Raghuram Rajan warns of another toxic build-up compounded by trade wars

According to Rajan, although global growth has been strong in recent years, the big question is how long it can continue, and whether it justifies elevated asset prices.

By BusinessToday.In  
Friday, August 24, 2018

Raghuram Rajan's claim to fame is not that he's a former RBI governor. He was well-known long before that as the person who had predicted the global financial crisis of 2008, three years in advance. So if he red-flags another crisis in the making, as he is now, one ought to sit up and take notice.

According to Bloomberg, the economist is now cautioning that the ongoing trade wars along with a build-up in leverage and high asset prices could result in a toxic mix that would be a drag on global growth.

"We are all very well aware that two things have built up - which had built up before the previous crisis - leverage and asset prices," Rajan said in a Bloomberg Television interview yesterday. "Trade is an issue for the world to be concerned about. It is extremely important that we have good outcomes there. By all means negotiate, but don't pull the nuclear trigger there."

According to him, although global growth has been strong in recent years, the big question is how long it can continue, and whether it justifies elevated asset prices. Furthermore, moves by the US or China on trade tariffs threaten growth at a time when underlying conditions are fragile, and some emerging market nations are highly levered, he added at Jackson Hole, Wyoming, incidentally the same place where he had warned of credit risks in his 2005 lecture.

To remind you, the IMF's Fiscal Monitor report in April had sounded the alarm over global debt levels hitting a record $164 trillion in 2016 - almost 225% of the world's economic output. To ram home the bad news, "the world is now 12% of GDP deeper in debt than the previous peak in 2009", as the IMF put it. The organisation had further stated while most of the global debt is in advanced economies, at 105% of GDP on average, the emerging market economies have been responsible for most of the increase. Debt-to-GDP ratios for the latter reached almost 50 per cent in 2017.

Hopes were raised on the trade wars front when China and the US met for face-to-face discussions aimed at defusing the spiralling tension this week - the first since June. But the visiting Chinese delegation left Washington yesterday, without any breakthrough.

According to BBC, the US immediately imposed a second wave of tariffs on Chinese goods worth $16 billion and China was quick to retaliate with retaliatory taxes on the same value of US products. The Trump Administration is now threatening a third round of tariffs on an additional $200 billion of Chinese goods, which could come as soon as next month, and China has said it will respond with tariffs on a further $60 billion of US goods.

On the topic of the Turkish crisis, as well as the asset rout that Argentina experience this year, Rajan said "my sense is that it is not a systemic issue yet among emerging markets". He added that tariffs on China have potential ripple effects for other emerging market nations, many of whom are dependent on trade and export directly or indirectly through China.

His recommendation for emerging market countries like India and Brazil headed for elections is that they focus on maintaining macroeconomic stability. To end on a more optimistic note, Rajan does not see the rupee's recent fall as "too worrying", explaining that it is "dollar strength". The local currency has lost around 9% this year so far, among the worst-performing Asian currenies.

In the past two days, the rupee has weakened by 43 paise against the greenback on renewed worries about a hike in US interest rates, rising global trade war jitters and increased demand for the dollar from importers and banks. According to forex dealers, a firm dollar in overseas markets, ahead of Federal Reserve Chairman Jerome Powell upcoming speech at the annual global central bank conference in Jackson Hole today, also weighed on the rupee.

With PTI inputs

(Edited by Sushmita Choudhury Agarwal)

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