A Gathering Economic Storm?
"Will the world slump?" asks a recent issue of the Economist. It's a good question without a good answer. All that can be said is that the economic crisis that began quietly in Thailand in July has now spread to much of Asia -- including Japan, Korea and Hong Kong -- and moved on to Brazil and even Russia. It could snowball into a broader economic downturn that would drag much of the world with it. Will it?</br></br>The prevailing view is "no." Federal Reserve Chairman Alan Greenspan told Congress last week that Asia's problems, though serious, won't trigger a U.S. recession. The Economist also doubts a global slump. But optimism needs to be tempered, because the optimists have -- so far -- been wrong. The crisis is already worse than they expected, and plenty could still go wrong. Banking crises across Asia are a possibility. Another bad omen: the decision of the Mercosur trading bloc (Brazil, Argentina, Uruguay and Paraguay) to raise tariffs 25 percent. This could signal a protectionist spiral that would depress world trade.</br></br>The best that can be expected is that the crisis harms only a handful of countries. For them, economic growth drops sharply. Consider new estimates from Nariman Behravesh, chief global forecaster for Standard & Poor's DRI. The table below contrasts his forecasts before and after Asia's latest stock market and currency declines in late October and early November.</br></br>Japan stumbles because its exports to Asia falter. And other countries are overextended. "What we're seeing today is the tail end of the capital flow cycle," says economist Carmen Reinhart of the University of Maryland. In the 1990s, these countries have received massive foreign investment. Too much money flowed too quickly. First, foreign capital (mostly dollars) was converted into local currencies. Bad loans were made, bad projects were financed. Next, local consumers and companies converted some local currency back into foreign exchange to buy imports. Trade deficits swelled. "Everyone's a genius in a boom," says Reinhart.</br></br>And now the boom is over. Countries must curb trade deficits because they no longer receive the foreign capital needed to gorge on imports. Interest rates go up to slow spending. Brazil raised tariffs to choke imports. Other countries let their currencies depreciate (this makes imports more expensive and exports less expensive). Yet, Behravesh doesn't expect the world economy to slump. He's cut his 1998 forecast for global growth only slightly, from 2.9 to 2.5 percent. Though the United States and Europe lose some exports, their economies continue to expand. Most developed countries escape the crisis.