Boom and then bust?

30 April by Michael Roberts

Picture Courtesy : Rafael Matsunaga [CC BY 2.0 (]

Last March, I posted that the global economy seemed to be in a fantasy world where stock markets hit new highs but output of goods and services, investment and trade was stagnating in the major economies. This week, the US stock recorded yet again new highs. As the Financial Times described it: “The US economy appears to be enjoying the fabled Goldilocks scenario. Its porridge is neither too hot nor too cold”.

This financial market Financial market The market for long-term capital. It comprises a primary market, where new issues are sold, and a secondary market, where existing securities are traded. Aside from the regulated markets, there are over-the-counter markets which are not required to meet minimum conditions. rally is founded on the decision of many central banks to hold their policy interest rates Interest rates When A lends money to B, B repays the amount lent by A (the capital) as well as a supplementary sum known as interest, so that A has an interest in agreeing to this financial operation. The interest is determined by the interest rate, which may be high or low. To take a very simple example: if A borrows 100 million dollars for 10 years at a fixed interest rate of 5%, the first year he will repay a tenth of the capital initially borrowed (10 million dollars) plus 5% of the capital owed, i.e. 5 million dollars, that is a total of 15 million dollars. In the second year, he will again repay 10% of the capital borrowed, but the 5% now only applies to the remaining 90 million dollars still due, i.e. 4.5 million dollars, or a total of 14.5 million dollars. And so on, until the tenth year when he will repay the last 10 million dollars, plus 5% of that remaining 10 million dollars, i.e. 0.5 million dollars, giving a total of 10.5 million dollars. Over 10 years, the total amount repaid will come to 127.5 million dollars. The repayment of the capital is not usually made in equal instalments. In the initial years, the repayment concerns mainly the interest, and the proportion of capital repaid increases over the years. In this case, if repayments are stopped, the capital still due is higher…

The nominal interest rate is the rate at which the loan is contracted. The real interest rate is the nominal rate reduced by the rate of inflation.
at very low levels. The US Federal Reserve FED
Federal Reserve
Officially, Federal Reserve System, is the United States’ central bank created in 1913 by the ’Federal Reserve Act’, also called the ’Owen-Glass Act’, after a series of banking crises, particularly the ’Bank Panic’ of 1907.

FED – decentralized central bank :
has basically announced that it will not hike its rate this year. The European Central Bank Central Bank The establishment which in a given State is in charge of issuing bank notes and controlling the volume of currency and credit. In France, it is the Banque de France which assumes this role under the auspices of the European Central Bank (see ECB) while in the UK it is the Bank of England.

has done the same and has decided to have another bout of ‘quantitative easing’ (buying government bonds and other assets from commercial banks). And today the Bank of Japan promised not to raise interest Interest An amount paid in remuneration of an investment or received by a lender. Interest is calculated on the amount of the capital invested or borrowed, the duration of the operation and the rate that has been set. rates before spring 2020 as it continued its massive programme of monetary stimulus.

Central bank policy, along with the prospect of the US-China trade deal (still not realised), has given new encouragement to financial institutions to invest in stock markets. But the biggest driver of the US stock market has been the major companies using this cheap finance to buy back their own shares to drive up the price and increase the ‘market value’ of the company. In 2018, buybacks reached $1.18trn, twice as much as was invested (after covering for worn out equipment) in productive capacity (plant, offices, equipment, software etc).

Thus the financial markets boom, but the ‘real’ economy struggles. The recovery since the Great Recession ended in mid-2009 is about to reach its tenth year this summer, making it the longest recovery from a slump in 75 years. But it is also the weakest recovery since 1945. And trend real GDP GDP
Gross Domestic Product
Gross Domestic Product is an aggregate measure of total production within a given territory equal to the sum of the gross values added. The measure is notoriously incomplete; for example it does not take into account any activity that does not enter into a commercial exchange. The GDP takes into account both the production of goods and the production of services. Economic growth is defined as the variation of the GDP from one period to another.
growth and business investment remains well down from the rate before 2007. That is why I designate the last ten years as a Long Depression, similar to the periods of 1873-97 or 1929-42.

Behind the fantasy of financial markets, global growth has been slowing. And worse, there are now several economies that appear to heading into outright recession. Today, the Asian powerhouse, Korea, suffered its worst quarterly contraction since the global financial crisis (Korean real GDP growth has fallen to just 1.8% – graph), as this export-driven economy felt the pinch from weakening growth in China, global trade tension and a downturn in the technology

Exports, which account for about half of the country’s GDP, are heading for a fifth consecutive monthly decline, falling 2.6 per cent quarter on quarter. And business investment plunged 10.8 per cent, the worst reading since the 1998 Asian financial crisis, as big manufacturers, such as Samsung Electronics and SK Hynix, refrained from increasing capacity amid a global economic slowdown and weaker demand for semiconductors.

Even worse, several large so-called emerging economies are experiencing severe contractions. After President Erdogan suffered significant defeats in local elections in Istanbul and Ankara, the Turkish central bank has been forced to prop up the country’s fast dwindling dollar reserves using ‘dollar swaps’, taking high risk short-term loans. It had to do this because dollars have been fleeing the country as the economy plunged and Erdogan refused to take an IMF IMF
International Monetary Fund
Along with the World Bank, the IMF was founded on the day the Bretton Woods Agreements were signed. Its first mission was to support the new system of standard exchange rates.

When the Bretton Wood fixed rates system came to an end in 1971, the main function of the IMF became that of being both policeman and fireman for global capital: it acts as policeman when it enforces its Structural Adjustment Policies and as fireman when it steps in to help out governments in risk of defaulting on debt repayments.

As for the World Bank, a weighted voting system operates: depending on the amount paid as contribution by each member state. 85% of the votes is required to modify the IMF Charter (which means that the USA with 17,68% % of the votes has a de facto veto on any change).

The institution is dominated by five countries: the United States (16,74%), Japan (6,23%), Germany (5,81%), France (4,29%) and the UK (4,29%).
The other 183 member countries are divided into groups led by one country. The most important one (6,57% of the votes) is led by Belgium. The least important group of countries (1,55% of the votes) is led by Gabon and brings together African countries.
loan to bolster finances because it would mean severe austerity measures being imposed. The net foreign assets figure, a proxy for the country’s financial defences, slumped by $9.4bn between March 6 and March 22 to $19.5bn, the lowest level on a US dollar basis since 2007. Excluding swaps, net foreign assets have stood at less than $11.5bn during the entire month of April, down from $28.7bn at the start of March on the same basis.

Argentina went deep into recession in 2018 under the governance of the right-wing administration of President Macri. When he was elected in December 2015,he said this his ‘neo-liberal’ economic policies would attract foreign direct investment and lead to sustained increases in productivity. The currency crisis that erupted in April 2018 underscored the failure of that policy approach.

Unlike Turkey, Macri turned to the IMF for a $57 billion stand-by loan – the largest in the IMF’s history – a clear case of bias by the IMF to help a government that it and US favoured over the previous social-democratic Peronist administration. The money is being used to make debt repayments as they come up. Elections are now just six months away, and the IMF conditions for the loan are biting into government spending and increasing tax burdens.

Investment is stagnating, inflation Inflation The cumulated rise of prices as a whole (e.g. a rise in the price of petroleum, eventually leading to a rise in salaries, then to the rise of other prices, etc.). Inflation implies a fall in the value of money since, as time goes by, larger sums are required to purchase particular items. This is the reason why corporate-driven policies seek to keep inflation down. has rocketed and the high interest rates imposed by the central bank have attracted short-term speculative portfolio capital, or ‘hot money’. Capital like that is just as likely to reverse with any new crisis. Next year, the amount of external debt that must be repaid will be at its highest and the IMF must also be repaid. The new government would then face two unpleasant options: a straitjacket of higher debt payments, more austerity, and more recession, or a painful debt restructuring with an uncertain outcome.

And there is Pakistan. This is another so-called emerging economy where capital to fund economic growth and investment has dried up. Up to now the new administration under Imran Khan, the former Pakistan cricket captain, elected on a no corruption platform, has refused to take an IMF loan, for the same reasons as Turkey. Its finance minister, Asad Umar instead to tried to raise new loans from China and the Middle East, much to the chagrin of the US. But it has not been enough to stave off a new potential collapse in the currency. Pakistan’s inflation is at a five-year high of more than 9 per cent, while the rupee’s value has plummeted 33 per cent since 2017.

Umar was forced to resign last week. The new finance minister has reached an agreement in principle to take an IMF loan – Pakistan business will thus gain some stability while the Pakistan people will pay with more taxes and cuts in services, labour conditions and infrastructure projects. “The solutions are not going to be easy. The choices will be politically difficult for any government,” said Abid Suleri, an economic adviser to Khan.

Stock markets may be booming in North America but economic prosperity in many parts of the world is disappearing like water in a desert. And in some parts, a sand storm is fast approaching.
Michael Roberts

has worked in the City of London for over 30 years as an economist. He is author of several books on the world economy: The Great Recession, The Long Depression and World in Crisis. He blogs at

Other articles in English by Michael Roberts (6)




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