Are we headed
for a 2008-like financial crisis? George Soros, the man with the
reputation of breaking the Bank of England thinks so. “When I look at
the financial markets, there is a serious challenge which reminds me of
the crisis we had in 2008,” Soros was quoted saying by Bloomberg last
week. The veteran hedge fund manager is worried about China and thinks
it is finding the adjustment difficult. Volatility in the financial
markets last week showed that the fear is widely shared across the
world.
The Chinese economy is slowing and is being steered towards a more
sustainable growth model, which is not dependent on manufacturing
exports. However, dealing with past excesses and ensuring a soft landing
is an issue. China contributes about 16% to world gross domestic
product (GDP) and has provided strength to the global economy after the
2008 financial crisis.
A sharp slowdown in China will not only
affect overall global growth, but will be particularly harsh for its
close trading partners. For example, as shown by the World Bank, an
unexpected one percentage point growth decline in China would lower
growth in the rest of Asia by 0.5-1.4 percentage points after two years.
(Global Economic Prospects, January 2016). A sharp slowdown will
have a disproportionate impact on commodity exporters. In fact, the
slowdown in China is one of the biggest reasons for the weaknesses in
commodity prices.
Weakening economic activity is not the
only problem. China is also witnessing serious capital flight. To be
sure, policymakers want a weaker currency but are worried about
disorderly depreciation. It is being reported that the central bank
burnt at least $100 billion in December 2015 alone to defend the
renminbi. The worry is that China will once again use weaker currency to
support economic activity, which has prompted some of the businesses
and households to move out of renminbi-denominated assets.
There is also a high-debt angle to the
story. According to McKinsey, total debt in China in mid-2014 was at
282% of GDP, which is higher than the debt of some of the advanced
economies, such as the US and Germany, and has quadrupled from the level
in 2007. Over-investment and slower growth would naturally make debt
servicing difficult.
There are layers of issues confronting
China at this stage which will keep the financial markets guessing.
However, as things stand today, it is difficult to argue that the world
is close to a 2008-like financial crisis. In 2008, part of the US
economy was engaged in excessive speculation, expecting that good times
will continue, and when financial conditions tightened, the result was a
collapse in asset prices—a perfect Minsky moment—which brought the
financial system to a standstill.
Conditions in China are a little
different. China is not essentially struggling to contain speculation
and asset-price inflation, but is shifting to a different growth model.
It has accumulated excesses in terms of over-investment in various
sectors, but debt is mostly concentrated with state-owned enterprises.
In fact, households in China are in a lot better shape than they were in
the US in 2008. Further, the US was far more financially integrated
with the rest of the world than China is today, which will limit the
impact. Also, unlike the US, China’s financial system is tightly
controlled by the state.
This is not to suggest that a crisis
in China will not have any impact on the global economy, but it is
unlikely to be close to 2008. However, commodity export-dependent
economies will remain in a difficult spot, as demand will remain capped
because of a slowdown in China and weak global growth.
What does this mean for India?
Policymakers in India will have to remain vigilant and find ways to grow
at a time when global growth is likely to remain tepid for an extended
period. India will also have to convince global investors that it does
not belong to the typical commodity-exporting emerging market pack, and
is also not suffering from some of the problems that China is facing.
Foreign portfolio flows could become more volatile because of a change
in investor preference away from emerging markets.
India should, therefore, prepare the
ground for attracting foreign direct investment, which is more serious
in nature and is likely to be attracted to a long-term growth promise.
Thank's for link:
http://www.livemint.com/Opinion/EUV41rtFEnWPMVqGYaA5ZN/Is-a-2008like-financial-crisis-in-the-making.html
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