The Daily Interview: Next Year Still Looks Iffy for the Global Economy

The world's major economies have felt the pinch of the global slowdown that's reached across all continents. The problems are vast and complex, including an overabundance of inventories in the U.S., weakened currencies in Europe and financial destabilization in some of the major emerging markets.

Gabriel De Kock Director, Economic and Market Analysis Group, Citigroup

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Gabriel De Kock, a director in the economic and market analysis group at Citigroup, believes the figures probably won't look so good next year, although the U.S., due to its fiscal and monetary efforts, is probably in the best position to recover as 2001 wanes.

TSC: How long has it been since we've witnessed a global recession, or a concurrent downturn in the world's largest economies?

De Kock: Clearly, we have to go back to the early 1990s for a serious global downturn, although we had something somewhat different than what we have now in that we didn't have the same synchronization. We had the reunification of Germany, which put them on a massive spending boom from 1990 to 1992, so they slowed later. In terms of a general scale, though, that's going to be closest. We had a milder, more closely correlated slowdown in 1995 to 1996 when we had a U.S. inventory correction, along with problems of overvaluation of the deutsche mark and other European currencies, but nothing as severe as in the early 1990s.

TSC: Right now, we have a general slowdown in the U.S., Japan, Germany and much of the euro zone, but we've also got financial destabilization in places such as Turkey and Argentina. What role can they have in the world's economic state in coming years?

De Kock: Clearly, if what we've seen in Turkey and Argentina leads to more contagion, and particularly in Southeast Asia, that's going to make an already difficult situation for Japan even much more so. Let's assume for a moment that the worst of the problems are limited to Turkey, Argentina and maybe Latin America. If you look at Japan's exposure in terms of financial linkages and trade linkages, the exposure is tiny; it's very limited.

But if you look at Asia ex-Japan, even though Japan's financial links shrunk considerably, you still have very large bank loans to Asia. For example, in the Asia/Pacific region, Japan still had $117 billion in loans at the end of 2000. This is down from $265 billion in 1996, but it's still substantial exposure. The bulk of their emerging-markets trade is in Asia, and the problem will be a lot worse if we have more contagion in Asia.

Europe's exposure is limited. If we want to single out anyone, we'd have to single out Spain as far as trade and financial linkages to Latin America. In the U.S., our view is that things have essentially troughed in the second quarter, and that monetary stimulus along with fiscal stimulus will lift growth in the third quarter. There will be no rocket-fire takeoff but a clear turn in the face of economic growth, where we'd reach probably over 3% annualized growth by the fourth quarter. The U.S. vulnerability is just not the same.

TSC: What do you expect, then, in terms of the dollar, yen and euro?

De Kock: We haven't changed our minds much about that. The slowdown in Europe is probably going to be deeper than anticipated four to five months ago and more protracted. Japan's economic problems -- I don't want to use the term snowballing -- but there are clearly deep structural problems. In the near term, there will be more disappointment in Europe and the need for more liquidations in Japan, but in the near term, liquidity injections will be limited. More substantial injections are coming down the pike, but in this environment we still see the dollar/yen at 130 by year-end.

In terms of the euro, the dollar has found itself more vulnerable in recent days. Once the cyclical tables start moving in the U.S.' favor, we are looking for the dollar to strengthen, if modestly, and remain in the 80-cent range.

TSC: The U.S. trade gap actually narrowed by $5 billion between March and May, showing we're starting to export more than we have been. Can we be successful in exporting our excess inventory to other countries? What does it mean about our economy?

De Kock: Let me jump the gun a little and answer a different question. Yes, the trade deficit has shrunk more rapidly than people anticipated, but an important element of that was a structural change in U.S. trade accounts. If you look at imports of capital goods, they've quintupled over the last 10 years or so. As a result, what's happening is they've grown faster than spending on capital equipment. At the end of last year, imported capital goods were 40% of machinery investment.

What we're seeing is a slowdown that's hit first and foremost capital expenditures in the U.S., and this collapse of investment spending has pulled down capital imports by 17% this year. That's an important part of the swing in the deficit. Our imports have fallen, but our exports have also fallen, as our trading partners see prospects dimming, and they've dropped their machinery spending as well. Our imports are biased toward capital goods, so we had a rapid improvement in the trade deficit coming from that source alone.

TSC: Some believe a weaker dollar is one of the few ways manufacturers will be able to regain their pricing power and their earnings strength -- but wouldn't ongoing global deterioration prohibit that?

De Kock: That's sort of what I hinted at pretty explicitly before; the U.S. cyclical turn is coming earlier, and the U.S. single-handedly will be pulling the wagon up the mountain here. It's difficult to see the dollar easing back in the near term, and by that I mean a six- to nine-month horizon.

TSC: How long do you expect the global slowdown to continue? I know that's a tough call.

De Kock: Yeah, that's the sort of call people have been pretty wrong on, not because people over or underestimated weakness in the U.S., but the bottom-line problem is that Japan is probably going to be weak next year as well. If I had my druthers, I would say we'd have negative numbers next year [in Japan]. That's not our official forecast yet, but we're moving in that direction.

In Europe, the [European Central Bank] consistently talks about growth at trend, about 2.5%, but we probably will not see that next year either, essentially because we have less momentum coming into the new year. Whereas the U.S. is probably going to see very solid growth next year, but that's unlikely to be the case in Japan, and Europe will probably disappoint compared to ECB forecasts.

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