Divergent policies threaten recovery

Dennis Morrison, Contributor

A stunning measure of the impact of terrorist threats on world affairs is the US$1 billion bill, which Canada will have to foot for security arrangements to protect world leaders now attending summit meetings of the G-8 and G-20 countries in Toronto.

This is about equal to the value of one-tenth of the size of Jamaica's economy, for a two-and-a-half day meeting. No wonder there is a row in Canada over this expense, and more so in these bad economic times. But the London bomb attacks coinciding with the 2006 summits in the United Kingdom exposed the risks that have to be countered.

Security experts have controlled the risks of terrorist attacks in Canada, but world leaders are likely to find their task of managing the threats to the global economic recovery, the main agenda item for the summit, to be more problematic. This is suggested by the divergence in recent economic policy directions on either side of the Atlantic. In Western Europe most governments are instituting austerity measures combining tax increases and spending cuts, under the threat that negative reaction of credit markets to large budget deficits and rising debt could cripple their economies.

But with the economic recovery still fragile in these countries, unemployment climbing, and given the contractionary effect of belt-tightening, there is a high risk of the recovery being stalled. European leaders have obviously assessed the risks of economic meltdown from budget deficits and rising debt to be greater than the danger of austerity measures triggering a slide back into recession. Just last week, Britain's new Conservative-Liberal-Democratic coalition government announced the stiffest belt-tightening measures in nearly 30 years, involving sharp tax increases and cuts in welfare spending, although the British economy has hardly emerged from recession.

Change in priorities

The Americans, on the other hand, are voicing concerns that the time for cuts in spending and tax increases is not yet, as the economies still require stimulative measures for recovery to take root. Thus, the view, articulated by President Obama and his treasury secretary before the start of the summit, is that promotion of growth is the greater priority right now. The leaders will, therefore, have to reconcile policy differences, recognising that contradictory directions in economies that are "inextricably linked" would undermine global recovery.

A relapse of European economies would slow the recovery in America which, in turn, would reinforce the slide in Europe because of its dependence on exports to the US market. The economies of countries like Jamaica, which depend heavily on trade with the US and Europe, would remain in stall mode. Our tourist industry draws more than 80 per cent of visitors from the US and Europe, and so it is highly vulnerable to economic conditions in those countries, particularly unemploy-ment levels and consumer spending. Austerity measures imposed in a weak environment, as in Britain, can only represent a threat.

Another controversial issue at the summit is the presumed undervaluation of China's currency. As the global recession has bitten, China has come under pressure to revalue its currency from the US and Europe, on the grounds that Chinese goods are artificially cheap because it has suppressed the value of its currency, giving its exporters an unfair advantage over manu-facturers in the US and other Western economies. By the same token, foreign goods are artificially expensive to Chinese importers, which means that China's economy is expanding at the expense of its trading partners. The strength of China's economy, its burgeoning surplus of export earnings, and record foreign reserves are seen as clear evidence of the trade-distorting effect of a cheap currency.

Currency issues

Last week, the Chinese government abandoned its currency peg to the US dollar and promised to allow greater flexibility, but with exchange controls still in place, there is some scepticism about the pace of the appreciation that will be allowed. This is fuelled by the antagonisms within China where exporters are arguing stoutly against the change as they cling to the advantage of an undervalued currency to their sectors. Politically, the Government would not want to be seen as bowing to external pressures in a matter that should be determined internally.

It is ironic that the prospect of a strong currency would meet such resistance as, traditionally, this was regarded as a symbol of prestige and economic power. For now, the advantage gained by an undervalued currency in terms of rapid economic growth through buoyancy in exports, count for far more. Other advantages of a cheap currency, such as heavy investment inflows and overall competitiveness, are also critical to the pace of China's economic development. There are signs, however, that Chinese labour is beginning to resist cheap wages that are the consequence of the artificially low exchange rate.

Paradoxically, the Jamaican dollar is appreciating, although the local economy remains weak, exports have suffered a huge decline, and our inflation rate has run ahead of our major trading partners, [a condition that would normally lead to currency devaluation]. The fact is that the strengthening Jamaican dollar reflects, in the main, large loan inflows and depressed import levels, not economic vigour. The heavy dependence of production in Jamaica on imported raw materials, machinery and equipment, and other inputs, means, though, that a cheap dollar would not provide the same advantages as in China.

Dennis Morrison is an economist. Feedback may be sent to columns@gleanerjm.com.