It’s a sign of the times that central bank heads are among the most influential leaders in the world. With developed economies in various stages of slowdown, modest recovery or stagnation over the past decade, investors have looked to central banks for policy support that will set growth afire again, hoping for some wizard-like figure who knows the right magic alchemy.
While investors and speculators long for a bull run on the bourses, one must understand that the stock markets are not the real economies. Investing in them is a gamble, perhaps a well-informed one, and investments in them reflect the sentiments about the future. However, too much is made of its daily hiccups and histrionics.
What publicly traded corporations can do over the long haul is create jobs for workers and wealth for investors. So as a gauge, the stock market can be a useful index to assess the overall picture. Yet, other factors such as unemployment and inflation better tell the tale of the real-world of people’s lives and that means the daily challenges affecting hundreds of millions of people.
As Christine Lagarde takes the baton from Mario Draghi as head of the European Central Bank, she inherits an economic zone that remains stubbornly sluggish despite Draghi’s best efforts to stimulate growth. Draghi “threw the book” at Europe’s moribund economy, using every measure available to a traditional economist, and he did it in big numbers.
But pumping more conventional stimulus brought diminishing returns. Many wonder what Lagarde can do differently. As a flamboyant Frenchwoman and former head of the International Monetary Fund, some think she might step into the realm of politics, a zone normally forbidden to central bank heads. Traditional thinking says she should be wise, detached and above the fray.
Some think she will push the ECB towards fighting climate change and lobby governments to help stimulate the Eurozone economy by spending more. She could also try to repair internal rifts over previous stimulus efforts in bond purchases and negative interest rates. Yet despite her best efforts, some economists say the Eurozone could face “Japanification”, the same challenges that were first seen in Japan 20 years ago – weak growth and persistently low inflation despite huge amounts of policy support from the central bank.
Though the awkward label is meant to be foreboding, Japanification is not the worst of possible future worlds. It would give little satisfaction to stock market speculators who, no doubt, yearn for a bubble economy, but it does show a fully mature economy can function with an aging population and low levels of growth. Japan now has the oldest population in the world, followed by Italy and Germany, with the remaining seven of the top 10 all in Europe.
Since the start of this decade Japan’s working age population has contracted by around 0.5 per cent a year, yet despite that decline its per capita GDP increased an average of 1.5 per cent annually. While it is not headline-grabbing, the performance was not the “lost decade” of growth.
Japan also has the highest debt-to-GDP level in the world, followed by Italy, Belgium, and the US when sorted for major economies. But predictions of an impending fiscal catastrophe in Japan caused by such large government debt have not come to pass – at least not yet.
Yet crucially there is a big difference between Japan and the Eurozone: the “original sin” of the shared currency. While 23 nations use the euro and conform to fiscal guidelines set by the European Union and central bank, they do not have unified tax, investment, and spending programmes. It’s like all members of an extended family are allowed to use a credit card under general guidelines that cannot be enforced. Some will be more conscientious than others.
Though it has the highest per GDP debt load in the world, Japan has more real power than the ECB to implement programmes. Moreover, the ECB can’t prop up sovereign bond markets as can the Bank of Japan.
One pertinent lesson from Japan is that governments can sustain surprisingly large debt burdens. Some analysists think warnings that deficits inevitably lead to fiscal crises are likely wrong.
Yet juggling so many balls in the air is no easy task for Lagarde. After Draghi did a yeoman’s job in helping get the Eurozone above water, Lagarde now faces a flat-lined economy buffeted by global headwinds.
Lena Komileva, chief economist at G+ Economics, told the Politico online newspaper that the key role for Lagarde will be to build consensus in the Eurozone to overcome the growing division about ECB stimulus policies.
“Lagarde is the right person, perhaps the only person, to take this baton forward,” Komileva said.
As well, it isn’t just Europe that is becoming “Japanified”. Mature economies around the world seem to be turning at least a little Japanese. The next couple of years will likely present mediocre growth, low inflation, and very low interest rates.
It is likely to be the new normal. Let’s just hope we can all age gracefully.
Jon Van Housen and Mariella Radaelli are editors at www.luminosityitalia.com