Growing, Growing ...Gone?

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And none of the group, not even Tyson or Sachs, is completely ruling out a serious rupture. A devastating terrorist attack, the bursting of the bubblelike housing price increases in some parts of the U.S. and Europe, a change of policy by central banks in Asia to limit their dollar purchases — any of these could unnerve financial markets and trigger a bigger worldwide reaction, they agreed. Sachs said it would just take two or three such events to come together, "and things get a lot worse. That's not a high probability, but it can't be written off."

EASING UP ON CHINA
If there's a big question mark over the U.S., the panel's predictions for Europe and Asia are less fraught than they were a year ago. China continues to grow fast: last year its economy expanded by a breathtaking 9.5%, about the same as the last several years. The country is still sucking in huge amounts of energy and natural resources to fuel its manufacturing boom. That in turn is a significant factor in the rising prices for oil, steel and some other commodities, which is good news for producers, but — especially in the case of oil — is raising fears of a worldwide resurgence of inflation. China also has a fragile banking system that is lumbered with bad loans and a weak capital base. Thus far, fears of a "hard landing" appear to have been overblown. And the government has taken measures to curb some of the wilder excesses, including tightening conditions on some bank loans and raising interest rates to stave off inflation. But the Chinese government clearly has its limits. There was broad agreement among the panel that Chinese authorities have little interest in unlinking their currency from the dollar, despite consistent pressure to do so from the U.S. "The sanguine view is that it is not in the interest of the Asians to break the dollar link," said Tyson.

That resistance has important consequences. The Chinese yuan's exchange rate against the dollar — fixed at 8.28 yuan to the dollar since 1994 — is widely seen as undervalued, which enables Chinese manufacturers to sell their products to American consumers at highly competitive prices, fueling the U.S. trade deficit. But overall, the growth of China as a market is still seen as beneficial for the Asian economy, which needs all the help it can get following December's devastating tsunami. Thanks in part to the Chinese boom, Japan, which was stagnant for much of the 1990s, is growing again. China last year overtook the U.S. to become Japan's biggest trading partner. China accounted for 20.1% of Japan's total trade, compared with 18.6% for the U.S. The panelists expect Asian cross-fertilization to continue; indeed, Sachs said that the closer integration of Asian economies will help them to keep at bay future external shocks such as the 1997 currency crises in Thailand, Indonesia and elsewhere. "Asian integration will be a powerful force to avoid swings," he said.

The outlook appears relatively good for Europe, too, despite the huge revaluation of the euro against the dollar, which Tyson, among others, last year warned would hamper economic growth. The Europeans have so far managed to keep their economic recovery on track — slow, perhaps, but definitely better than a recession.

How did that happen? The euro's rise, in theory, made European exports far less competitive. But so far that effect seems to have been mitigated by the overall increase in worldwide demand for goods. Exports from Germany, Europe's biggest economy, soared by 10% last year to a record €731 billion, and its trade surplus increased by 20% to €155.6 billion, according to the Federal Statistical Office. Blanqué — who last year asked the world to "be patient with Europe" as it put its economic house in order — now says he sees signs that the Continent has finally "caught the train." He describes Germany's export performance as "remarkable," and says he expects the 12 European nations that have adopted the euro to experience growth of about 1.7% this year, about the same as in 2004, with the pace picking up in the second half of the year.

That level of growth is still relatively weak by U.S. or Asian standards. And it seems to have little effect on stubborn unemployment in Germany and other parts of the euro zone, where the jobless rate is currently just below 9%, unchanged from a year ago. But some of the panelists were heartened by what they see as genuine efforts by governments across the Continent to tackle some persistent problems, including a lack of labor mobility and unsustainable health-care and pension systems. In Germany, Chancellor Gerhard Schröder has introduced a slew of new measures designed to create jobs, including unpopular cutbacks in unemployment benefits. And in France, the government of Jean-Pierre Raffarin has triggered protests by proposing to allow employees to work more than 35 hours a week, and has begun revamping the system of state-funded medical benefits. "One of the big issues is that we are no longer in the analysis, or paralysis-through-analysis, phase where politicians and others keep arguing about what the problems are. We are moving into the implementation phase," said Achleitner.

There are still some big risks for Europe. Blanqué said continuing employment growth is essential if the economy is to grow, coupled with a decline in oil prices and a more stable dollar. He worries that companies in Europe remain cautious about investing, and are instead focused on reducing debt. "There's this great American saying that nobody has ever shrunk their way to greatness," quipped Achleitner, in agreement. But he said he's seeing a new mood among European companies. "People are starting to think they are coming to the end of their shrinking exercises and need to put on the growth hat."

Given the continuing high cost of labor in Europe and the strong euro, some of that growth is likely to come from overseas. Naím speculates that European firms will increasingly acquire companies in places where it's less onerous to do business, such as the U.S., and move their base there. And he worries that if the euro continues to strengthen, European protectionism could grow. "A euro of $1.40 or more for a couple of years is going to generate as much pressure on governments for protectionism as it is going to generate pressures toward deregulation," he said.

But such concerns pale in comparison with fears about what could go wrong if nothing is done about the U.S. fiscal and current account deficits. "The war is being paid for by borrowing. The increase in drug benefits is being paid for by borrowing. Nobody's been asked to do anything," Sachs worries. That, he and his Board of Economist colleagues agree, will have to change. But if America faces some belt tightening in the years to come, does it necessarily follow that the rest of the world will feel the pinch? "Providing this doesn't end in a very painful balance-of-payments crisis for the U.S." — meaning that the world suddenly stops financing its deficits and Washington has to take radical action to prevent an economic collapse — "I think the rest of the world can absorb it," said Tyson. The rest of the world is hoping that she's right.

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