Ferguson and Baz: The limits of macroeconomic policy
In the opening panel discussion at Gaim International 2012, GLG Partners’ chief investment strategist Jamil Baz (pictured) started off by outlining the general macroeconomic consensus.
He noted that governments had thrown the kitchen sink at the problem, that Ben Bernanke deserves a big fat cigar and that at 2 per cent, GDP growth in the US isn’t actually that bad. There’s no reason why this crisis should be any different to all other historical crises, including 2008: it is, said, Baz, “just another crisis”. He then outlined his reasons for disagreeing with everything he’d just said in his opening address about consensus opinion.
“If I had to summarise why I disagree with it in one word it would be leverage,” said Baz. “In 2007, weighted average total debt to GDP in G7 countries plus the four countries under the microscope – Spain, Portugal, Ireland, Greece – was 380 per cent. Today it’s 420 per cent. A lot has changed but then absolutely nothing has changed.”
Baz then gave three predictions: firstly that the crisis has not even started and could take another 15 years to reach its zenith; secondly, the economic impact will be devastating; thirdly, risky assets will look ugly as a result.
Baz said that countries would need to deliver by about 220 per cent: that’s basically 20 years of deleveraging. The economic impact of this deleveraging will be much bigger because countries have no ability to depreciate their currencies or cut interest rates which are already at zero per cent. The impact of this deleveraging could create another Japan scenario of 10 years of zero growth, “if we’re lucky”, said Baz. On risky assets looking uglier, Baz said: “If you believe like I do that deleveraging hasn’t even started, then you’ve also got to believe that profits are only going to head one way and that’s down.”
Harvard University’s Niall Ferguson agreed with Baz that the deleveraging story had yet to start and offered some historical insights into what the deleveraging story might imply. He referred to Adam Smith’s point about economies like 18th Century China reaching a stationary state because its laws of institutions don’t allow it to grow anymore: something that western economies now face.
“The great re-convergence will continue,” said Ferguson, referring to IMF projections that within four years China would overtake the US on a purchasing power parity basis. He said the Chinese middle class would become the most important player in the market faster than people expect. The point he was making was that the non-stationary character of emerging markets will continue.
Ferguson then introduced a series of known knowns, known unknowns, and unknown unknowns. He referred to continued population growth in developing countries, mineral resources becoming finite like copper, and inflation and nominal rates remaining low as known knowns. For known unknowns, Ferguson said: “There will be a major war, but we don’t know where, when or how big it will be.” Technology innovations will likely be adopted more rapidly than in the past said Ferguson, who then referred to an ‘unknown known’: the fact that the problem with globalisation is its inherent fragility.
“We are creating the most fragile network in our history and that is the global financial system,” said Ferguson.
So what’s the solution to deleveraging? Baz said there were three limitations: technical, political and democratic. On the third point, referring to Greece’s earlier attempts to negotiate a deal with Merkel and Sarkozy, Baz said: “It’s a worry when the army votes for a democratic solution and Merkozy votes for a dictatorial solution.”
Ferguson said that you could only solve a certain number of solutions with liquidity: “The probability that we grow our way out of this seems to me to be increasingly small. Only Britain in 1815 was able to grow its way out and lever up to become a global empire.”
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