Wednesday, 23 October 2013

Unglobalization - the decline in world trade

The declining growth in world trade has got economists baffled.  Some economists think this is important whilst others are not so fazed.  On the face of it we should care because the volume of trade has broadly mirrored the growth in GDP (wealth) across world so any decline may signal a slowdown in GDP growth.   The chart below shows the long run growth in world trade and the impact of the 2008 recession.  The steep decline and bounce back between 2008 and 2010 is not surprising but the lack of sustained recovery since 2010 is a worry, particularly in the developed world.

World trade growth was anaemic at 2.0% in 2012 — down from 5.2% in 2011 — and is expected to remain sluggish in 2013 at around 3.3% as the economic slowdown in Europe continues to suppress global import demand. WTO Director-General Pascal Lamy has said“The events of 2012 should serve as a reminder that the structural flaws in economies that were revealed by the economic crisis have not been fully addressed, despite important progress in some areas. Repairing these fissures needs to be the priority for 2013,” .
On the face of it poor growth in world trade is probably a reflection of the slow recovery in developed countries but may also have been aggravated by changes in economic policy in the developing world.  In emerging economies there has been a greater focus on domestic consumption and the expansion of a credit bubble in China and other emerging markets might well have had an impact on global trade, the inward focus of consumption combined will poor demand in traditional markets could well have impacted the overall volumes in trade. But the main worry is the really poor performance of the developed world, where trade volumes have hardly risen in the last 3 years.  The chart below pictures the problem pretty well.  The surge in trade before the 2008 crash reflects the great expansion of commodity flows around the globe but the subsequent decline and fall is difficult to explain away.

There are a couple of macro-economic factors that are at play here that may well be affecting the global economy to recover its impetus in international trade.  The first and most worrying trend is the effect of an aging population in the west.  As the baby boomer generation reach retirement age we have the phenomena (for the first time) that increasing population may no longer be the engine for economic growth.  The main reason for this is that those of retirement age, generally have less to live off than those of working age, older people tend to draw in their levels of expenditure and live a bit more frugally, they travel less and consume less.  The problem today is that fewer people are joining the job market than are leaving it – the net effect is a decline in consumption and production.  The focus European governments have had on social welfare and lowering retirement ages ha really bitten them in the backside and must be one off the main causes on low growth and low levels of international trade.
The chart was produced by Casey Mulligan in the New York Times and pictures the US labour market over time.  The red series shows that, without any adjustment, the labor market is still about 6 percent below what it was in 2008: less than half recovered from its 10 percent drop. But the recovery is more significant if we adjust for age: the gray series had reached 96.3 by August 2013.

Mulligan goes on to say “In other words, two of the six percentage points of the current depression of the red series is a consequence of population aging between 2007 and 2013. Because the Federal Reserve and other policy makers cannot stop the aging process and the labor supply shifts that go with it, they should understand that their job of helping recovery will be finished before the red series gets back to 100”.  This is an interesting subject for debate as both Ben Bernanke and Janet Yellen have put much store in the recovery on the employment market – indeed they have linked the ending of QE to a return to normal levels (100) of employment.
Linked to this trend of lower employment hours resulting for demographics there is also a trend for those in work to work fewer hours.  How this might affect world trade is pretty complicated but the overall effect of more people working for fewer hours probably has a negative on the overall consumption of goods and services.  Certainly when we combine this with a higher tax take in the west, driven by the need for governments to reduce debt.  It’s a fair bet to say that the natural levels of consumption and demand of imported goods in the west will be lower than it was at the height of the credit boom.
The second factor worthy of consideration is the lack of credit available in the west.  Banks are under enormous pressure to recapitalise under Dodd Frank and BASEL III regulations and these regulations combined with the mountain of distressed debts that still exist in the European banking sector means that there is virtually no credit available for businesses to expand.  This means that companies (particularly SMEs) have to focus on domestic markets that are cheaper to service.
This squeeze the banks are putting on commercial activity is mirrored by the flows of investment capital.  As yields in the west declined in 2008-9 there was a massive outflow of money from the west to emerging economies and these flows reversed in 2012 and are now putting a break on the ability of emerging markets to continue their trend for long run growth.  The lack risk capital in both the developed world and emerging markets must have a significant negative impact on world trade.
Does this combination of macro difficulties signal the end of the hectic growth associated with world trade that we have all become accustomed to?  Do aging population necessarily mean slow growth and less trade.  Can world trade recover before the banks are recapitalised and the flows of capital are less short term?  We probably have another year or two to wait before all of this becomes clearer but it seems likely to me that:
1. Aging populations in the west will harm growth and trade over time
2. Until interest rates return to sensible levels, capital will still wash around the system in quite a short term and haphazard way.  This will harm trade and growth although there may be some notable winners – like the UK perhaps
3. Until the banks are safe and the systemic risks associated with government defaults reduced markedly we can expect growth to be muted.
4.  All of this may be blown away if emerging markets bounce back quickly, but don’t hold your breath, we have a long way to go before we return to the kind of trade growth we enjoyed in the noughties.

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