Emerging economies face long, hard recovery from high of easy money
Stephen Roach says nations are guilty of living beyond their means
The global economy could be in the early stages of another crisis. Once again, the US Federal Reserve is in the eye of the storm.
As the Fed attempts to exit from so-called quantitative easing - its unprecedented policy of massive purchases of long-term assets - many high-flying emerging economies suddenly find themselves in a vice. Currency and stock markets in India and Indonesia are plunging, with collateral damage evident in Brazil, South Africa and Turkey.
The Fed insists it is blameless. It is steeped in denial: were it not for the interest-rate suppression that quantitative easing has imposed on developed countries since 2009, the search for yield would not have flooded emerging economies with short-term "hot" money.
But the Fed is hardly alone in embracing unconventional monetary easing. Moreover, the aforementioned developing economies all have one thing in common: a large current-account deficit.
This is a classic symptom of a pre-crisis economy living beyond its means - in effect, investing more than it is saving. The only way to sustain economic growth in the face of such an imbalance is to borrow surplus savings from abroad.
Imbalances are not sustainable, regardless of how hard central banks try to duck the consequences
That is where quantitative easing came into play. It provided a surplus of yield-seeking capital from investors in developed countries, thereby allowing emerging economies to remain on high-growth trajectories. These inflows lulled emerging-market countries into believing that their imbalances were sustainable.
This is an endemic feature of the modern global economy. Rather than owning up to the economic slowdown that current-account deficits signal - accepting a little less growth today for more sustainable growth in the future - policymakers opt for risky growth gambits.
That has been the case in developing Asia, but it has been equally true of the developed world.
The quantitative easing exit strategy, if the Fed ever summons the courage to pull it off, would do little more than redirect surplus liquidity from higher-yielding developing markets back to home markets. Financial markets are already responding to expectations of reduced money creation and eventual increases in interest rates in the developed world.
Never mind the Fed's promises that any such moves will be glacial. Markets have an uncanny knack for discounting glacial events in a short period of time. Those economies with current-account deficits are feeling the heat first. Suddenly, their saving-investment imbalances are harder to fund in a post-quantitative-easing regime, an outcome that has taken a wrenching toll on currencies in India, Indonesia, Brazil and Turkey.
As a result, these countries have been left ensnared in policy traps: orthodox defence strategies for plunging currencies usually entail higher interest rates - an unpalatable option for emerging economies.
Where this stops, nobody knows. But with more than a dozen major crises hitting the world economy since the 1980s, there is no mistaking the message: imbalances are not sustainable, regardless of how hard central banks try to duck the consequences.
Developing economies are now feeling the full force of the Fed's moment of reckoning. They are guilty of failing to face up to their own rebalancing during the heady days of the quantitative-easing sugar high. And the Fed is just as guilty for orchestrating this failed policy experiment in the first place.
