The growth delusion

20th August 2012

Without an insatiable appetite for improvement in living standards, fuelled by low cost labour and sometimes huge commodity reserves, the developed nations would be in more of a mess than they are.

But is that still true? Dani Rodrik, a professor at Harvard University's Kennedy School of Government and a leading scholar of globalisation and economic development, has severe doubts.

He contrasts the views expressed a year or so ago when analysts were predicting that emerging markets would not just soon control the world but they would continue to grow for at least four decades. The rest of the world might as well give up – unless it was servicing these markets with luxury goods.

They were, Rodrik says, "giddy with optimism about the prospects for economic growth in the developing world."  He reports that Citigroup, for example, "boldly concluded that circumstances had never been this conducive to broad, sustained growth around the world, and projected rapidly rising global output until 2050" with consultants PwC predicting " per capita GDP growth in China, India, and Nigeria would exceed 4.5% well into the middle of the century."

What a difference a year makes

Now, however it's what The Economist has dubbed  "the great slowdown." China, India, Brazil, and Turkey have produced their weakest growth in years. These might be short term fluctuations, partly caused by consumer caution in Western nations. But Rodrik believes that the slowdown could be as permanent as the fast forward was considered to be previously. Rapid growth could be the exception, not the everyday.

The big stumbling point for investors who have bought into the emerging markets story could be that they have mistaken manufacturing progress for overall gains. They have overlooked society.

It is relatively easy for economies such as China, India and Brazil to move cheap labour from the fields to the factories where they copy products designed elsewhere. They can produce the laptop or mobile phone at lower cost than the United States. But they have yet to come up with the operating system – there is no Asian Apple or Mexican Microsoft.

Freedom from corruption takes time

As important, says Rodrik, many emerging nations have yet to catch up on all that goes around the factories. They need education, legal systems, equality for all including women, politics that allow access to a majority rather than a small clique, and they must be free of corruption. As in the developed world, it takes time to create the necessary institutions.

Their goal has to be look like Denmark or the Netherlands rather than simply count the number of households with a television set.  And they need clean running water before broadband.

Their growth model depends on cheap labour but what happens if their costs increase and their factories go down the western route and use technology to dispense with people? There has to be a limit on how many peasants can move into low paid industrial work, even in China's command economy.

And even if they can, then enthusiasts for emerging markets have to assume the developed world will continue to export technology and import their manufactured goods without restraint. Because cheap goods satisfied the debt-fuelled desires of Western consumers during boom times, it was convenient to overlook the undervalued Chinese currency or large scale flouting of World Trade Organisation rules.

Illusory growth and unwanted phones

Beyond the emerging/developed market dichotomy, it may well be that growth is an illusion in a world where, at the most basic, food is in short supply.  Economic growth only appeared some 300 to 500 years ago in Europe – before that the world had been static. The no-change model applied for longer in what we now call the emerging world.

But if the non-stop growth model is to work, the following need to be solved:

Where will growth come from if our exploitation of natural resources has to stop?

How much longer will the developing world put up with corruption and gross inequality? The Arab spring, however flawed, could reproduce elsewhere.

Can the developed world continue to consume?  Items such as cars or televisions are better made and more reliable. Homes run out of space to keep unnecessary goods. And how much longer will now nervous Western consumers rush out to buy the latest mobile or tablet which increasingly offers even thinner marginal advantages over the last one? In a world of scarce resources and tough finance, buying a new phone each year makes little sense.

So, investors should not rely on the magic of emerging markets. It could turn out to be fool's gold.


More on Mindful Money:

China is trying to 'create the ultimate monopoly' in the rare earth market

Dubai: a leading global financial centre?

The problem with measuring economic well-being

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