Today a translation of an blog post entitled "The Source of the West's Decline and the East's Rise". The author, Xie Guo Zhong (Andy Xie), is a director of Rosetta Stone Capital Ltd, former Morgan Stanley economist and in my and many other's opinion one of the sharpest writers around.
Housekeeping wise I apologize for the lack of updates last week, I was navigating the humid murk of Hong Kong and Shanghai (not recommended for your late August travel plans) and did not have time to post.
American academics, including some Noble Prize winners, are predicting that America will soon fall into a Japanese style decline. They are urging the Fed to implement a new round of quantative easing in order to prevent the western economic system from slipping into a new ice age. While the Fed declined to adopt such measures at their most recent meeting, they did promise not to deviate from the previous quantitate easing policy. This will at least gives something to gnaw on for those who fear inflation.
Meanwhile, on the other side of the world inflation is currently sweeping through the emerging markets. India's inflation is already in the double digits and collective emerging market inflation is over 5%. China just released statistics showing an inflation rate over 3% but the price inflation felt by the average citizen seems much higher. People can clearly sense the percolations in the emerging market's real estate sector. In a place like Mumbai, million dollar apartments stand overlooking a vista of slums. Despite worries over the Hong Kong economy, real estate has recovered to prices now approaching their 1997 peaks. In Hong Kong, cash-flush bankers only need to pay tax of 15% and they are now urgently purchasing housing in Shanghai and Beijing to invest. Moscow tops the list of world's most expensive cities. Plainly, the emerging markets are on fire.
I don't know if you like fried ice cream or not. It's the kind of food you better eat fast, otherwise it's a mess. The world economy right now is similar. The loves-to-spend western world has suddenly slipped into deflation. The fiery emerging Eastern economies threaten to be cooled by these icing western economies, and the whole thing can turn into complete chaos. Of course, this thaw is still somewhat slower than fried ice cream. 2012 is thus the year of the defrost. And the fuel for this fire is coming from the western countries whose economic stimulus measures are currently locked in a struggle with deflation.
Stimulus policies are viewed as a response to decline. But in today's globalized economy, this type of medicine isn't that effective. In reality, for the western world this type of medicine is wrong. Trade and foreign direct investment account for one half of global GDP. Together, the two stimuli are effected by multinational corporations. MNCs seek to focus production in the lowest cost places in the world and so we have seen production outsourced throughout the entire world. Supply and demand are two non-intersecting systems. Because of this, as soon as the government promotes economic stimulus, then an increase in aggregate demand is not necessarily going to lead to an increase in that particular locations supply. More importantly, if the MNC decides to invest elsewhere, then the stimulus-provided demand will not lead to an increase in employment.
Water flows to the lowest point. Stimulus policies, no matter where they are focused, end up influencing the low cost economies. Western economies, through the central printing of money and large deficits, are pumping money into the entire world and the people that are receiving this excess liquidity are the emerging markets.
Where will this game end? For Western economies the ideal situation is for costs to rise in emerging economies before inflation hits the Western economies. For this they must rise enough so that Western MNC's again invest and hire within the Western economies. But this type of situation is unlikely to occur. Average wages in advanced economies are still 10 times that of emerging economies. Emerging economies workforce numbers are still 5 times that of the developed economies.
What's even more probable is that, once developing nation inflation is transferred to the west, the latter will have no choice but to stop its stimulus polcies. The most direct path for the transmission of inflation is a rise in consumer prices. For developed economies, this is equivalent to increasing taxes. And the beneficiary is the emerging economies who are producing this good. This is very ironic. Western stimulus measures can immediately harm the West. This is the magic of globalizaiton.
Following a rise in the cost of emerging market labor, the price of imported consumer goods will rise. China's [titular] GDP will rise 20% every year. The problem is that labor costs will increase more quickly following a shortage of labor.
Finally, the workforce of the Western economies workforce will require an increase in salary to make up for the current and future inflation. Some people believe high unemployment will suppress salary increases. What they're missing is that in 1970s America, prices and salaries still rose in a spiral pattern even though unemployment was very high. The reason is because the labor force saw quite cleary the inflationary direction of the fed.
In 2012 the Fed will exhaust all its excuses for refusing to raise interest rates. Their is a real risk that if excessive liquidity in the global economy becomes too large, then this will lead to the puncturing of large asset bubbles, hastening a new global crisis.
The real sickness in the Western economies is a loss in competative power. Globatization has been beneficial to China and India but harmful to America and Spain. The decision power over who gets work to do seems to be in the hands of multination corporations like GE and Seimans. The efficiency rate of Chinese and Indian workers is high but they are poor and so are willing to accept low wages in order to accumulate wealth. Americans and the Spanish have money but are unwilling to accept the wages of a third-world worker. Whenever their governments give them money to spend, it ends up going to the pockets of China and India and to the increased debt of their own country. Thus they are becoming poor. The Western world must wait for the Chinese and Indians to become rich, wait for them to demand higher wages, and to adopt the loves-to-spend mentality we see in America and Spain. For Westerners, this is a very long and painful process. But unfortunatly, there are no shortcuts.