Closing the Books: An Overview of Davos 2016

By Juan Pablo Poch

In the 2015 version of the World Economic Forum, businessman Laurence Fink expressed his concern that leaders and experts arrived at the meeting with a lot of pessimism from the previous year. The overarching topics included the instability of commodity prices – especially oil –, the power struggle over the Crimea, the consolidation of ISIS as the main international terrorist threat and the expectations for the Eurozone recovery. Some of these issues, such as the European recovery, seem to be rather old news, while several others have persisted and still haunt the world’s heads of state and top business executives. Hence, the global economic outlook depicted in this year’s event is one of caution for the recent and even current political and economic issues, yet some leaders anticipate fruitful recovery efforts and future optimism.

A Work in Progress

Even though refugees from various conflict areas have immigrated to European soil in an unprecedented way, this has not offset the efforts of the member nations to get their economy back on track. According to the IMF, the Eurozone is expected to grow by 1.5%, which displays a slightly low but still natural growth for the advanced economies (1.98%).1 Moreover, it shows that the salvaging of debt-infested countries, such a Greece, is becoming a secondary issue.

1 International Monetary Fund, World Economic Outlook Database, October 2015. <http://www.imf.org/external/pubs/ft/weo/2015/02/weodata/weorept.aspx?pr.x=70&pr.y=7&sy=2013&ey=2020&scsm=1&ssd=1&sort=country&ds=.&br=1&c=001%2C110%2C163%2C119&s=NGDP_RPCH&grp=1&a=1>

From left to right, economics journalist Martin Wolf, IMF Director Christine Lagarde, British Chancellor of the Exchequer George Osborne, Indian Minister of Finance Arun Jaitley, Governor of the Bank of Japan Haruhiko Kuroda and CEO of Credit Suisse Tidjane Thiam. (Photo: WEF)

On the refugee crisis, there has been a lot of criticism by internal political forces within the EU’s leading countries, mainly Germany, as they expect overwhelming welfare costs and even exposing the security of their homeland. German Chancellor Angela Merkel has championed open immigration policy at the Bundesrat as well as in public, granting Germany’s full support for the Syrian and other refugees, and invites the rest of the EU to join her humanitarian crusade. Germany received one million refugees last year, and many claim that opening doors to another million this year may come at the price of the ongoing economic recovery. Nonetheless, the President of the European Central Bank Mario Draghi claims with convincing optimism that “refugees represent both a challenge and an opportunity.” Although he recognizes that the government expenditure will be immense, he acknowledges the opportunity to encourage growth and jump-start other sectors of the economy as well.

The slightly low growth rate in Europe can be rather associated to a “global downside risk,” which IMF Managing Director Christine Lagarde brought into discussion at Davos. The one that could compel to the Eurozone the most is “asynchronous monetary policy.” While several countries are looking to ease their monetary policy and combat the global economic slowdown, the Federal Reserve is aiming to raise the federal funds rate, even in a moment in which the US economic boom has regressed. At the end of 2015, the Fed finally increased the interest rate from 0.12% to 0.24%, and today it stands at 0.37%.2 On the other hand, throughout 2015 the US growth decreased from 2.87% to 2% by the end of the year, with the possibility of shrinking to 1.5%.3 According to the Chair of the Federal Reserve Janet Yellen, these measures are destined to control future inflation given that the wage rate increased by a 2.2% from last period and has been increasing at a fast pace since 2010.4 Thus, due to the domestic circumstances, the US might be moving in the opposite direction to the majority of world economies, and may inhibit other countries from reaching their desired growth expectations.

Running Out of Fuel

The state of the BRICS is another concerning issue, as the coalition that accrued for almost 25% of the global GDP is now undergoing an economic downturn. Although it is far from entering a crisis, its substantial reduction of demand for imports and foreign commodities has impacted its numbers and those of its trading partners. After posting a staggering economic growth of 14% in 2 Board of Governors of the Federal Reserve, Selected Interest Rates, January 28, 2016. <http://www.federalreserve.gov/releases/h15/current/> 3 US. Bureau of Economic Analysis, Real Gross Domestic Product, retrieved from FRED, Federal Reserve Bank of St. Louis, January 24, 2016. < https://research.stlouisfed.org/fred2/series/GDPC1>4 Lange, Jason, “Strong U.S. wage growth boosts chances of Fed rate hikes,” Business Insider, January 8, 2016. <http://www.businessinsider.com/r-strong-us-wage-growth-boosts-chances-of-fed-rate-hikes--2016-1>

Christine Lagarde, Managing Director of the International Monetary Fund, speaking at Davos. (Photo:EFE)

2007 and 10.6% in 2010 – following the great financial crisis –, China’s GDP for this period will increase only by 6.9%.5 According to Christine Lagarde, this reflects China’s “triple transition” of the economy: from investment to consumption, from import-dependent to domestically self-sufficient and from manufacture to service production. Thus, this particular domestic situation unchained a ripple effect that is taking a toll on the financial sector – due to decreased investment – and on the commodities market, given lower demand for imports. Nonetheless, China’s transition could not take place at a worse time in which the world risks the possibility of another worldwide recession.

The collapse of oil prices from 107 USD/barrel by July of 2014 to as low as 26 USD/barrel by January of this year (Figure 1) has wounded the Brazilian and Russian economies, of which oil comprises 11.2% and 58.6% of exports respectively.6 In the case of Brazil, the South American giant has suffered from reckless monetary and fiscal policy. The current administration has pushed the budget deficit to a worrying 6.95% of the GDP and incurred in a negligent public debt.7 Such government spending has drained the national savings and triggered inflation to historically high 10.67%, which culminated with the first time in more than a decade in which Brazil’s consumption spending – more reliable than that of the government – decreases. To pump up this declining sector of the economy, the state

loosened monetary policy and even subsidized cheap loans to consumers.8 The even higher inflation suffocated the domestic economy: people are still reluctant to consume, unemployment surged to 6.9% and negative growth was consistent throughout 2015. In the end, the preoccupying decline of oil prices has caught the Brazilian economy between the sword and the wall.

On the other side of the world, Russia’s economic distress is compounded by the geopolitical crisis in the Crimea and the corresponding sanctions imposed by the US. The freezing of Russian assets and the overall media uproar has driven all sorts of foreign investment out of the country and has depreciated its currency to a meager 76 rubles/USD.9 With oil barrels selling beyond the threshold of USD 100 and a persistent demand for Russian energy in Europe, the Eastern European power could cover up for the damages of its diplomatic strife with the US. Needless to say, the recent

5 The World Bank, China GDP Growth (2014). <http://data.worldbank.org/indicator/NY.GDP.MKTP.KD.ZG?display=graph>6 Trade Map, International Trade Centre. <http://legacy.intracen.org/marketanalysis/default.aspx> 7 Data Team, “Brazilian Waxing and Waning,” The Economist, December 1, 2015. <http://www.economist.com/blogs/graphicdetail/2015/12/economic-backgrounder>8 Ibid. 9 Bloomberg Business, USDRUB Exchange Rate. <http://www.bloomberg.com/quote/USDRUB:CUR>

Figure 1 In the past years, the market has been clogged with cheap OPEC oil, causing an astounding drop in crude prices, especially with today’s demand crisis. Sources: EIA, Thomson Reuters, The Economist.

turn of events has posed the exact opposite scenario, and Russia is now sinking with a growth of -3.8% by the end of 2015.10

Today, Russia is negotiating its political redemption with the US – and, hopefully its economic recovery – from a position of weakness. At the weekend in Davos, US Secretary of State John Kerry proclaimed in his speech that “with effort and with bona fide, [and] legitimate intent to solve the problem on both sides, it is possible in these next months to (...) get to a place where sanctions can be appropriately (...) removed.” This would involve a total ceasefire in eastern Ukraine, the prompt withdrawal of heavy weapons from the region and the full retreat of the Russian military in the longer term, as per the Minsk agreement.11 However, the sentiment from the other side of the bargaining table is rather pessimistic and discordant – not to mention that Russian President Vladimir Putin and Premier Dmitri Medvedev were absent from the forum for the third consecutive year. Not surprisingly, sources from the Kremlin claim “Russia has no common agenda with the West aimed at the development of bilateral economic ties.”12

New Hope: The Venture of Technology

Despite the volatile international condition, one of the most inspiring topics in the conference at Davos was the future political and economic impacts of technological development, referred to as the Fourth Industrial Revolution. This evolutionary process covers areas from telecommunications and connectivity to robotics, nanotechnology and artificial intelligence. For hundreds of years, humanity has resorted to curiosity and intuition to bring upon innovation, whether to improve that which already existed or to materialize that which had never been conceived. This cycle has perpetuated over and over again, and every time some revolution comes to an end a bigger one is set in motion. Yet, within an atmosphere of infinite change, the purpose for technology has always prevailed: to improve people’s quality of life.

Each past industrial revolution has changed society from the single individual to the entire world population. Following a historical recap of the previous’ revolutions fundamental impacts, Founder and Chairman of the World Economic Forum Klaus Schwab introduced the Fourth Industrial Revolution as the amalgamation of biological and physical technologies. Professor Schwab claimed

10 Trading Economics, “Russia GDP Annual Growth Rate.” <http://www.tradingeconomics.com/russia/gdp-growth-annual>11 Goenka, Himanshu, “Davos 2016: Russia Seeks Internal Reforms To Offset Sanctions And Fall In Oil Prices,” International Business Times, January 22, 2016. <http://www.ibtimes.com/davos-2016-russia-seeks-internal-reforms-offset-sanctions-fall-oil-prices-2275982>12 “Kremlin top brass bails on Davos,” Russian Times, January 20, 2016. <https://www.rt.com/business/329522-davos-kremlin-russia-delegation/>

Professor Klaus Schwab, founder and president of the World Economic Forum. (Photo: EPA)

that the development of Informational Technology has created “new products and services that increase the efficiency and pleasure of our personal lives.”13 Thus, the Third Industrial Revolution can be perceived as the beginning of mass consumption of and demand for products and services, a phenomenon that was catalyzed by the emergence of the Internet.

“In the future,” continued Schwab, “technological innovation will also lead to a supply-side miracle, with long-term gains in efficiency and productivity.” This brings to mind the fact that the global growth and stability in the long run depend not only on purely economic variables, but rather more on factors exogenous to the discipline. These can be categorized as investment in physical and human capital, for instance, scientific research and education. Such factors reconcile both efficient production and equitable distribution of the resources of the economy. Only with these will any individual be able to return more than he or she takes from the economy, while still preserving enough to improve his or her quality of life.

Nevertheless, the democratization of technology remains an unfulfilled task, because technology, which is unifying people from one side, is also broadening the gap between them and other groups. The complexity of technology is growing at a faster rate and to further frontiers than its outreach and accessibility to the general population. While some groups will yearn colossal profits on the incoming technological revolution, others will suffer the consequences of such reallocation of income. Thus, thinking in a future full of uncertainty, Professor Schwab claims that “there has never been a time of greater promise or greater peril.” This is the judgement call that will decide the future of humanity.

13 Schwab, Klaus, “The Fourth Industrial Revolution,” Foreign Affairs, December 12, 2015. <https://www.foreignaffairs.com/articles/2015-12-12/fourth-industrial-revolution>