What wolf lurks at the end of the Goldilocks economy?

By Alan Deans

New York view


December is when economic forecasters gaze into their crystal balls to see what predicaments await humankind. It is no easy task, even for highly paid Wall Street seers.

Some own the types of balls that snow gently when upended, while others find it hard to peer through the reflections of times past. For most, they simply want to make predictions that nestle comfortably within the ranges made by others so that they can save their skins if they are shown to be wrong.

But no one - not even on the internet - has yet found a better way to see into the future. So, it befalls financial players to read the prognoses in an attempt to distill their own view of how the millennium will affect the world.

One important factor that is immediately obvious is the total absence of doom-and-gloom warnings about the Y2K bug. No one believes that computers will experience any confusion about dates when the clock ticks past midnight on December 31, despite the hype.

Asked this week about his lack of caution, Merrill Lynch's chief economist Bruce Steinberg said that people have known about the bug for years and have spent billions on computers and software to ensure that they are not hit by it. If we can't get it right after such a mammoth effort, he asked, what chance do we have to do anything correctly?

At the very worst, Wall Street is expecting some problems in emerging nations, small businesses and some Government operations. But they don't see any of that stopping the giant wave of prosperity that they see sweeping around the world.

Yes, folks, there is almost universal accord on the fact that the global economy will grow strongly in 2000.

Sage organisations like the OECD and the IMF currently say that domestic output will grow by about 3 per cent next year, but plenty of analysts are moving up from this base. Some even believe that GDP growth will reach 4 per cent.

The US is expected to be a touch weaker than in 1999, hurt by the trend to higher interest rates but still a very healthy 3.5 per cent to 4 per cent. The biggest gains are expected in Latin America, which is coming off a foundation battered by economic crisis, and Europe. Continued high growth is likely in Asia, with the exception of Japan.

Morgan Stanley Dean Witter's Stephen Roach says: "All of the major regions of the world will be pulling in the same direction at roughly the same point in time, producing a self-reinforcing upswing of the global business cycle that has been lacking through most of the 1990s.

"For the first time since 1996, the world could be largely recession-free. And the risk is that, for the first time since the early 1980s, the world could also be enjoying a classic V-shaped recovery in the aftermath of a global recession."

Why "risk"? What is the problem that Roach and some other economists foresee that causes them to cast a pall amid such optimism? Simple. It is the same old bogeyman, the end of the Goldilocks economy that in recent years has brought prosperity without excess.

The rebound to times of plenty threatens the re-emergence of cyclical economic conditions. That means higher commodity and labour costs, an outbreak in inflation and the need for central banks to tighten financial conditions. The groundwork for such a scenario has already been laid, with low levels of unemployment and sharp rises in energy prices coming as an early warning. But higher costs have been swamped by greater efficiencies as the technology boom has boosted productivity.

There is a sharp division among forecasters, however, between those who see the bad, old-times returning and those who believe in a brave, new world.

In the end, both sides are simply arguing about timing. Economists know better than most that the figures they analyse always rise and fall. If they didn't they would be out of a job. Crystal balls would no longer be needed. At some stage, demand is going to expand so that it ends the current deflationary cycle.

Out of self-interest, New Zealanders should hope that this occurs sooner rather than later, because its economy is commodity-based. It benefits handsomely when world economies expand.

Merrill Lynch's Mark Benseman says that the conditions are ripe for a rally of Kiwi equities next year, after a difficult 1999 that was marked by a surfeit of new issues.

"Given New Zealand's dependence on commodity exports, rising commodity prices should result in a better economy and improved external balance."

While investors would find it hard to find many commodity producing companies to buy, the general improvement in wealth should wash its way across the financial system. All of this assumes that the new Labour/Alliance coalition pursues sensible policies, particularly in relation to the direction of the current account deficit. A blow out there can be guaranteed to scare off foreign capital.

* Alan Deans is the New York correspondent for the Australian Financial Review.