Former NZ economist predicts more global gloom

Robert Wade believes tackling inequality will be very problematic. Photo / Steven McNicholl

Another plunge into global recession in 2010 or 2011 is being tipped by expatriate New Zealand economist Robert Wade - unless governments tackle the underlying causes of the past year's crisis.

Wade, a professor at the London School of Economics who made his name analysing East Asia's economic "tigers", believes the crisis was driven by a combination of unregulated lending and a huge upswing in borrowing, which he links to widening income gaps in major economies such as the United States.

But he is "not optimistic" that governments will seriously tackle either side of the problem.

"I think we are in for a period of very considerable turbulence and it's quite possible we will have another plunge into recession," he said in Auckland yesterday.

"I don't think this is going to be a stable rise out of recession.

"If we have another double-dip recession in 2010 or 2011, then those pushing for more serious action along the lines I've talked about may be strengthened and the forces reining it in may be weakened.

"Unless something like that happens, I don't see that very much will be done beyond cosmetics."

He said sharemarkets were already over-valued, especially in emerging markets, such as China, India and Brazil.

"Relative to historic valuations and any other measure you care to use, such as historic price-earnings ratios, emerging stockmarkets are in big-time bubble territory," he said.

Wade's 1990 book, Governing the Market, argued that Asian "tigers", such as Taiwan and South Korea, owed their success to active state protection and support for target industries, including managed exchange rates which kept exporters competitive.

He said yesterday that the past year's crisis was partly because of relaxation of controls on international financial flows and domestic banking capital ratios, fuelling huge imbalances between overspending economies, such as the US, and under-spenders, such as China.

The other side of the picture was a surge in borrowing, fuelled by a massive rise in inequality which linked back to the rise of the financial sector.

He said the top 1 per cent of income-earners increased their share of total US income from around 16 per cent to a peak of 22 per cent in the decade up to the 1929 sharemarket crash - "the age of the robber barons".

Their share plunged during the regulated years of the Great Depression and World War II and bottomed at just 9 per cent of US national income in 1977.

But deregulation from the Reagan era onwards and the rise of the financial sector helped the top 1 per cent raise their share to 22 per cent again by 2006.

"This concentration of income at the top meant that there was a sort of waterfall of money going into the financial sector, into buying assets, because these people didn't consume the enormous share of income they were getting," Wade said.

Rising house prices, in turn, enabled lower-income earners, whose real incomes barely changed in the quarter-century to 2005, to borrow heavily against their houses and fuel a US trading deficit which by 2006 was bigger than the entire national income of India.

Wade advocates re-regulating finance by strengthening financial consumer protections, raising capital requirements for financial institutions, separating commercial and investment banks, international co-operation on exchange rates, and temporary taxes such as a 2 per cent tax imposed by Brazil last week on foreign portfolio investment.

But he believes tackling the other side of the problem, inequality, will be "very problematic".

"The people at the top have now got enormous political power and would be extremely resistant to any serious increase in the progressivity of income tax which is one obvious way to do it."

"The fall in inequality from the 1930s was made possible by the catastrophe of the Great Depression and World War II and the returning servicemen demanding goods and services, public goods like education and so on, and just not tolerating the degree of inequality that had been opened up in 1929," he said.

Professor Wade will deliver the annual Bruce Jesson Lecture at Auckland University's Maidment Theatre at 6.30 tonight.