The global economy on the edge of the precipice

L'arrêt des livraisons de gaz russe à l'Europe pourrait faire plonger l'activité manufacturière des pays de l'Union.

Posted Sep 7, 2022, 4:55 PMUpdated on Sep 7, 2022 at 5:52 PM

The state of the world economy is not unlike that which prevailed in the course of the 1970s. Except that “the current context is in several respects potentially more explosive”. This is the observation made by Jézabel Couppey-Soubeyran, lecturer in economics at the University of Paris 1 Panthéon-Sorbonne and co-editor-in-chief of ” The World Economy 2023 “, a book published each year and presented Wednesday by the Center for Prospective Studies and International Information (Cepii).

The war in Ukraine and its consequences on global supply chains, energy prices and food prices are dashing hopes for post-Covid-19 pandemic recovery. The ambient pessimism is fueled by inflationary pressures, which are set to last, and the energy crisis which promises to be severe in Europe.

The parallel with the stagflation of the 1970s does not lead to optimism.

Thomas Grjebine Economist at Cepii

“The parallel with the stagflation of the 1970s does not lead to optimism,” says Thomas Grjebine, economist at Cepii. At the time, to break the inflation generated by the two oil shocks and the indexation of wages to inflation, the central banks had raised interest rates sharply. Consequence: a global recession accompanied by a debt crisis in developing countries. History could well repeat itself.

Europe put to the test of fragmentation

Since 2010, the global economy has experienced the largest, fastest and most synchronized wave of debt in 50 years, observes the economist. The rise in public debt is a real danger for countries that run up debt in foreign currencies. “This is the case of the euro zone because the European currency is like a foreign currency for the member countries which go into debt in a currency that they do not control. A fragmentation of the euro zone cannot be ruled out,” fears Thomas Grjebine. The concern concerns above all the countries of the South which display very high levels of public debt (200% of GDP in Greece, 150% in Italy, 123% in Spain).

Emerging and developing countries are also raising fears since their foreign currency debt represents 25% of their public debt against 15% in 2009. What about the private debt in these countries which amounted to 142% of GDP in 2020 against only 32% at the end of the 1970s? The looming American monetary tightening could generate a new debt crisis, as in 1979 for the countries of Latin America, followed by a Mexican default in 1982 .

Another similarity pointed out by the Cepii, the evolution of wages and inflation. As at the end of the 1960s, the current period is seeing the emergence of strong wage demands. The social crisis of May 68 had been the marker of the refusal by the employees of the conditions of the division of the incomes which prevailed at the time. “The purchasing power of the minimum wage increased by 130% between 1968 and 1983. At the same time, the average wage increased by around 50%”, observes Thomas Gjrebine. Social tensions then feed inflation which, in turn, leads to new wage demands. Until the political leaders decide to remove this loop which will materialize in particular by the deindexation of wages in the 1980s.

Falling real wages

Today, with the return of inflation and globalization seizing up, the implicit compromise that was put in place in the 1980s could well be shattered. This compromise was based on moderate wage increases offset by gains in purchasing power linked to the imported disinflation generated by the globalization of trade. The current demands for wage rebalancing revealed by the tensions in the United States since the pandemic in the form of numerous strikes and the phenomenon of ” big resignation ” as shown by. Elsewhere, real hourly wage growth is now negative in most OECD countries, affecting purchasing power and household consumption. Social tensions are to be feared.

A total stoppage of Russian gas imports could lead to a drop in German GDP of between 3 and 8%.

Global growth should be affected. Especially since the chinese engine which, over the past twenty years, accounted for a quarter of global growth is seizing up. Not just because of the government’s “zero Covid” policy. Other structural factors are at work: “The working-age population peaked in the early 2010s and is expected to slow future growth. And productivity growth, as in Japan and South Korea in previous decades, is slowing.

Europe is still a little more threatened by a major energy shock. The effects of the conflict in Ukraine could be heavier than expected due to interruptions in the supply of Russian gas across Europe. According to the OECD, we can expect a drop in production in the manufacturing and market services sectors of almost 3%.

These effects could be underestimated, especially if companies completely stop production, fears Cepii. “Many industries, particularly the most energy-consuming ones such as metallurgy, could be bankrupt. A total stoppage of Russian gas imports could lead to a drop in German GDP of 3 to 8%,” fears Thomas Gjrebine.

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