Pedestrians are reflected in a stock market indicator board in Tokyo, Japan. - EPA

THOMAS Aquinas, an Italian theologian and philosopher, once said: “To pass on what one had contemplated is better than merely to contemplate.” We therefore pass on our reflection on whether the next recession is around the corner. 

Austrian economist Joseph Schumpeter hypothesised in his 1939 book Business Cycles that an economy goes through business cycles of different time-frames — from the shortest with a four-year lifespan to the longest 54-year Kondratiev wave. In between this range resides the 10-year cycle.

Many have experienced the recession of 1986 that succeeded a massive spike in oil prices. Then came the 1998 East-Asian crisis which ruined South Korea, Thailand, Indonesia, Malaysia and, to a lesser extent, other countries in the region. Other countries, such as Russia and Latin America, fell into crisis as well. The negative effects of the 2008 global financial crisis, following the US sub-prime market fiasco, still reverberate across the world.  

If the roughly 10-year business cycles of boom-and-bust of the past are any guide, then Malaysia’s economy may be ripe to hit the buffers.  Four factors portend a global recession.

FIRST, low, and even negative, interest rates have caused an over-expansion of credit.  Quantitative easing or QE — the buying of government bonds by central banks by printing fresh money — in the United States, European Union and Japan, has been behind low interest rates in these advanced countries. 

Economist Friederich Hayek theorised in his 1933 book Monetary Theory and the Trade Cycle that economic instability arises from excessive credit expansion on the back of artificially low interest rates. This loose monetary policy encourages businesses to overinvest. As capital investments are immobile, they cannot be reallocated quickly to new areas of business growth. The ensuing capital misallocation threatens productivity and output growth.

SECOND, a situation where short-term interest rates are higher than long-term rates is a good predictor of recessions. This inversion of long-term rates was evident in most of the 10 recessions that the US had suffered over the last 70 years.   A similar condition has prevailed in rich and developing countries since the 2008 global crisis. 

THIRD, global consumer confidence is on the decline.  The Thomson Reuters/Ipsos Primary Consumer Sentiment Index (PCSI) and its Job Index covering over 24 countries, posted declines in December 2018. The PCSI was at the lowest in 14 months.   

Reduced consumption increasingly makes businesses reluctant to invest. This can cause an economy to slip into a recession as John Maynard Keynes, a British economist argued in his 1936 treatise, “General Theory of Employment, Interest and Money”. 

Subdued consumption has arisen from multiple factors. Riding on a febrile Chinese economy, emerging markets, which comprise 60 per cent of world gross domestic product, recovered quickly from the 2008 crisis.  QE in advanced economies further fuelled growth in emerging countries. As QE depressed rich-world interest rates, investors flocked to the developing world in search of better returns.  Capital inflows allowed these economies to consume more.

 However, economic recovery in rich countries has caused a pull-back of the QE.  This tightening of monetary policy in the US has caused the dollar to appreciate, making US securities more attractive.  The ensuing capital flight from emerging countries has caused their currencies and equity markets to depreciate, making it difficult for developing countries to sustain their previous levels of consumption and economic growth.

Things are not bright in the rich world either.  Japan is at risk of falling back into stagnation. The growth spurt in the US and EU is easing amid geopolitical tensions, trade wars, Brexit and mounting debt.

Global debt in 2018 has dangerously risen by 50 per cent more than the pre-2008 level to US$244 trillion. Household debt is also rising.  Recent research suggests that a rise in the ratio of household debt to GDP has a deleterious effect on GDP growth and employment.

Although there is no magic threshold beyond which debt is unsustainable, a high debt overhang discourages borrowing. Debt default can spark trouble.  It can cause credit to tighten and suck countries into a recession. Such was the case in 2008.

It is partly for these reasons that the IMF has lowered its forecast for the 2019 and 2020 global growth to 3.5 and 3.6 per cent, respectively.

FOURTH, oil prices have also proved to be a progenitor of global instability. Oil-price rises damage domestic production, cause inflation and, ultimately, recession. Indeed, oil-price hikes preceded the last five US recessions.  Although oil prices appear to have stabilised around US$60, geopolitical tensions, political instability in Venezuela and the ban on Iranian supply can spike prices in the future. However, the rise in US shale and Saudi output should cushion any spike. 

Predictions are hard. The Malaysian economy has become resilient since the last crisis.  Given the government’s commitment to strong fiscal management, Malaysia should be able to hold recession at bay.  To future-proof ourselves from a global recession, we have to rely less on debt-fuelled growth, boost public and private consumption, and find ways to enhance our competitiveness through productivity increases.  Then we can insulate ourselves from the devastating impact of any global recession.

john@ukm.edu.my

The writer, a former public servant, is a principal fellow at the Graduate School of Business, Universiti Kebangsaan Malaysia

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