Is the worst behind us for the global economy? It’s possible, but it may not be over just yet.
Last week, the Federal Reserve cut interest rates for the first time in four years, by an unusually large half point. Jerome Powell, the Fed chair, delivered a strikingly bullish verdict on America’s economic health. “The US economy is in a good place and our decision today is designed to keep it there,” he told reporters. He made it clear that the downward move was a “recalibration” after rates were held at a 23-year high for more than a year, and not a panicky move to prop up demand.
Other central banks, including the ECB, are also cutting rates. However, European central banks are facing a considerably less buoyant economic backdrop, than the US. The ECB has now cut interest rates for the second time this year, while the Bank of England cut rates last month and suggested that it would make further cuts this year. The hope is not only that inflation has been defeated, but also that this victory has been achieved without economies slipping into recession. The overall global signals so far have been that global inflation is generally falling, global economic growth is projected to exceed 3% this year, and overall world trade in goods is showing signs of recovery.
However, last week Christine Lagarde was quoted as saying that monetary policy might not have made the same mistakes as the 1920s and 1930s, but economic integration really might still be in trouble.
Let us rewind the tape a bit. Some two years ago, the world economy was facing huge and multiple risks, from high inflation, rising interest rates and a possible worldwide recession, along with a looming energy and food emergency from the destabilising shock of Russia invading Ukraine and the fracturing of the trading system. Luckily the worst seems to have been averted. It does not mean that all risks have suddenly vaporised. There are still risks coming from climate change and risking geopolitical conflicts, but from two years ago economic threats have receded. The lesson has been that a good balance between fiscal stimulus in tough times and a well-timed monetary policy action, could avert the worst.
However monetary policy cannot save us from everything. I say this with a big “Donald Trump” asterisk next to this last sentence. Lagarde last week also said that the mistake of monetary policy in the 1920s and 1930s was due to the direct pegging of currencies to gold, leading economies into deflation and a banking crisis, which led to a cycle of economic nationalism. When I mention “economic nationalism”, the looming possibility of Trump being elected as US President in less than six weeks sends a chill down my spine, as he constantly rants about economic nationalism and protectionism.
As Jason Furman, a former White House economist in the Obama administration, who is now a Harvard professor, has so eloquently put it “if Donald Trump did half of what he’s promising, the results for the US economy would be chaotic and negative”.