The Situations in the World Economy

Published by OurEconomy.org on November 20, 2009 filed under World Economy   ·   Comments (0)

In 2007, the world economy was marked by 5.2% growth with the main contribution of China, (11% growth), India (9%) and Russia (8%). At the same time there is a danger to the global economy that is a risk of stagflation similar to that of 1970s, as the problem of resources deficit is more acute than ever.

In fact, it is doubtful that the situation with the world economy was much different at the beginning of 2007. For a substantial period of time, the Emerging Markets that were powered mainly by such countries as China, India, Russia and Brazil (the BRIC countries) had been reporting 7%-10% rates. In addition, North America and Europe also proved to be constantly growing that was a consequence of property and stock market booms. The majority of the Middle East and African countries were developing economically with the help of investments. Japan was getting better overcoming its deflationary “Lost Years” and its consequences.

It is economic situations in these countries that are accountable for the economic atmosphere less powerful and developed nations and their economies. Economic well-being of developing and less developed economies is in fact very much dependent on the developed countries.

There were even such theories that supposed the growth of the developing countries would help to see the years of unrestrained growth since the new markets would be successfully growing and therefore oppose to any other countries being on the slope. Asia was said to be parting from the United States, for it had enough strength and power for developing on its own, and its two “Awakening Giants” were to be given credit for this.

There have been two major most influential events hindering the global economy that are likely to make stagflation come back.

The first one was the sub-prime crisis in the United States. It was connected with loans to risky or “sub-prime” mortgagees with poor credit histories. As far as house prices were going up, everything was all right. However, they made a sudden fall, it boosted default rates.

In addition, sub-prime loans had been packaged and re-packaged in multiple derivative financial instruments like Collateralized Debt Obligations (CDOs) for instance. The situation with the CDOs was rather confusing as it was hard to comprehend its composition because they were combined, sliced and re-sold between financial institutions and funds. What is more, sometimes risky debt like sub-prime loans could be packaged being taken for part of low-risk instruments.

Since a lot of CDO investments swathes were subject to writing off, banks got more cautious with investment, borrowing and lending, for in some cases it was difficult to comprehend what exactly the underlying security was. As soon as banks refused from lending, the country was hit by the Credit Crunch.

Government officials in US and UK as well, were making various attempts to save banks from bankruptcy and prevent the collapse of the financial system.

Since house prices have gone down more than 20% in the United States, even those with prime mortgage have now to deal with negative equity. Thus, there was nothing else for the federal government to do as to take responsibility for Fannie Mae and Freddie Mac, the largest mortgage companies in the country.

The second event was the increase in commodity prices. Right before the 21st century to set in, oil price amounted to $16 a barrel. About 10 years later, in July 2008, the price soared to $146 a barrel. In the period from 2007 to mid 2008 there has been a more than threefold increase from $40.

In the course of the Oil Crisis in 1970s, the peak for oil price made up $38. As of now, it is $106 that was passed at the beginning of 2008.

There have been also changes to food prices. From 2007—2008 prices for rice and other grain products have made a twofold increase. The majority of agricultural and farm produce have been going for a record rise. It can be said that almost all commodities, such as used for energy, construction and consumption have been going up at a staggering speed.

The needs of the emerging markets only triggered price increase. This is mainly had to deal with the BRIC countries that together have 3 billion people. They are looking for more and more commodities with the purpose of holding their rates of growth and help their people put an end to poverty.

However, a lot of economists have strong doubts whether the existing natural resources suffice to meet their growing demands.

In the 1970s somewhat similar crisis took place. At that time, after enjoying global economic growth, when the world economy could boast of 5% GDP increase every year, the world faced the problem of resources deficit. During the next 15 years, global GDP growth went down to 3.2% a year.

That time is called the stagflation era. It was characterized by limited growth opportunities, but rising prices against the background of supply deficit.

There was a great debate on the issue of lack of natural resources.

But Jeffrey D. Sachs, Director of the Earth Institute at Columbia University, announced that world crude oil production increased. Thus, if in 1960 it was 21 million barrels a day to 56 mbd in 1973. That meant the increase of 166%. One of the consequences of the stagflation crisis war the emergence of a “Green Revolution”.

Despite this, since 1970 the growth of crude oil production amounted to 30% all over the world. The situation in the Middle East is even worse. It showed 21 mbd in 1974 and got stagnant as mature fields in such regions as the North Sea, Norway and Alaska are having hard times.

“Peak Oil”, a school of thought that gains more and more supporters, considers that we have everything for hitting peak oil production. There is also The Hubbert Peak Theory, created by Dr M. King Hubbert, who was right about peak oil production.

The crisis also resulted in food prices going up, as more and more land is being given out for biodiesel crop development.

There is a great chance of big investments in renewable energy sources that will be of great need in order to prevent the next stagflation affecting the world economy.

Topics: african countries, bankruptcy, banks, collateral, contribution of china, developed nations, developing countries, economic situations, economists, financial institutions, gdp growth, global economy, market booms, poor credit histories, poverty, Stock Market, sub prime crisis, World Economy