Small stimulus, big momentum

The 2008 economic crisis taught the world a valuable lesson: That macroeconomics and financial markets are intertwined, and industry professionals from each side should never have undermined the importance of the other.

“We, macroeconomists, could not believe how much risk was hidden in financial markets,” said Professor Antonio Fatas, who teaches at INSEAD’s Master in Finance programme, of the event that led to the collapse of Lehman Brothers.

Prof Fatas, who has more than 20 years of experience in economics, including stints as an external consultant for organisations such as the International Monetary Fund (IMF) and World Bank, believes that a good understanding of both macroeconomics and finance will allow policymakers to navigate volatile environments better.

Was the failure in understanding the link between the finance sector and the larger economy in the lead-up to the 2008 crisis a big mistake? Have things changed since then?

I’ll admit that we’re guilty of thinking that these were two separate elements and because of the size of the crisis, that was a serious mistake.

Since then, I’ve been spending more time reading about financial markets, educating myself in an area that is not my field per se, but is one that matters a lot. For governments and central banks, a lot more time is spent on supervising financial markets, running stress tests of banking systems and coming up with new regulations to try to limit the risk that can build up in financial institutions.

So a lot has happened, but I think it’s still early to assess whether what we’ve done is enough to take care of any future crisis.

You previously raised an interesting point that rising debt level may not be a bad thing because asset value may be rising at a faster rate, which means net wealth is increasing. To what extent, then, should we be worried about the overhang of public and private debt in the world today?

At many times, when we’re presented with debt values, we always see these numbers going up and looking scarier. That’s not the correct way of looking at the financial health of a country or corporation or individual, because we should consider both assets and liabilities. Say you borrow to buy a house — one day when you’re in trouble, you can sell the house, so the liability is not going to look that bad.

When you take that look of the world, of advanced economies, the situation looks much better. That doesn’t mean there’s no problem, but what needs to be corrected is smaller than what the debt numbers tell us. That’s where I’m more optimistic than others, because I tend to have a bigger view of the situation than just looking at debt numbers that keep going up.

You have questioned the argument that austerity has helped countries such as the United Kingdom, Spain and Greece overcome economic challenges. Do you then agree that a fresh round of global stimulus — as the likes of Mr Ashoka Mody, the former IMF chief of mission to Ireland, advocates — is what the world needs to see continued recovery?

The evidence is overwhelming that countries that have pushed very hard for austerity are in a worse position. And looking at the United States, it has grown with stimulus — unemployment rate is lower, government balance sheet is doing better. Why? Because the economy is growing, it generates revenue.

So, at the world level, it would be good to have a coordinated effort by pushing with stimulus because we cannot force one country to do all the work. A small stimulus everywhere can create a big momentum and, if that happens, I can imagine the growth of the world will take off every fast in the coming years.

How do you gauge the risk of financial- and property-market bubbles to the global economy? What do you think should be the key instruments to tackle these?

Bubbles are big issues. There are two ways to deal with it: One, educate people who work in financial markets about the consequences on banks and society as a whole; second, if we cannot educate them enough, we need to regulate lending.

Some argue for the use of interest rates to deal with bubbles, but I disagree. The idea is that if one expects property value to appreciate by 10 per cent, it doesn’t discourage people that much if the central banks raise rates from 2 to 4 per cent, because people can still make some profit. The central banks would have to adjust so much that I think it’s not feasible.

The interest rate debate: Should countries be keeping rates low to encourage spending to maintain economic recovery and growth, or let rates rise to bring eventual stability to the financial sector?

My reading is that interest rates are mostly low today because there’s a world condition where everyone wants to save and no one wants to spend. So I don’t point a finger at the central banks when I see a low interest rate, I see a situation which is not ideal, a symptom of the world economy not doing well.

What I see going forward is, I hope, a situation of world economic growth again, when interest rates in the US, Singapore and everywhere else start climbing up. Then, I’ll be very happy because that’s a reflection of an economy that is very healthy.

Today, there’s a lot of noise in the financial markets about rising interest rates and I think it goes back to what we discussed earlier that not everyone understands the connection between macroeconomic conditions and financial markets.

The best parallel situation is back in 1992-1993, when interest rates started going up, especially in the US, and at the beginning financial markets were thinking it was bad news but the stock market did great. Why? Because the economy was growing. So, people need to understand that interest rates go up because something great is happening.

ABOUT THE AUTHOR:

Lee Yen Nee is a reporter at TODAY.