A boom built on debt was bound to crumble

Economist Graham Turner says the current credit crisis should come as no surprise

James Brewer - Friday 8 August 2008

SUDDENLY, it would seem, for many commentators globalisation and free trade have turned sour: what were once the solutions are now the problems.

The kind of massive uncertainties that are bringing down banks and businesses have thrown huge question marks over economic life and trade flows, and encouraged the brave to delve for deeper reasons for the malaise.

One of the few economists who had long been warning that boom would inevitably turn to bust is Graham Turner, who saw at first hand the Japanese property crash of the 1990s. Did Western leaders and central banks learn anything from that disaster? Not at all.

In his new book, Turner deploys his considerable analytical skills to trace the origins of the current crisis to ballooning credit, on the one hand, and a wrong headed approach to dwindling oil supplies on the other.

Behaving just like self-interested multinational corporations, governments have resorted to house price bubbles to drive economic recovery and reduce unemployment, says Turner.

This strategy is now starting to fail in the US, the UK and Euroland. In the UK, “growth was everything” and record debt levels were ignored because property prices were soaring. Just how foolish this was can be seen from the fact that 18 years after its harsh awakening from property madness, Japan continues to suffer from its gross miscalculation.

In Japan, soaring share prices and a property boom had covered up the economic reality, and now the US and UK have been shown to be addicted to debt, leaving the latter in particular exposed to the puncturing of the credit bubble.

Thus, the last few years of strong economic growth across the globe — often touted as proof that globalisation works – was fuelled not by free trade, but by rapid credit growth, with asset bubbles appearing across every continent.

As the economic downturn in the West intensifies, such bubbles will be punctured in many regions, hitting US demand for goods, says Turner. Clearly, a recession in the US will cap China’s enormous trade surplus, although Chinese exports to the US might continue to rise, because the misalignment of labour costs is so great.

Half of the emerging market sector is holding up well, with China slowing but not slumping, and the Middle East and sections of Latin America still buoyant; but the industrialised world, representing just under 60% of world trade, is already producing weaker economic indicators in manufacturing, new orders for exports and retail spending.

If free trade had been the driving force behind the economic boom, there would have been little need or place for the massive credit creation, says Turner.

At the same time, an energy crunch has metamorphosed into a food crisis. Peak oil and the cost of fuel will squeeze the incomes of consumers hard, so their ability to spend on other goods will slump. Rampant food and energy inflation threatens hard landings across a wide swathe of the developing world, insists Turner.

He is rightly sceptical of the ability of current leaders to manage the economy, but perhaps something can be done on the energy side. Turner is among those who says that the world has long since passed its peak in oil discoveries, widely cited to be 1965.

The promise of new frontiers or technology plugging the alarming gap is an illusion, the author contends. Most of the easily, cheaply extracted oil has long since been discovered. Oil output in Saudi Arabia looks to have peaked in 2005, and it is unlikely that the kingdom has the spare reserves it claims.

The decline in the giant Cantarell field in Mexico is of major concern.

Turner urges, rather ambitiously, that governments join in ensuring an orderly rebalancing of worker and environmental rights against the pervading dominance of corporations, and he is passionate in demanding a cut in interest rates to tackle the housing price slide and avert more bank defaults. “We are setting ourselves up for a much worse year than this year,” he told Lloyd’s List, “but the situation is not irredeemable.”

The Credit Crunch by Graham Turner is published by Pluto Press, in association with GFC Economics, £14.99, www.pluto books.com.

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