Roubini: Robust US Growth, Bumpy Landing for China, and No Grexit

Nouriel Roubini at the CFA Institute Middle East Investment Conference

The United States is showing robust growth, China will have a bumpy landing, the oil price decline is a net positive for the global economy, and a Greek exit (Grexit) from the euro monetary block is unlikely, said distinguished economist Nouriel Roubini while delivering the closing keynote address at the 2015 CFA Institute Middle East Investment Conference in Kuwait City. In his characteristically enthusiastic style, and without using any slides or notes, Roubini gave a comprehensive review of the global economic outlook to an attentive audience of investment professionals. Here are the highlights.

US Showing Robust Growth

Roubini’s assessment is that of the four engines of the global economy — the United States, the EU, Japan, and China — only the United States is showing robust economic growth, with an estimated GDP growth rate of around 3%. Despite the recent appreciation of the US dollar and anemic global aggregate demand, Roubini expects the US recovery to continue, barring a sharp downturn in the global economy. The economist believes the eurozone is “in trouble” and “just one shock away” from recession and that Japan made a policy mistake of introducing a consumption tax too soon. He said that China is slowing down and would have “a bumpy and rough” landing, with an expected GDP growth of 6.5% this year and around 5.5% next year. China is realising that it needs to change its growth model, moving from fixed investment to consumption. But the rebalancing of the Chinese economy is coming slowly, he added.

The difference between economic policy and recovery in the United States versus the EU is explained by “[more aggressive] monetary easing, fiscal easing, back-stopping, and recapitalisation [of banks]” in the United States, argued Roubini. He said that “in a world in which there is lack of aggregate demand, monetary easing can only do so much; you also need short-term fiscal stimulus.” Unlike the United States, EU fiscal stimulus has been a case of too little too late. Roubini clarified that raising taxes and cutting government expenditure is needed in the medium term to manage fiscal deficits, but in the short term, fiscal austerity has a negative impact on economic growth. Also, because of the Troubled Asset Relief Program (TARP), which recapitalised the banks, the United States did not face the same “painful deleveraging” and “credit crunch” experienced in the EU, where banks sold assets and contracted credit, Roubini said. He expects the EU to continue with its quantitative easing (QE) against the risk of deflation and the euro to keep falling toward parity to the US dollar.

Six years after the global financial crisis, against the backdrop of unconventional monetary policies, some had wrongly expected that easy money would lead to hyperinflation, a fall in the value of US dollar, and the rise of gold and bitcoin, claimed Roubini. That expectation did not materialise. To the contrary, the US dollar has strengthened, gold is trading way below its highs, and bitcoin was the world’s worst-performing currency in 2014. But, Roubini added, QE is also a zero-sum game. In a world where domestic demand is anemic, amid deleveraging and fiscal drag, countries have been vying for export-led growth by depreciating their currencies. He stated that a depreciation of one currency means a relative appreciation of the other and a trade surplus by one means a trade deficit by the other; therefore, when Japan made the decision to depreciate its currency, it was soon followed by monetary easing in other parts of Asia.

Roubini explained that the central banks, including the Federal Reserve System (Fed), have not one but two goals: strong economic recovery without deflation and financial stability without bubbles. Central bankers would argue that if they have two policy goals, they also have two policy measures: monetary policy and macroprudential policy. But if macroprudential policy (or regulation mitigating systemic risks in the financial system) doesn’t work, it means central banks have two objectives but one policy instrument, Roubini added. QE in the United States has so far been directed to asset reflation, creating both a wealth effect and a confidence effect. Roubini believes asset reflation can lead to asset inflation, which in turn can lead to asset frothiness, eventually turning into asset and credit bubbles, and ending in a crash. The dilemma facing the Fed, Roubini contends, is that if it tightens monetary policy too late, it could lead to “the mother of all bubbles” by 2017, and if the Fed tightens it too soon, it could cause a hard landing of the real economy.

Oil Price Decline a Net Positive

Roubini agreed that two-thirds of the explanation behind the sharp drop in oil price is because of increases in supply, including the increase in production of shale gas and oil in North America and increases in production from the Middle East, including Iran and some unstable countries, such as Iraq and Libya. He believes that the increase in oil supply was significantly underestimated by many, including by the International Energy Agency. The oil production decision by Saudi Arabia or the Organization of the Petroleum Exporting Countries (OPEC) in general is an economic decision and not a geopolitical move against Iran and Russia, Roubini stated. In fact, Roubini believes the impact of lower oil prices on the global economy is a net positive, increasing growth and reducing inflation. Clearly, there are both winners and losers between producers and consumers in different countries and within countries.

Grexit Too Risky, Too Costly

Roubini believes strongly that Grexit would be a disaster for the eurozone and thus will be avoided. Indeed, he thinks the risk of contagion because of Grexit is serious — as serious as it was in 2012 — and that it could lead to a run on banks, not just in Greece but in some other parts of eurozone. Furthermore, dealing with contagion would cost much more than keeping Greece in the eurozone. The relative size of Greece’s debt and economy are quite small compared with the economy of the eurozone, and it does not make sense to jeopardise the eurozone because of Greece, he argued. In addition, Grexit means that Greece could end up in the arms of Russia just when Russia is becoming more threatening. Grexit would cause much bigger problems for Germany than Greece staying in the eurozone, Roubini believes.

In conclusion, Roubini emphasised that we live in a complex world, which makes it hard to generalise. He believes there are certainly some positive trends taking place in the global economy, such as the US recovery, but there are also economic and geopolitical risks and fragilities, such as in the eurozone. Roubini closed by saying countries that pursue the required, but politically difficult, structural reforms will fare better.

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