STEPHEN KING: When the money runs out

In the 1950s through to the 1980s there were a series of one-off structural changes in the global economy that were mostly very favourable to western nations and provided most of the fuel for their growth. They include the opening up of world trade after the Second World War, giving up all the constraints of protectionism, the emancipation of women within the workforce, particularly in the 1970s and the 1980s, which transformed the market quite considerably, and the huge improvements in educational attainment, with the number of people going to university up considerably between the 1950s and 1990s. There was also considerable growth in credit markets, which in turn allowed much more in the way of consumer purchases. I would argue that these kinds of things are one-off step changes in the performance of the economies. You start from a poor position; you advance to a much better position, and in that process you go through a period of unusually rapid economic growth – which is what we’ve enjoyed.

However, when that process draws to a close, you discover that you’ve got much weaker growth than you had bargained for. But if you have made all your financial plans on the assumption that the old growth rates will continue, then a gap will open between reality and those financial plans. Today part of the issue is that a lot of policy is directed towards assuming that this is merely a cyclical setback which can be easily resolved through a wave of the quantitative easing magic wand. But when you actually look at the economic data so far, even in the countries that have become relatively better, the recovery has been remarkably weak, and this supports the idea that longer-term growth rates are perhaps lower than they were previously.

That’s only the start of the problem. You can add to that the scale of the financial crisis itself, which is much bigger than anyone has expected. And associated with the financial crisis, there has been a significant breakdown of trust within markets in general. If you have an economy that really isn’t expanding, issues like income and wealth distribution become much more important. Everyone rapidly moves towards minimizing losses, rather than maximizing gains. And as everyone is busily minimizing losses, the entrepreneurial spark that you might associate with decent growth is blown out. One of the problems we have in the West is that we today desperately want to carry on consuming in the way that we’ve become accustomed to. But if we’re not producing enough in the way of income, then the best way of trying to consume more is effectively to pass the burden on to the next generation by having large amounts of debt and asset price bubbles to allow us to consume more in the short term.

We need to have a social contract between generations. We need some mechanism to ensure that the future generation is looked after. We need to preserve central areas of investment, for example in education or infrastructure building, and things need to be reduced elsewhere to preserve this investment. You end up with the very hard decisions on the age of retirement or medical provisions or whatever comes out of this debate. I would argue that currently in the western world we try to resolve this problem by borrowing more, hoping that income will rebound in the future and, if it doesn’t, we’re simply shifting the burden onto future generations.

These are not the only changes in the fundamentals of western economies. Central banks’ decisions, partly as a consequence of the policies that are being pursued, are more and more like a political process. For example, quantitative easing probably lifts commodity prices, it probably weakens the exchange rate, and it probably raises the value of domestic financial assets. If you’re someone who is financially asset-rich and do not depend too much on a wage income, actually quantitative easing works very nicely for you. If, however, you are a worker who depends on a wage income and has very few financial assets and you see the consequences of higher domestic inflation, thanks to higher commodity prices and a weaker exchange rate, but no corresponding wage increase, then you’re probably worse off. That kind of redistribution of income and wealth drags central banks into the political process.

These days, the attempt to create faster growth without necessarily addressing supply-side effects has led to a hunt for yield which threatens misallocation of capital. The obvious reaction to that is to think about the imposition of capital controls and exchange controls to limit the inflows, and lately the IMF has become less unenthusiastic about these policies. For the most part over the last 30 or 40 years, globalization has provided significant benefits, rather than costs. But now the emphasis on the costs of globalization is such that, in the hunt for faster growth at the national level, I think we might end up with a much more protectionist environment globally. And we’ll not only get trade protectionism, but market protectionism as well.

Stephen King is Chief Economist at HSBC. His new book, "When the money runs out: the end of western affluence," is due to be published in June. Interview by Antonia Oprita