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United States Can't Fix World Economy Alone, Economist Says

Lachman says President Barack Obama (right) and Treasury Secretary Timothy Geithner are right to urge more action from Germany and other countries.
Lachman says President Barack Obama (right) and Treasury Secretary Timothy Geithner are right to urge more action from Germany and other countries.
The International Monetary Fund's (IMF) new "World Economic Outlook" forecasts that the global economy will shrink by 1.3 percent this year. Even more depressing was its forecast for the United States, the prime contributor to the world economy.

So why have U.S. President Barack Obama and his top economic aides been striking a cautiously optimistic tone in recent days? RFE/RL correspondent Andrew F. Tully asked Desmond Lachman, a former economist at the IMF and now a scholar at the American Enterprise Institute, who's right.

RFE/RL: Dr. Lachman, is the IMF forecast consistent with what we've been hearing from the Obama administration?

Desmond Lachman:
I think that this [report] is a somewhat more bleak picture. In other words, what they're doing is they're assuming that the U.S. recovery is going to be later than the Obama administration is anticipating, and that when you get that recovery, the recovery's going to be weaker. So this is going to be a longer recession than normal, and it's going to be a weaker recovery than normal -- numbers that are below what the Obama administration is forecasting.

RFE/RL: What does that mean for the Obama administration's efforts to revive at least the U.S. economy, which helps drive the world economy?

That's really very important from the point of view of the Obama administration's budget estimates, for instance. They're based on a reasonably quick recovery, a reasonably healthy recovery of the U.S. economy. And it's also got a bearing on what happens in the U.S. financial system. Clearly if we have a weaker economic recovery and longer recession, the losses on the banks could be larger than we would like.

RFE/RL: Is the Obama administration's forecast more optimistic than the IMF's because governments always try to encourage confidence in their own national economies?

Clearly there's generally a bias for policymakers to put a positive spin on any situation precisely for the reason that you say. If confidence is really very important in an economy, and if one can talk oneself into a deep recession if one tries, basically what one has to be doing is one's got to be trying to assuage people's fears and provide them with a reasonable basis for being more optimistic. So I think that that could really be a factor that is differentiating the IMF from the administration.

RFE/RL: So we have the Obama administration forecast and the IMF forecast. Is one right and one wrong?

Any economic forecast is really very difficult, particularly in circumstances like these, which are highly unusual. We haven't had an asset-price bust at the proportion that we're having right now. We haven't had financial markets being as dislocated as they've been for the last 18 months. We haven't had a synchronized global recession as severe in the postwar [World War II] period. So we really are in the area of the unknown.

We're All In The Same Boat

RFE/RL: On April 22, U.S. Treasury Secretary Timothy Geithner acknowledged that U.S. banks bear the majority of blame for the global recession, but he also said that the rest of the world shouldn't rely on the American consumer -- as they have in the past -- to pull the global economy out of its slump. Is he right?

Totally. I think that Geithner is absolutely correct to be frustrated, particularly with the Germans, that they are not doing their bit in stimulating the German economy, which is really very important for Europe. And I think that what Geithner is afraid of, that Geithner sees rather clearly, is that it's very difficult for the United States to engineer a very healthy recovery in the United States if the rest of the world is in a very poor state.

Basically what Geithner is saying is that we're all in the same boat together, all of us have to play our role in helping us move to calm the waters. I think it's right for him to be expressing frustration with the Europeans for not dealing with this problem with the seriousness that this problem requires.

RFE/RL: On the subject of Europe, what about recent reports of drastic price drops in Spain? Is this the beginning of dreaded deflation -- the kind that can prolong a recession and perhaps turn it into a depression?

Certain countries are going to be having deflationary problems, and Spain would be one of them. What we've already seen in Spain is unemployment -- which about a year ago was something like 8 percent -- has now already risen to 15 percent. It's very likely to rise to 20 percent over the next nine months to a year.

So once you've got very high levels of unemployment like that, once you've got firms operating at very low levels of capacity, once you've got a housing bust continuing with full force, those are very deflationary forces, and this is really what we're seeing in places like Spain, [and] in Ireland, [and] we'll probably see it in the U.K. All of those countries that are going through very deep recessions are going to be experiencing falling prices, and that makes it really very difficult to work your way out of a debt problem if prices are falling.

RFE/RL: Can deflation spread from one country to another?

Basically what we've got is a globalized financial system [and] we've got a globalized trade system. If you get countries of significance like Spain or the United Kingdom getting themselves deeply in difficulty, that is bound to have an impact on the rest of the global system through the financial losses that banks would be taking on loans that they might have been making [in normal times] to countries like that.

That makes it of paramount importance that Germany provides a very healthy external environment for these countries, because if we've got Germany contracting, the strains on a place like Spain or Ireland or Portugal or Greece already are going to be [so] intolerable that it could very well be a risk to the whole of the global system.

RFE/RL: You've mentioned Germany several times -- is it that important to Europe's economy?

Germany is the largest economy in Europe. It's a huge market for East European exports. Without a healthy Germany we're going to have real problems in Eastern Europe [and] we're going to have real problems in the Mediterranean countries, so that is one reason….

The other is that Germany is running a massive current-accounts surplus, which means that Germany has got room for more [economic] expansionary policies. So Germany's got the room for expansion that the rest of Europe doesn't have. So if we don't have Germany being healthy, we're really going to have a problem within Europe that could threaten any meaningful global recovery for the next year or two.

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