Global Economic Scenarios

Banking giants in emerging markets will probably do well in any likely economic scenario. Other banks face a more challenging future.

April 2015 | by Robert Harris

At the National People’s Congress in Beijing in March 2015, China’s Premier Li Keqiang announced a growth target of seven percent, acknowledging that “deep-seated problems in the country’s economy are becoming more obvious. Day-to-day developments in the world economy have become increasingly complex and global in their implications. Economic shocks, from Greece to China to Russia, are now of greater concern because around the world, traditional policy tools have already been used and financial resources depleted to help economies recover from the last downturn. Strategic decisions have become correspondingly more consequential. Shocks are inevitable, but strategists must find ways to extract the signals from the noise to understand what’s over the horizon.

Three interlinked factors have the potential to shift the global economy from one long-term outcome to another: aggregate demand, structural challenges, and diverging growth patterns. First, in the near term, the major economies continue to struggle to achieve self-sustaining growth in aggregate demand. This continues despite years of monetary and fiscal stimulus, as well as the recent drop in oil prices. Second, the world’s major economies face long-term structural challenges, including rising debt loads, aging populations, and inadequate or aging infrastructure. Success or failure in resolving these structural challenges will determine the speed of long-term growth in these economies. Third, the world’s major economies have increasingly diverged in the last few years. In the past, global integration has driven convergence. The prospects for further integration have become less certain. The global financial shock was followed by years of weak growth and concerns over rising inequality. The path to renewed and stronger growth remains elusive.

The Burk model incorporates more than a dozen major international databases from such institutions as the United Nations, the World Bank, the International Monetary Fund, and the Bank for International Settlements. Selection of data sources is based on their authoritativeness, comparability, extended time series, and country and concept coverage. The result is a historical database that provides complete time-series data for more than 150 concepts and 110 countries over 30 years.

The structure of the model emphasizes the drivers of economic growth, including demographic factors, education, energy supply, physical capital, and some determinants of total factor productivity. It captures the long-term effects of urbanization and industrialization, as well as the impact of sociopolitical institutions, especially on finance and governance. Because business-cycle fluctuations affect growth in the short term, the model also links trade and international capital flows, credit and asset markets, and the monetary relationships that determine inflation, interest rates, and exchange rates.

Model estimates are generated using a series of advanced econometric techniques. In particular, we use dynamic error-correction-estimation techniques to address issues of nonstationarity in the data. We use two-stage least-squares techniques to mitigate potential simultaneity biases. In addition, because we aim to characterize the drivers of growth over long time horizons, we pool the information across a sample of countries with widely varying levels of development. The result is a simulation tool that allows us to generate plausible ranges for future growth for twenty core countries and nine regions.

Our approach has been to work backward from a series of long-term outcomes, determined by the degree to which the structural challenges have been met and global growth has become more or less divergent. We are then able to move forward, articulating the scenarios likely to emerge in the path ahead from near-term developments.

Our global economic scenarios suggest that the major economies face significant structural challenges. To revive growth, these countries must tackle the challenges while navigating constant reverberations from an interconnected world economy. Urbanization and aging are tilting growth toward emerging markets; other trends are complicating the picture. For strategists, the course of trade and information flows is of crucial importance, as the direction and forces behind the flows determine how industries will be affected. Rising south-to-south trade in goods creates a very different set of opportunities than does increased services-driven trade or increased investment based on production location.

 

Executive Editor

Ms Anna Sullivan

Ms Anna Sullivan