Lost in Transition
WASHINGTON, Mareeg.com-DC – Financial markets and the news media have one thing in common: they
tend to oscillate rapidly between hype and gloom. Nowhere is this more apparent than
in analyses of emerging economies’ prospects. In the last few months, enthusiasm
about these countries’ post-2008 economic resilience and growth potential has given
way to bleak forecasts, with economists like Ricardo Hausmann declaring that “the
emerging-market party” is coming to an end.
Many now believe that the recent broad-based growth slowdown in emerging economies
is not cyclical, but a reflection of underlying structural flaws. That
interpretation contradicts those (including me) who, not long ago, were anticipating
a switchover in the engines of the global economy, with autonomous sources of growth
in emerging and developing economies compensating for the drag of struggling
To be sure, the baseline scenario for the post-crisis “new normal” has always
entailed slower global economic growth than during the pre-2008 boom. For major
advanced economies, the financial crisis five years ago marked the end of a
prolonged period of debt-financed domestic consumption, based on wealth effects
derived from unsustainable asset-price overvaluation. The crisis thus led to the
demise of China’s export-led growth model, which had helped to buoy commodity prices
and, in turn, bolster GDP growth in commodity-exporting developing countries.
Against this background, a return to pre-crisis growth patterns could not reasonably
be expected, even after advanced economies completed the deleveraging process and
repaired their balance sheets. But developing countries’ economic performance was
still expected to decouple from that of developed countries and drive global output
by finding new, relatively autonomous sources of growth.
According to this view, healthy public and private balance sheets and existing
infrastructure bottlenecks would provide room for increased investment and higher
total factor productivity in many developing countries. Technological convergence
and the transfer of surplus labor to more productive tradable activities would
continue, despite the advanced economies’ anemic growth.
At the same time, rapidly growing middle classes across the developing world would
constitute a new source of demand. With their share of global GDP increasing,
developing countries would sustain relative demand for commodities, thereby
preventing prices from reverting to the low levels that prevailed in the 1980’s and
Improvements in the quality of developing countries’ economic policies in the decade
preceding the global financial crisis – reflected in the broad scope available to
them in responding to it – reinforced this optimism. Indeed, emerging countries have
largely recognized the need for a comprehensive strategy, comprising targeted
policies and deep structural reforms, to develop new sources of growth.
It has become apparent, however, that emerging-market enthusiasts underestimated at
least two critical factors. First, emerging economies’ motivation to transform their
growth models was weaker than expected. The global economic environment –
characterized by massive amounts of liquidity and low interest rates stemming from
unconventional monetary policy in advanced economies – led most emerging economies
to use their policy space to build up existing drivers of growth, rather than
develop new ones.
But the growth returns have dwindled, while imbalances have worsened. Countries like
Russia, India, Brazil, South Africa, and Turkey used the space available for credit
expansion to support consumption, without a corresponding increase in investment.
China’s non-financial corporate debt increased dramatically, partly owing to dubious
Moreover, nothing was done in anticipation of the end of terms-of-trade gains in
resource-rich countries like Russia, Brazil, Indonesia, and South Africa, which have
been facing rising wage costs and supply-capacity limits. And fiscal weakness and
balance-of-payments fragility have become more acute in India, Indonesia, South
Africa, and Turkey.
The second problem with emerging-economy forecasts was their failure to account for
the vigor with which vested interests and other political forces would resist reform
– a major oversight, given how uneven these countries’ reform efforts had been prior
to 2008. The inevitable time lag between reforms and results has not helped
Nonetheless, while emerging economies’ prospects were clearly over-hyped in the wake
of the crisis, the bleak forecasts that dominate today’s headlines are similarly
exaggerated. There are still a number of factors indicating that emerging economies’
role in the global economy will continue to grow – just not as rapidly or
dramatically as previously thought.
This summer, the mere suggestion of a monetary-policy reversal in the United States
sparked a surge in bond yields, which triggered an asset sell-off in several major
emerging economies. Perhaps that experience will serve as a wake-up call for these
countries’ leaders. Only by recognizing the weaknesses of old growth patterns and
pursuing the needed structural reforms can emerging economies achieve strong,
stable, and sustainable GDP growth – and fulfill their potential as the global
economy’s main engines.
Otaviano Canuto is Senior Adviser and former Vice President of the World Bank.
Project Syndicate, 2013.