At times of upheaval, economists (particularly British-based economists) often have a habit of citing Britain's war-time Prime Minister, Winston Churchill. This is an occasion when Churchillian rhetoric may be appropriate: "Now this is not the end. It is not even the beginning of the end. But it is, perhaps, the end of the beginning." This phrase sums up the global economic downturn very nicely.
We have reached the end of the initial phase - marked by negative growth numbers, companies running down stocks, and fear amongst investors and consumers. What lies ahead is likely to be a long period of slow growth - as consumers and companies reduce the debt that they have accumulated in recent years.
The return to global trend growth (the economic "end game") lies some considerable way in the future - 2011 at the earliest. We should not harbour any illusions about the prolonged nature of this weak growth environment. Whatever markets may be pricing in for a growth recovery, the world's central bankers are unanimous in their prognosis of a slow return to normal.
However, even if this is just the "end of the beginning" it does mark a break in the relentless cycle of bad news. With this in mind, now might be a suitable opportunity to reflect on where ultimately the world economy is going to end up. What is the world going to look like when we do get back to a "normal" economic climate? Although many details could still change, it seems reasonably likely that we will experience some or all of the following characteristics in the world economy.
The first, most obvious consequence of current events is that governments are likely to play a bigger role in the world (take a larger share of GDP) than has been the case in the past. Government debt levels have been rising in many economies around the world. In part this is due to government's taking direct ownership of economic assets (nationalising banks, for example).
In part it is because economic weakness requires the government to implement automatic stabilisers (like unemployment benefit). In part it is because governments have chosen to support growth through increased government spending. History teaches us that governments tend to be relatively slow in cutting spending, and the legacy of larger government is likely to remain for several years. Governments also tend to be less (economically) efficient than the private sector, suggesting that overall economic efficiency will suffer with bigger government.
As well as governments occupying a larger share of the economy, we also expect governments to take on a larger role in regulating the private sector. Obviously, a key area is likely to be government regulation of banks and finance.
However, banking and finance is an integrated part of the overall economy, and regulation of that sector is likely to influence behaviour elsewhere. Some businesses may find it harder to borrow money in the future, if banks are more regulated (some business may find it easier to borrow money, depending on the nature of regulation). The net result is likely to be a shift in the structure of the economy.
One of the defining economic features of the last two decades has been the expansion of global trade. The share of trade in global GDP went from 13% in 1990 to 23% in 2007. This expansion of trade seems likely to stall, and may even reverse somewhat.
Fiscal packages in the US and China come attached with conditions aimed at preventing the purchase of foreign goods. The increase in regulatory rules will differ from country to country. This raises the costs of doing business globally. To navigate a maze of different regulatory regimes, companies will need ever increasing numbers of lawyers (and lawyers are always expensive).
In spite of the policy stimulus currently on offer, the economics profession is generally reassured that the future will be a low inflation world. As long as central banks remain independent, they have the weapons to control inflation.
The incentive to maintain stable inflation is obvious - higher inflation raises borrowing costs, reduces growth further, and generally increases government debt burdens. None of this is desirable in the current crisis. Economic spare capacity is likely to continue for a number of years, which means inflation is likely to be a distant challenge for policy makers.
The ultimate conclusion of the changes that the world economy is currently experiencing is that growth is going to be lower in the future. This is not a cyclical, short term issue. The trend rate of growth is likely to be lower. This impacts Asian economies as much as it does the economies of Europe and the United States.
Rising risks means it will cost more to borrow money in the future than it has in the past - and globalised capital markets make this a globalised concern. Protectionism means that globalisation is unlikely to accelerate as it has done in the past - which means that countries that have used trade as a key part of their growth pattern will find it harder to maintain the growth levels that they have enjoyed in recent years.
What does this mean for Indonesia? While this global economic downturn did not originate in South East Asia, Indonesia was clearly impacted through trade and financial market linkages during the first phase of this cycle - although less than most Asian economies. The same may well prove to be true in the second stage of the downturn.
Indonesia does stand to be affected by bigger government, more regulation, growing protectionism, low inflation and lower growth in overseas markets. While some of these developments are threats (lower growth, protectionism), there are also likely to be opportunities as companies look to invest in faster growing emerging economies less burdened by the debts of the last boom and bust.
The writer is Deputy Head, Global Economics, UBS Investment Bank
