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China and India Push Hard Down On the Petro Keynesian Gas Pedal

Economics / Economic Recovery Jan 15, 2010 - 09:25 AM GMT

By: Andrew_McKillop

Economics

Best Financial Markets Analysis ArticleWARNINGS - Warnings of fast and massive overheating of the Chinese economic miracle, with similar warnings starting to be heard for the Indian economy, underline the basic common driver: Petro Keynesian growth in 2010. Unlike the more massive and more ineffective 'tax-and-spend' programs employed in the US, in Europe and Japan since late 2008, the classic Keynesian solution of spend now but tax later, or inflate and devalue later, the Chinese and Indian anti-recession programs have spent strategic.


Resources estimated at about USD  750 billion for combined spending by both countries have been channelled to growth tweaking, low inflation, high multiplier spending in the sectors and processes that can and do accelerate economic growth.

The problem is that miracle growth in emerging economies is exactly like the postwar economic miracles of Japan, Germany, France, Italy and other countries, where through some 25 years from 1950-1975 national oil demand increased at around 5% to 7% a year, every year. If that happened to the world economy again, today, world oil prices would reach $ 200 a barrel very fast, and after that yet further exotic highs, until the global economy crashed in an inflation fireball. So the risks surrounding Asian decoupled growth, today, include the long-term certainty this growth will move away from oil, sooner or later. For Chindia it will be later rather sooner, leaving the prospect of short-term collateral economic damage, from Asian decoupled growth, in the slow growing OECD economies this year.

COPYBOOK RECOVERY

To be fair and as Keynes' own writings on how to beat recession said, building routes, ports and airports, railways, housing, power plants and anything that gets people working again is a good way to prime the pump. This is the Chinese and Indian model. Giving tax breaks to the already rich, in the hope they buy a second car, maybe imported, or employ a low wage nanny, is likely not inflationary but is also a less sure bet for restoring growth. This is what we can call recent and present OECD ideas on 'Keynesian recovery', with the twist that high wage finance sector players were specially singled out for government bailouts. Priming the pump in China and India through 2008-2009 focused basic infrastructures but has now moved on to the Petro Keynesian stage, where mainstream manufacturing and consumer durable output growth takes the high ground.

In both countries, forecasts of industrial output growth in 2010 are already extreme high - possibly more than 20%. No guesses are needed on where the export goods will be sold, and what this can do for industrial and manufacturing recovery, and trade deficits of the struggling OECD group.

This Asian pump priming will have another direct impact on the OECD recovery, at the oil pump. Asian decoupled demand growth for industrial basics like world bauxite, iron ore and cement aggregates supply, on demand for and prices of base and strategic metals, and the supply and price of global food and bioresource commodities will surely lever up their price.

Despite 'ecological' marketing messages to the contrary, OECD average per capita oil and natural resource consumption remains far above per capita demand in Chindia, for example about 5:1 for oil (OECD/China), 4:1 for electricity consumption and over 3:1 for most base metals. But Chindia per capita oil and resource consumption is close linked to GDP growth. It will go on rising, fast, as the OECD slowly shakes out of its recession trough. Quite soon, this will bring back unfond memories of the 2007-2008 sequence on world commodity markets. This is already shown by the US commodities trading watchdog, the CFTC, expressing public concerns about "speculation" not only on oil markets, but also in gold, silver and other metals. Fighting speculation (a little like 'fighting climate change') is thought of as the politically correct lever for trimming commodity price rises and to perhaps slow down the market devaluation of the US dollar - used for settlement of around 70% of world traded energy and raw materials.

Rising energy and raw materials demand of the emerging economies however only underlines the basic reality of the global economy's ecological and resource footprint. The key word is simple: unsustainable. For marketized commodities, the depletion of mineral resources and the overexpoitation of theoretically renewable resources run at different rates for each of the resources concerned. Shown by actual and real surplus capacity data at any one time and for specific energy, mineral and bioresource commodities, predictions can be made for when prices are likely to tilt upward. 

THE SHORT FUZE

In the time of Keynes, more than 80 years ago, long-term depletion and rarefaction of natural resources was far down the worry list, for a world economy about 18 times smaller than today's, and a world population more than 70% smaller than today's 6.7 billion, of which close to 2.4 billion are Chinese and Indian. Back of the envelope calculations on the future (but impossible) Chindia car fleet at even one-half today's OECD average of 450 cars per 1000 persons also show the impossible oil demand this would generate. Also unlike Keynes' time, in the 1920s and 1930s, neither global warming nor peak oil had an audience, and ecology was strictly a minority pursuit. The 1920s and 1930s however featured economic and geopolitical crises not unlike potential results of today's crises, when the challenges faced by economic and political deciders proves to be too big, too complex and too fast acting.

As both Chinese and Indian leaders said on-record and off-record at the failed Copenhagen climate summit, cutting their national fossil energy consumption at anything like the rates urged by Obama and the 'European climate triumvirate' of Brown, Merkel and Sarkozy would be simple suicide, even assuming it was technically feasible. Nonetheless, leaderships outside the OECD group have heard the message about the end of cheap oil, the need to save resources and to raise efficiency across the economy - which is basic good management of the economy, not needing suspicious appeals to ecological living as the only antidote to 'climate catastrophe' and a Biblical style flood in a century or so.

Riding the tiger of rising expectations and exponentially increasing needs in the world's two biggest nations, both China and India have only one option: growth. Currently this needs, and depends on fossil energy and depleting mineral and metal resources, and applies unremitting pressure on global natural systems and the environment. As their leaders many times said in the run-up to the COP15 farce, they are however only repeating the postwar economic miracle of the OECD. When or if the OECD group cares to cut its oil, gas, steel, aluminium, grains, oilseeds, sugar and rubber consumption to present per capita levels of Chindia, sustainability would mean something - or at least commodity price explosion would be less sure and certain.

Other issues like 'who polluted first' and who still pollutes the most - the OECD group of countries- however pale to insignificance relative to what happens to the global economy through the next few years. For China, India and other nonOECD G20 countries the main priority is to maintain growth, but prevent the upsurge running out of hand. As the 2007-2008 amply proved, sky high prices for oil and record prices for other primary products had little impact on Chinese and India growth, or inflation, but heavily impacted national budgets. Raising interest rates, which in previous pre-neoliberal epochs was called 'fine tuning' in the OECD countries, is likely in the emerging economies this year, but will be unlikely to stem the tide of Petro Keynesian growth, surging again like it did in the the four year period 2004-2007.

When interest rate hikes come in the OECD group, in the 2010-2011 period, they will likely be brutal and large, due to being delayed to the maximum. Unlike the emerging economies of today, it is the OECD group which now has the deficits and the debts, and no easy way to restore growth except by letting inflation rip, until 'heroic' interest rate medicine is the sole choice.

HARD LANDING AHEAD ?

The take-off to a new stage of Petro Keynesian growth in 2010, already primed through double digit rises in commodity prices through late 2009, will likely be a rough ride, with  high risk of hard landing. Unfortunately, due to the 2008-2009 crisis, neither the emerging economies nor the OECD countries can presently economize on economic growth. For several OECD countries, including the US, Japan, Germany, France, Italy, Spain and other European countries, the need to restore economic growth is at least as strong as allowing growth to be tweaked ever higher for China and India. The sombre perspective is that Chindia growth in 2010 has a high, even extreme risk of overshoot, not undershoot. Indicators of this process are simple: monthly oil imports, growth of industrial production, and growth of other key aggregate data.

Taking bets on when the fuze burns down to the explosive core is now the meat of commentators and analysts, but what we could model is an entire Commodity Supercycle playing out in a single year or 18 months, rising crescendo then falling back to zero. The end result of that sequence would be more than double dip. This time the Asian supergiant economies would themselves buckle, not just dip. Applying copybook Keynesian spending would this time not result in growth taking-off to who knows where, at rates of national GDP growth now projected as able to attain 12.5% to 15% in 2010, for both China and India. Any prospect of growth falling even to low single digit rates, in Chindia by late 2010/early 2011, is a complete paradigm change.

The simple question as to whether the exit from any previous global economic recession started like 2009-2010 has a simple answer: no. The scenario for this generating an ultra compressed Commodity Supercycle with an ultra hard landing is therefore unable to be brushed away on the simple grounds of 'never known before'.

WHO WINS AND LOSES FROM PETRO KEYNESIAN GROWTH?

IMF studies show that, since 2000, the vast bulk of 'windfall gains' for commodity exporters, ranging from oil to other primary products and including food and bioresource commodities, is quickly fed straight back to the global economy, not locked up in monetary or gold holdings. This is a 'paradigm shift' relative to the 1970-1980 Oil Shocks and their aftermath, during which petrodollar recycling became a kind of Holy Grail for OECD political and business leaders, as the global economy crashed far lower (measured by industrial production falls) than in 2008-2009.

Today, with another 1.1 billion persons added to world population since 1995, equivalent to a new or second India, the massive size of classic Keynesian bailouts and anti-recession lending and spending, with low or zero multiplier impacts on the economy inside the OECD group, makes the 'stable non inflationary growth' mantra inaudible and hard to treat as credible.  As already noted, the pursuit of economic growth is now a No Alternative, but cheap oil and commodities, as in the long Neoliberal Interval of around 1985-2000 are also now impossible. Unlike the 1980s and 1990s, trimming oil and commodity prices is now longer possible simply through OECD recession, even more easily triggered by interest rate hikes today, as it was in the early 1980s, when Paul Volker at the US Fed gouged rates as high as 20% pa. Today, even 7% pa would implode the fragile OECD recovery, but would likely only gain a year or 18 months breathing space in the form of cheap oil and commodities.

Today, shifting from no growth and no inflation, to the opposite the OECD economy is both pushed and pulled, locomotive style by Asian decoupled growth impacts on world oil and resource prices. This quickly feeds back new solvent demand, from commodity exporter countries, further raises Asian growth, favours Asian export industries and quickly reinforces Asian oil and commodity demand. The Petro Keynesian growth loop is in place.

According to Moody's and Fitch and taking the entire EU27 as example, national debt will average about 85% of European GDP by end 2010. Choosing safe and stable stagnation of the Neoliberal sort, in this context, is as suicidal for Europe as allowing record economic growth to falter is for China and India. Petro Keynesian growth is a potential saviour - but will be treated like a plague. Plague doctors look for evil inflation spots on the patient, and threaten a knee jerk monetarist response to higher oil and commodity prices, generated by Petro Keynesian growth. Taking the "oil threat', this has already been singled out by Ben Bernanke as a good excuse for raising interest rates whenever his pain threshold oil price, announced in August 2009 at $ 100 a barrel, is breached. To be sure, Bernanke can forget this 'magic number' and move up to 110 or 125 as needed, but the threat has been made.

This has to be compared with the failed Keynesian recipe, operated in 2008-2009, cranking national debts to new, extreme highs across the OECD. When or if US oil imports average $ 100 a barrel for a whole year, the deficit on the US oil account  after refined product export gains, and oil trade gains might attain $ 275 billion. This can be compared with estimates for the total cost to US taxpayers and overseas buyers of US debt, for financing the TARP, or simply the Paulson and Geithner plans of 2008 and 2009. At least 6 years of total US oil import demand could be financed by what has been thrown at the US economy, mostly the bank, insurance and finance sector, since late 2008. If we move up to the TARP, the figures for years of oil imports covered become yet more ample, or lurid.

FAST ACTING

Petro Keynesian growth is high gain positive feedback, driving ever faster increases of oil and other commodity demand, and surely bumping against successive supply capacity ceilings as the growth surge continues. Due to population growth, economic globalization and diminishing natural resources the safety margin before growing demand hits supply ceilings is now short - probably less than 1 year.

Without countervailing negative feedback in the shape of inflation, the only limit on a Petro Keynesian growth surge for the global economy is a collapse in consumer confidence and consumer discretionary spending - when food and energy price rises act.

Solutions, to be sure, exist in the shape of real decoupling, that is national autonomous and self-reliant economic models which, in the past, were a last resort of tyrants, from Stalin and Hitler to Pol Pot. The speed at which these types of solutions could start being heard may however be short, set by increasing potentials for Chindia-OECD rivalry for market reach and competition for key natural resource supply, which was a clear factor in the failure of the Copenhagen climate summit. Underlying the flat rejection by Chindia of proposals for massive cuts in CO2 emissions, that is massive cuts in oil consumption, the will to maintain record economic growth will also lever the geopolitical reach and power of the five-sixths of the world's population not living in the OECD countries.

Th coming hard landing for the global economy, unless radical and unlikely change in world economic relations, and economic structures takes place, will generate a context of heightened Chindia-OECD rivalry. All dangers are possible. The combined population of China and India is close to 3 times the combined population of the EU27, USA and Japan. Logically but theoretically, the total GDP of Chindia could reach 3 times the Old World-Rich World total. This is not possible, but how this future geopolitical and global economic challenge is resolved will surge to the high ground when or if hard landing follows Petro Keynesian overshoot.

By Andrew McKillop

gsoassociates.com

Project Director, GSO Consulting Associates

Former chief policy analyst, Division A Policy, DG XVII Energy, European Commission. Andrew McKillop Biographic Highlights

© 2010 Copyright Andrew McKillop - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


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