How consumer spending can help create a fairer, richer, greener and more stable global economy.
Philippe Legrain | July/August 2010 issue
Is my money safe? Will my wages get paid? Will I even have a job? What about my pension? What is my home really worth?
Such questions had never even crossed the minds of most people in rich countries until the recent financial crisis. Economic meltdown might strike poorer places such as Argentina, Asia or Africa. It may feature in the history books: Remember the soup kitchens and welfare lines of the Great Depression in the 1930s. But it did not happen—surely could not happen—nowadays in supposedly advanced economies.
Or so we thought—until September 2008, when banks were suddenly falling like ninepins, markets were plummeting and governments seemed overwhelmed. Was everything we took for granted falling apart around us.
Now that the recovery has begun, powerful voices argue that little needs to change, really. The financial system may need a few tweaks here and there, but otherwise the world should go back to business as usual. The faster economies recover, the stronger such siren voices will grow.
Others feel that everything must change. Global capitalism is a giant wrecking ball that crushes the poor, destroys jobs and is killing the planet; such a dangerously unstable and destructive force needs to be tamed, they argue.
Meanwhile, many people aren’t quite sure what to make of it all. Angry but confused, they lash out at all and sundry: greedy bankers, conniving politicians, dastardly foreigners. Unfortunately, this debate is generating more heat than light and too little action where it is needed, too much where it is not.
Contrary to those who argue that global finance should be left largely intact, it requires radical reform. Yet the changes that policymakers are considering are too timid; some are irrelevant, others wrong-headed. The understandable furor about bankers’ bonuses is diverting attention from much more important issues, not least the unacceptable notion that some banks are “too big to fail” and so have a license to gamble at public expense—heads they win, tails taxpayers lose. Economists call this “moral hazard.” But that is a huge understatement—it is a racket. Capitalism without risk of failure is like power without accountability—it corrupts absolutely.
But while finance needs radical reform, the global economy still offers huge opportunities for progress.
Help homegrown consumers
Westerners often wonder gloomily where tomorrow’s jobs will come from these days. Increasingly, they will come from selling to China and other emerging economies. So instead of worrying that China is going to take everyone’s jobs, people should be looking to the huge opportunities that its growth offers—and going out and grabbing them.
But while emerging economies’ imports will almost certainly continue to grow quickly in the years ahead, will they expand fast enough to fill the gap left by Americans and others tightening their belts? That is the trillion-dollar question on which the world economy’s prospects for recovery rest. The answer depends in large part on whether politicians try to resist the necessary changes to the global economy or embrace them.
It is deeply unfashionable—almost blasphemous—to say so now that the Era of Excess is over and we live in an Age of Austerity, but consumption is wonderful. It’s what makes the world economy whir round. Without consumption there is no production, no income and no jobs. While some people have spent too much and have no immediate desire for more, plenty of people in the world have unmet needs.
People in countries like Germany and Japan pat themselves on the back for being prudent—for squirreling away surplus savings while others spent—yet now that their customers in English-speaking (and many Mediterranean) countries are no longer spending, their production has slumped. Now is their time to be profligate.
Emerging economies are also bursting with people who would love to go on spending sprees.
The world (and your own) economy needs you.
If you’ve got it, spend it.
Now policymakers have to make it possible. But for countries such as Germany, Japan and China that have long focused on exporting, it may be trickier than it seems to stimulate domestic spending and restructure the economy to cater more to homegrown consumers.
The problem starts with the fact that households get much smaller shares of the economic pie than in America or Britain, for example. They then save a bigger chunk of it. As a result, whereas consumption accounted for 71 percent of the U.S. economy in 2008 and 67 percent of Britain’s, it was only 55 percent of the total in Japan, 54 percent in Germany and a mere 37 percent in China.
Consumption in Britain and America is arguably too high. But if Japan and Germany raised theirs to Canadian rates—60 percent of the gross domestic product (GDP)—it would give a big boost to domestic as well as global demand.
Had Germans spent like Canadians in 2008, consumption would have been $220 billion higher. Had the Japanese done likewise, it would have added $246 billion. If China had emulated Hong Kong’s rate—53 per cent of GDP—consumer spending would have been $692 billion higher in 2008. This would have filled the shortfall left by a slump in American demand of nearly 5 percent of the GDP. Together with higher spending in Japan and Germany, that would be equivalent to nearly 2 percent of the global GDP.
Of course, this cannot happen overnight—and would require a currency appreciation (or a burst of inflation) to displace exports and encourage imports. But it could happen faster than people think, not least because China’s economy is growing like gangbusters. Even without much reform, China’s household consumption is growing by nearly 10 percent a year.
Put consumers first
In both Germany and Japan, the underlying problem is that leaders prioritize business interests over consumer ones. This reduces the share of the pie available for personal consumption—and because these domestic economies are so sluggish and inflexible, firms there naturally prioritize foreign markets.
It’s easier to sell Porsches or Lexuses to Wall Street traders than to set up a cleaning company employing Polish or Filipino workers to service domestic consumers’ needs. It’s also less difficult to cut costs by clamping down on wages than by shaking up the economy through real reform.
Germany and Japan should view the crisis as an opportunity for reform—not to embrace American-style casino capitalism, but to cater more to their own people’s needs. While Germany is right to be proud of its exporting prowess, it should recognize that the purpose of selling products to foreigners is to make Germans better off. A bonfire of regulations would allow thousands of service companies to spring up, offering everything from affordable Polish plumbers to nifty price-comparison sites.
It is much easier to start a business in Albania or Sierra Leone than in Germany, according to the World Bank’s Doing Business rankings for 2010. Strikingly, considering how Germany prides itself on corporate competitiveness, investment accounted for a smaller share of the economy in 2007 than in consumer-crazy America.
Why are German entrepreneurs in Silicon Valley rather than the Ruhr? What is so wrong with allowing foreigners to provide good care for elderly Germans? Were Germans really better served by stashing their savings in Ländesbanks that bought toxic American assets?
Even allowing for the financial bubble’s inflation of American and British growth, Germany has performed dismally in the past decade. Now that demand for its exports has collapsed, perhaps it should try its hand at something else, too.
Get the right kind of recovery
The problem is not just a lack of consumer demand. It is a distorted pattern of supply. The world economy remains geared toward resuming the old, unbalanced, unsustainable pattern of growth.
Look around. Britain’s high streets are littered with banks, building societies, estate agents and other sharks that fed off the credit bubble. America is awash with empty houses, boarded-up shops and eerily quiet shopping malls. Wall Street and the City of London are crowded with bloated banks cranking up to generate often-unnecessary financial engineering. China’s coastal regions are cluttered with factories primed to churn out consumer goods for American homes. Germany is full of idle car factories tooled up to make gas-guzzlers for which there is no longer enough demand. Japan has still not worked off the excesses of its own bubble two decades ago.
For now, the focus is all on recovery, any recovery, at any cost. But unless the world economy shifts to a more balanced, more sustainable pattern of growth, the recovery is likely to be weak and lopsided, and pave the way for another crisis.
The bad old pattern of growth was driven by the seemingly insatiable debt-fueled demands of American consumers. In crude terms, Americans borrowed and spent, while the Chinese produced and lent.
But for now, America’s anxious and over-indebted consumers are no longer willing or able to continue spending like there is no tomorrow. Their incomes are stagnant (or falling), their houses and shares are worth less, they are terrified of losing their jobs and in any case, banks won’t lend anymore. Dawn has broken, and it feels more like dusk.
The big fall in American consumer spending is the main reason why global demand has ultimately collapsed. Left unchecked, this would have caused a depression: Since one person’s spending is another’s income, if everyone tries to cut back at once, a vicious spiral ensues as falling production chases falling consumption downward. So governments had to step in to try to fill the gap.
Now the priorities should be maintaining employment (but not specific jobs), protecting the vulnerable and investing in healthier patterns of growth. Slashing payroll taxes would boost disposable incomes and support employment without protecting specific jobs at the expense of others. Cushioning the blow on the vulnerable is humane and supports spending.
The best way for governments to increase demand is through spending that encourages economic adjustment and boosts the potential for growth. Governments could provide subsidies to workers—those still in jobs, as well as the unemployed—to retrain and acquire new skills, as Denmark does. In Britain and America, increasing investment in crumbling infrastructures would put idle hands in construction to work, help shift the balance of the economy away from consumption toward investment and raise these economies’ growth potential. Better transport networks, in particular, would boost exports. It should also be a priority in emerging economies, where infrastructure is barely keeping pace with growing needs.
A sustainable recovery requires a thorough overhaul of the world economy to cater to more balanced, healthier patterns of growth. This involves a profound change in people’s behaviors, a restructuring of the corporate landscape and a shake-up of government policies.
Americans and Britons need to rediscover the virtues of living within their means, rather than wrongly viewing their homes as cash machines. Germans and Japanese need to give in more to the joys of consumption, rather than continually squirreling away nuts for a rainy day; storms don’t come much bigger than this.
Economies dominated by housing and finance need to invest in more productive sectors. Those in which exporters hold sway need to invest in sectors that service domestic consumers’ needs. Governments everywhere should tackle the obstacles that prevent businesses and people from adjusting—gummed-up labor markets, entrenched producer interests, barriers to innovation and enterprise.
Opening up further to international trade, investment and human flows would also help. At the same time, governments must intervene when markets fail—shake up finance, encourage greener technologies, help people retrain and find new jobs, and make it safe for emerging economies to tap global capital markets.
The new opportunities are huge. But when people and countries are set in their ways, change can be difficult and slow. The bubble mentality is hard to overcome, as are deeply ingrained saving habits. Dominant financial interests in the Anglo-Saxon world and export ones in Germany, Japan and Asia will fight reform tooth and nail. Governments may duck difficult reforms and pander to powerful lobbies.
Invest in clean technology
To make the shift to a low-carbon future, the world needs a mixture of four things: greater energy efficiency, smart national policies, new technologies and lots of capital. But all too often, public debate overemphasizes the first two at the expense of the latter two. In the ultra-green view, the prescription morphs into abstinence by social pressure and government diktat. Policymakers, naturally, place themselves center stage, imagining that a blizzard of meetings, plans, initiatives, standards, regulations and so on will do the trick. They are also prone to trying to micromanage people’s lives in ways that are extremely costly to the economy and to individual freedom.
But while governments’ roles are central—after all, only they can enforce a price for carbon—they should concentrate on helping the poor adjust and setting a framework that attracts bundles of finance into the clean tech sector and enables technology entrepreneurs to experiment and find new solutions.
Given the complexities of climate change and global politics, the best we can hope for may be an imperfect global deal. Enforcing it and ensuring any transfers between countries are well spent will be huge challenges. But that need not be a reason for pessimism. As long as governments provide sufficient incentives in the short term and a credible enough commitment for the medium term, clean technologies are likely to make huge progress over the next 10 to 20 years.
If investment continues to pour into clean tech research, with some of the world’s brightest minds and sharpest businesspeople competing to clean up and save the planet, new and better solutions are likely to be found. Existing technologies can become much cheaper and new ones will emerge. The seemingly impractical or implausible can suddenly become possible, then probable. And as the market expands, individual companies and the industry as a whole will reap huge economies of scale.
Already, wind power can compete with fossil fuels in some areas, as can solar. Tesla’s Model S, a state-of-the-art electric vehicle, is predicted to be cheaper to run than a top-of-the-range Honda Accord in the U.S.—and will look even more attractive in Europe, where gas prices are much higher. Rising oil and gas prices could help accelerate this switch. The spike in oil prices in 2008 had Americans dashing to ditch their Hummers. Pretty soon, the switch to low-carbon technologies might be achieved even without a complex global climate change deal. After all, it would be easy for countries, companies and people to jettison fossil fuels if clean tech were greener and cheaper. Self-interest, not political bargaining—and still less abstinence—is our best hope.
We should treat the threat of catastrophic climate change as an opportunity to reshape the world economy in a cleaner, more secure, fairer and more efficient way. Carbon-based energy has been a fantastic engine for human progress. But it has always had big downsides—smog, war and dependence on nasty dictatorships—and now it endangers the planet. We should welcome the pressing need to accelerate the leap to better ways of life.
Oil, gas and coal are just means to an end. What is valuable are the unprecedented opportunities of modern living—an escape from drudgery in the home, the mind-broadening delights of foreign travel, cool buildings in hot countries, the freedom to drive where we please. Their extension from a rich minority to the rest of the world is a cause for celebration, not despair. Don’t campaigners for global justice really want poor people to be rich?
So the priority must be to find new sources of energy, not to reject modern lifestyles or try to deny them to others. Imagine: breathable air, solar-powered electricity for rural Africa, no more wars over oil in the Middle East, unlimited energy on tap. Progress indeed. But remember that clean tech is a global industry, powered by people, money and markets that cut across national lines. What would really wreck the world would be a closing of borders, societies and minds. Localism, not globalization, is the true enemy of the planet.
Use the power of positivity
The pain now is real and unavoidable—jobs lost, homes repossessed, mountains of debt remaining to pay off. A home that was once a cash machine is now a millstone. Pessimism is the order of the day.
This crisis of confidence is dangerous. When people feel threatened, they tend to hunker down and turn inward. But trying to shut out the world would make us all poorer. Far from making us safer, it would jeopardize our security. In particular, treating the rise of emerging economies as a threat could in part be a self-fulfilling prophecy. It could prompt nationalist and protectionist responses. It would encourage the development of new relationships and institutions that exclude the West. It would undermine chances of securing developing nations’ cooperation in tackling climate change.
The overarching challenge is to rediscover optimism about the future. It is still in our hands—and it need not be bleak. If companies are to invest in tomorrow’s technologies, people to embrace change and policymakers to make difficult reforms, a positive outlook is essential. Gloomy Americans and Europeans should visit Asia or Brazil and allow themselves to be carried away by their refreshingly positive vibe. Delight in their success and view their growing prosperity as an opportunity, not a threat.
The aftermath of the crisis opens up huge opportunities to reshape the world economy for the better. A fairer, richer, greener and more stable global economy is possible. But to achieve it, we need to rediscover the virtues of open markets, open societies and open minds that go hand in hand with progress: greater opportunities for everyone to chase their dreams and fulfill their potentials.
We must not allow another financial collapse, a debt crisis, a closing of borders, a climate catastrophe or a corrosive pessimism to destroy that huge promise.
This is an edited excerpt from Aftershock: Reshaping the World Economy After the Crisis by Philippe Legrain, published by Little, Brown.
