This should begin to boost GDP later this year pushing up further demand for oil even as unrest in MENA raises supply fears. Higher oil prices are always bad news for Asia and the world.

A word on China

China's new economic roadmap sets a low 7% annual growth for 2011-2015; it's expected to grow 8% this year (10.3% in 2010). For the past five years, growth target was 7.5% but actual annual growth was 11.2%. This is intended to signal the government's desire to adjust the economic structure to bridge the wealth gap and to engineer a shift from investment/export-led growth model to one led by its own domestic engine, mainly private consumption.

The accent is on quality of growth, not its speed. Part of restructuring includes building 10 million affordable homes in 2011 and 36 million units in 2011-2015. That's enough to house the combined population of France, Australia and Canada.

My own view is that Chinese officials are convinced a slowdown is already in the works. To rebalance its economy, less weight is being placed on manufacturing and exports, and more in building services and getting domestic spending as the new growth engine. So it's not a matter of whether growth will indeed slacken but when.

Recent empirical work by my friend Barry (Prof Eichengreen of Berkeley) and Shin (Korea University) concluded that fast-growing economies slow down when per capita income reached US$16,500. China will be there in 2014 if it continues growing 10% a year. Generally, slow growth comes sooner when:
  • a higher ratio of elderly people is active in the labour force
  • manufacturing's share of labour exceeds 20%
  • its currency is undervalued
  • imbalances and excesses in manufacturing exports eventually force a deceleration (Korea in 90s).
 China displays all these symptoms. So if there is a lesson from history, is China's slackening growth really imminent? Certainly that's what China's new vision is. I am reminded of what Edison once said: “Vision without execution is a hallucination”.

Former banker, Dr Lin is a Harvard-educated economist and a British Chartered Scientist who now spends time writing, teaching and promoting the public interest. Feedback is most welcome; email: