Blog Will a Rising Tide Lift All Boats?

Will a Rising Tide Lift All Boats?
It’s not often that you hear an eminent economist and former central bank governor warn of the dangers of swimming naked, but that was one of the more surprising insights Raghuram Rajan gave in his opening remarks on Day 1 of the 2018 Credit Suisse Asian Investment Conference.

To be fair, the Professor of Finance at the Booth School of Business, University of Chicago and former Governor of the Reserve Bank of India, was talking in the context of the US Federal Reserve providing less support to markets:

When the tide goes out, will we find out who’s been swimming naked?

And the metaphor was fitting given the title of the Keynote Economics Panel was ‘Will a rising tide lift all boats?

According to Rajan, investors should definitely not expect the Fed to ride to the rescue of markets as it has done over the past 10 years.

“The Fed is on its way to normalize and people should not underestimate the Fed’s resolve to do this.”

This should be heeded by any investors that still think the Fed may be rethinking its stance in the wake of sliding global stocks. Rate rises are coming – the first one this week – and Credit Suisse’s base case is that there will be four rate hikes this year.

But while the Fed is trying to normalize, it is far from business as usual.

Just take the US decision to impose tariffs on steel and aluminium imports. That, combined with news that President Donald Trump is planning a new raft of measures including tariffs targeting Chinese technology and telecoms, and imposing investment restrictions on Chinese companies1, has understandably led to questions about the West’s traditional role as the cheerleader for globalization.

In contrast, countries in Asia and other developing markets are taking up the baton for free trade at the same time that these markets have become the biggest drivers of global economic growth.

Baoliang Zhu, Chief Economist and Director of Economic Forecasting at China’s State Information Center, was certainly keen to show off China’s free trade credentials.

After delivering a robust argument for the World Trade Organization playing a greater role in China-US trade negotiations, and pointing out that China is taking steps to open its borders and remove unfair subsidies, Zhu argued that US tariffs would be highly damaging to the American economy.

“If the US takes action to impose more tariffs it will impact US GDP growth by 20% and reduce US exports by USD 60 billion,” he said.

But of course, if the US economy suffers, so does China’s and the rest of the region, so it’s perhaps no surprise that Zhu is keen for the WTO to get involved.

If the likelihood is that China and the US get bogged down in a tit-for-tat trade war, investors may well think they could find salvation in India. The country has put the temporary slowdown in growth due to demonetization and the introduction of a goods and services tax behind it, and according to Rajan, GDP growth can reach 7% to 8% without the government doing anything extraordinary. Unfortunately, Rajan also claimed that the country needed 10% growth to meet the needs of a labour force that adds 12 million new people every year.

And with the Indian government unlikely to have the political capital to spend before the next election on making the necessary reforms to areas such as land acquisition required to reach double-digit GDP growth, investors will have to wait until there is progress in this area.

Investors will need to keep their wits about them as disruption continues in economics, just make sure you’re not caught swimming naked.

1. Reuters, 14 March 2018, Trump eyes tariffs on up to $60 billion Chinese goods; tech, telecoms, apparel targeted, https://www.reuters.com/article/us-usa-trump-china/trump-eyes-tariffs-on-up-to-60-billion-chinese-goods-tech-telecoms-apparel-targeted-idUSKCN1GP2X8