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Satyajit Das: The End of Growth, Part 1


Government intervention can cushion some of the costs of the crisis but cannot solve the fundamental problems.

Alan Weisman's bestselling book The World Without Us was based around a thought experiment – what would a world bereft of humans revert to. Society increasingly needs to focus on what a world without growth, or at least low and uneven rates of growth will look like.

Growth is a relatively recent phenomenon. In a deliberately provocative 2012 National Bureau of Economic Research paper entitled "Is US Economic Growth Over? Faltering Innovation Confronts The Six Headwinds," economist Robert Gordon found that prior to 1750 there was little or no economic growth (as measured by increases in gross domestic product per capita).

It took approximately five centuries (from 1300 to 1800) for the standard of living to double in terms of income per capita. Between 1800 and 1900, it doubled again. The twentieth century saw rapid improvements in living standards, which increased by between five or six times. Living standards doubled between 1929 and 1957 (28 years) and again between 1957 and 1988 (31 years).

Other measures show similar trends. Between 1500 and 1820, economic production increased by less than 2% per century. Between 1820 and 1900, economic production roughly doubled. Between 1901 and 2000, economic production increased by a factor of something like four times.

Gordon controversially questions whether economic growth is a continuous process that can persist forever. He argues that growth and improvements in living standards will slow significantly. For "shock value," he speculates that future growth rates may be 0.2%, well below even the modest 1.8% between 1987 and 2007.

Low or no growth is not necessarily a problem. It may have positive effects, for example on the environment or conservation of scarce resources. But the current economic, political and social system is predicated on endless economic expansion and related improvements in living standards.

Over the last 30 years, a significant proportion of economic growth and the wealth created relied on borrowed money and speculation. Since 2001, borrowing against the rising value of houses contributed to around half the recorded economic growth in the US.

Global trade is built on a financial model. Sellers of goods and services, such as China, Japan, and Germany, indirectly finance purchases by lending foreign exchange reserves to countries like the US and the now deeply troubled "Club Med" economies of Southern Europe.

Financialization is borrowed money and speculation. Debt allows society to borrow from the future. It accelerates consumption, as debt is used to purchase something today against the promise of paying back the borrowing in the future. Spending that would have taken place normally over a period of years is squeezed into a relatively short period because of the availability of cheap money. Business over-invests misreading demand, assuming that the exaggerated growth will continue indefinitely, increasing real asset prices and building significant overcapacity.

Debt-driven consumption became the tool of generating economic growth. But this process requires ever increasing levels of debt. By 2008, $4 to $5 of debt was required to create $1 of growth. China now needs $6 to $8 of credit to generate $1 of growth, an increase from around $1 to $2 of credit for every $1 of growth a decade ago.

Debt also became a mechanism for hiding disparities in the distribution of wealth in many societies. The democratization of credit allowed lower income groups to borrow and spend, encouraging housing booms, in order to deal with the problem of stagnant real incomes.

The ability to maintain high rates of economic growth through additional debt is now questionable. The need for governments as well as the private sector to reduce debt simultaneously reduces demand and locks the world into a negative spiral of ever lower growth.

Growth was also based on policies that led to the unsustainable degradation of the environment. It was based upon the uneconomic, profligate use of mispriced non-renewable natural resources, such as oil and water.

There are striking similarities between the problems of the financial system, irreversible environmental damage and shortages of vital resources like oil, food, and water. In each area, society borrowed from and pushed problems into the future. Short-term profits were pursued at the expense of risks which were not evident immediately and that would emerge later.

Another common theme in the parallel crises in finance, environment and management of scarce resources is mis-pricing. In the period leading up to the global financial crisis, risk, especially the ability of individuals and firms to repay borrowings, was underpriced. The true cost of polluting the environment or consuming certain resources has also been underpriced.

In all cases, there was significant privatization of gains whilst losses were socialized. Financiers entered into increasingly destructive transactions, extracting large fees leaving taxpayers to cover the cost of economic damage.

In the early 20th century, German economist E.F. Schumacher observed that human beings had begun living off capital: "Mankind has existed for many thousands of years and has always lived off income. Only in the last hundred years has man forcibly broken into nature's larder and is now emptying it out at breathtaking speed which increase from year to year." That observation is now just as true about the economic and financial system as it is about the environment.

Policy makers may not have the necessary tools to address deep-rooted problems in current models. Revitalized Keynesian economics may not be able to arrest long-term declines in growth as governments find themselves unable to finance themselves to maintain demand. It is not clear how, if at all, printing money or financial games can create real ongoing growth and wealth. Former German finance minister Peer Steinbrink questioned this approach: "When I ask about the origins of the crisis, economists I respect tell me it is the credit financed growth of recent years and decades. Isn't this the same mistake everyone is suddenly making again?"

Government intervention can cushion some of the costs of the crisis but cannot solve the fundamental problems. It is not self-evident that growth can be conjured up by policy makers. If government deficit spending, low interest rates, and policies to supply unlimited amounts of cash to the financial system were universal economic cures, then Japan's economic problems would have been solved many years ago.

The simultaneous end of financially engineered growth, environmental issues, and the scarcity of essential resources threatens the end of an unprecedented period of growth and expansion. But it was an unsustainable world of Ponzi prosperity where the wealth was based on either borrowing from or pushing problems further into the future.

Editor's note: "The End of Growth, Part 2" will be published on tomorrow (April 17, 2013).
No positions in stocks mentioned.

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