Nobel Laureate Michael Spence Says US Recession Fear Is ‘Easing, But I Don’t Think It’s Over’
In an interview on August 17, Michael Spence, Nobel Laureate and both Professor and Dean Emeritus of the Stanford Graduate School of Business, discussed the outlook for the US, Chinese and European economies and the consequences of China’s slowdown for the world.
Spence, who is a senior adviser to General Atlantic LLC and chairman of the company’s Global Growth Institute, also offered his thoughts on the biggest risks facing the global economy.
Here is a partial transcript of highlights from the interview, slightly edited for brevity:
Q: Has inflation peaked?
A: Overall, I think inflation has peaked, but it may not stabilize at an acceptable level anytime soon. There are different degrees of transient if I can put it that way. A spike in a whole variety of commodities will likely flatten out as the system adjusts.
But we have very important changes in the labor markets and in the configuration of the world economy. We have been through more than two or three decades of bringing more production capacity online in developing countries. And every time the demand increased, the supply responded. There is no longer that degree of elasticity on the supply side, which means that going from a demand-constrained world to a supply-constrained world is almost a regime change in the economy. world.
Q: Is the fear of recession over?
A: I think the fear of recession is fading, but I don’t think it’s over. There are still people who worry that inflation will be persistent enough to force the Fed to really get tough. There is always a not inconsiderable possibility that we will have a recession or a dramatic slowdown.
The Federal Reserve has a responsibility to bring inflation down. It will therefore maintain the pressure, but the extent of interest rate hikes may vary.
They take their inflation mandate seriously. They’re probably worried that their indifference to inflation when it first started showing up hurt their credibility, so they don’t want to do it again. On the other hand, they have a dual mandate and they absolutely do not want to crash the economy.
Q: Investor sentiment has clearly changed and markets are recovering. What are some of the biggest risks you see?
A: Financial markets are much more sensitive to interest rates, forecasts and forecasts. And we are in a world where asset prices have been dramatically high during a long period of very low interest rates.
The rebound we are seeing in financial markets stems from the fear of a very rapid and dramatic change in interest rates, which would alter discount rates. And when there is evidence that the extreme scenario may not play out, then you get a pretty big reaction from the financial markets.
We are in a world where asset prices are going to reset, not only in public markets, but also in private markets, where valuations have fallen dramatically. There’s probably a whole collection of old unicorns that aren’t unicorns anymore.
I don’t expect these things to crash, but a bearish asset price reset seems pretty inevitable.
Q: The US labor market remains strong. What are the main changes you expect?
A: There have been changes in the behavior of the labor market. Some people who were willing to take various low-paying or relatively precarious jobs simply do not return to those jobs. Many people retire because they have the assets they feel are sufficient to do so. And then there’s a whole generation of people, especially the younger ones, who think that lifestyle is pretty important and that there are certain types of jobs that they’re not ready to do.
Another part is that the work is gaining power compared to the past and the pressure from employers is decreasing. Partly because of geopolitical tensions and also because of the congestion of global supply chains. There is a real shift on the supply side in terms of who is willing to do what kind of work and for what kind of pay.
So labor becomes more powerful, and I feel like these aren’t temporary changes – there’s no longer an endless supply of low-cost labor. There is the beginning of a fairly substantial regime change in the way the global economy is built. And that would certainly affect labor markets.
Q: What are the biggest risks to the US economy?
A: The biggest risk remains the expansion of geopolitical conflicts. Anything wrong in Taiwan would be a disaster. It comes with a growing set of climate-related risks. If I had to choose one more, it could be a complete loss of functionality in government. We’ve had a pretty good run recently, thanks to some leadership and politics: the infrastructure bill, the semiconductor bill and the science bill – what’s encouraging is that they will all involve investments essential to long-term economic performance, including growth and productivity.
Q: How long will China’s slowdown last and how can it be handled?
A: The Chinese slowdown seems to be real. This not only affects global supply chains, but also domestic demand. Imbalances in the real estate sector are large enough to generate significant risks. I think they can manage that, but managing it will slow the economy down further.
And then you add to that the geopolitical tensions and the disruption of trade flows that started on the American side with the Trump administration.
China is still doing a lot of good things – it continues to invest heavily in things that have the potential to produce a modern economy. The medium to long term outlook in China is quite good, but in the short term there are some pretty strong headwinds.
Q: What are some of the most important implications for the rest of the world?
A: When China slows down, global growth is directly affected.
It affects business partners and investments. And now we’re going through the delisting of Chinese companies and we could get a pretty substantial separation of the Chinese and Western financial systems.
It’s not good in the short term — it makes people nervous and inhibits investment. But in the longer term, it is also a bad result.
Q: When will the Chinese economy start to recover?
A: I expect it to bounce back in the next two to three years, barring any bad luck. We are entering an era where technology and digital are going to be regulated. China is following a similar path, but has entered into regulation extremely aggressively. As a result, I think it has diminished some of the dynamism and animal spirit of the economy in a way that could have been avoided with a slightly more thoughtful and incremental approach to regulating tech sectors.
I think once the party congress is over and the president is in place with a third term, there’s a reasonable chance you’ll get a rebalancing of the political agenda in the direction of a focus on progress performance Economic and Social. As he got lost in the whirlwind of geopolitical tensions and the pandemic.
Q: What are your main concerns for the European economy?
A: Right now it’s energy and Ukraine. The big shocks should arrive this winter. If we run out of gas and start telling businesses to stop operating two days a week, there is serious potential for the economy to slow down or even cause a crisis. The depreciation of the euro tends to produce additional inflationary pressures.
The UK seems to be in a very difficult situation now. With very high inflation rates, many people are suffering.
The chances of a recession in Europe are clearly still quite high, if not already in place. It will be a tough time until they make the energy transition.
Q: What are the most significant changes in the global economy that concern you?
A: A very large part of the world is what you would call non-aligned. They don’t want to choose sides, whether it’s Russia or China, and they’ve made it clear that they don’t approve of the sanctions. There’s a pretty big chunk of the world that doesn’t want to play the game that’s being played right now.
Whether or not this has a significant economic effect is another question. But we’ve lost a lot of the foundations of the global economy and we’re really not starting to build a new architecture. And that’s pretty important to quite a few people on the planet, especially across a wide range of developing and emerging economies.