Show me the growth!

Mr. Greenspan is no Tom Cruise. On the contrary, he is a well respected central banker, probably an all time best, and arguably none other from the central banking breed comes close to his achievements. His credibility is unassailable and unshakable. That is why every word he speaks is scrutinised and interpreted by umpteen economists and policy framers not just in the US but all over the world. That is the sort of impact he bears on all of us. He is the ultimate rainmaker with the hands on policy levers that purportedly can change lives for many of us, living both in the mature and emerging markets. The question is, has he got it wrong this time? After all, he is the same individual who spotted the nineties bubble early, and coined the phrase "irrational exuberance", while we mortals partied on. But he also failed to curb the exuberance, the consequences of which we are still suffering. The point is, the man is mortal and therefore fallible. American economy is not always how the Fed or Mr. Greenspan sees it.

US economy has chalked up an average growth of 1.5 per cent for the last three quarters. Not enough for a sustainable growth pattern. The Fed however expects the second half of 2003 to be stronger with 3 per cent plus growth to follow in 2004. All very well, and numbers can be seductive but underneath it all, it is the US consumers that has the key. This group collectively speaks for two third of the GDP growth of the country, and when they start spending, the largesse doesn't stop within the shore of US. It reverberates all over the world, more so with direct trading partners of the US. By and large US consuming public have been sluggish, but mildly resilient. Persistent low interest rate and mild deflationary environment has kept this lot going.

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When the bubble burst in 2000 and millions lost billions both directly in stocks and through their mutual and pension fund investments, no one thought then that the consumers will have the heart to start spending again. Mr. Greenspan quickly took mitigating measures, by successively dropping the interest rate and bringing to where it is now -- a historical low of one percent. Naturally the spenders continue to feel rich, refinancing of mortgages at successively lower rates, showers immediate wealth and ready for spending. But for how long! There are only few more notches to go on interest rate before it hits the number zero -- an incontrovertible mathematical rock bottom. And then, your guess is as good as anyone's. Suffice it to say the current resilience in spending is understandable but by no means this is likely to turn into a rampage or there about to create the growth above 4-5 per cent. Chances are people will start to feel less rich as the interest rate effect begins to wear off.

The corporate sector is the other important driver of the US economy. It is the corporate investments that generate the mega buck spending in capital equipment. This doesn't look to be happening. The bubble years created a huge excess capacity in both manufacturing and service. Over investment and over spending has been the main cause for this. We need growth for the economy-wide over capacity to get filled and once they are, filled that is, only then we will see the investments coming through. Corporations now are more in the mode of slashing cost by reducing employment and re-focusing on core competence. Deflation may be a dirty word, but one can't deny that it has raised its ugly head in both western and emerging economies and corporates fear this bogey more than inflation. It snatches away pricing power. It is heartening to see some of the second quarter results of US corporates just published, beating analyst expectations. But take a closer look, it is mainly due to cost cutting. We are yet to see a growth-led revenue generation and earnings rise. We may have to wait for a while yet.

Rest of the world is in no better shape. The Euro Zone has bigger problem to face up to. Germany, its largest economy, had zero growth. Others are just about chugging along. UK, though technically outside the Euro ambit is probably the only economy that has some buoyancy but not enough to create any impact in the European economies, let alone rest of the world. That leaves the East, never a driver of global growth but an important lag-indicator of growth in western economies. Here one can see few glimmers of light at the end of the tunnel. Two great growth stories are China and India. The former is sustaining a 7 per cent plus growth and the latter in the region of 5-6 per cent. None of the growth rates are sufficient to alleviate poverty but the trend is promising. They have both established themselves as the manufacturing and service backyard of the western economies. More importantly and interestingly, the intra trade between Asian economies are beginning to grow. China's trade with the Asia region for intermediate and capital good is growing. Japan, Singapore, Thailand, Korea are a good beneficiary of this. Wonderful news, Asia can reduce its dependency on the West. Notwithstanding China and India, economic activity remains subdued in rest of Asia.

If we are to believe stock markets is a lead indicator of future growth then the spectacular performance of global stock markets since the end of the Iraq war should make us happy. Or should it? It is odd that in the world's largest economy where growth is tentative, historically high trade deficit, budget deficit growing bigger by the day, are weakening currency but the share prices keep rising. There must be another reason for it. Investors are not blind but they may be faced with no option. Since the collapse of the share markets in 2000, there have been little fresh investments. Money has been sitting on the sideline while the markets kept falling. In March 2003, it reached a bottom. The alternative was to put in banks or bonds but the yield was unattractive. The Coalition's victory reduced the risk premium in the equity market and investors piled in, elevating major stock markets in western economies from anything between 20-50 per cent from its bottom. Should we rejoice? Not so fast. Equity valuation looks high, in fact it never really adjusted sufficiently from the stratospheric levels of 2000 to understandable levels (some exceptions) of fundamental economics. It has gone back up again defying gravity, ignoring fundamentals. Accommodative monetary and fiscal policies creating excess liquidity is the cause and, sadly, not sustainable growth. Like Tom Cruise in Jerry Maguire, Mr. Greenspan is unlikely to deliver the goodies in the near future.

Ghalib Chaudhuri, a former investment banker, manages an independent consulting practice.