‘Deeper, longer recession looms’

The world’s major economies are skating on dangerously thin ice and lack the fiscal, monetary, and emergency tools to fight the next downturn.

A roster of top crisis veterans fear an even more intractable slump than the Lehman recession when the current expansion rolls over.

“We have no ability to turn the economy around,” US National Bureau of Economic Research president Prof Martin Feldstein said.

“When the next recession comes, it is going to be deeper and last longer than in the past.

“We don’t have any strategy to deal with it.”

Feldstein, a former chair of the White House Council of Economic Advisers, described a bleak scenario more akin to the depressions of the 1870s or the 1930s than anything experienced in the post-war era.

He warned that a decade of super-low interest rates and monetary stimulus by the US Federal Reserve has pushed Wall Street equities to nosebleed levels.

Stock prices will inevitably come plummeting back down to earth.

Feldstein said the next bear market risks setting off a $10trillion (R149-trillion) crash in US household assets.

The cascading wealth effects will drain the retail economy of $300bn (R4.5-trillion) to $400bn (R6-trillion) a year, causing recessionary forces to escalate.

“Fiscal deficits are heading for $1-trillion [R15-trillion] and the debt ratio is already twice as high as a decade ago, so there is little room for fiscal expansion,” he said, speaking on the sidelines of the Ambrosetti forum on world affairs in Italy.

The eurozone faces an even worse fate when the global cycle turns, since the European Central Bank (ECB) has yet to build up safety buffers against a deflationary shock.

“The Europeans don’t have a fiscal backup. They don’t have anything. At least you have your own central bank and treasury in Britain.

“Mario Draghi [ECB president] is going to be very happy when he has left the ECB because it is not clear how they are going to get out of this when they still have zero rates. They can’t play the trick of the cheap euro again,” he said.

The ECB has already precommitted to holding its reference rate at minus 0.4% until late 2019.

By then, the global economy will be acutely vulnerable since the sugar rush from Donald Trump’s tax cuts and infrastructure spending will have faded.

The US is entering uncharted and perilous waters.

The jury is out over whether it can follow the example of Japan and push the public debt ratio to stratospheric levels (245% of GDP). The difference is that the Japanese are the world’s biggest savers and external creditors. The Americans must import capital to finance their twin deficits.

Foreign investors own half the stock of US Treasury bonds.

They will not fund ballooning deficits indefinitely.

Feldstein said Americans would have to cover a bigger share of the burden themselves and this will crowd out the US bond markets, with knock-on effects for equities.

Former International Monetary Fund chief economist Olivier Blanchard said the US has big enough buffers to cope with a “run-of-the-mill” recession but would need to tear up the rule book altogether in a deep downturn. –