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Martin Wolf joins Lateline -

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Martin Wolf joins Lateline

Broadcast: 13/11/2008

Reporter: Tony Jones

Chief economics commentator for the Financial Times, Martin Wolf joins Lateline to discuss the dire
global financial situation.


TONY JONES, PRESENTER: And just a short time ago I spoke to the Financial Times' chief economics
commentator Martin Wolf.

He was in the Financial Times studio in London.

Martin Wolf thanks for being there.


TONY JONES: Now, the news is grimmer in the Euro-zone. Let's start Europe's biggest economy,
Germany, where the contraction appears to be happening much faster than anyone predicted.

How deep is their recession likely to be?

MARTIN WOLF: Well, all the news we're getting from everywhere is that it's always worse than people
expected a few weeks ago.

It's worth remembering that only a few months ago nobody really expected there to be a recession
anywhere, let alone in the Euro-zone.

One of the most striking developments is the really extraordinary downgrading of the its growth
forecast from the International Monetary Fund just a week or so ago.

In one month, essentially, they were downgrading the performance of the developed world as a whole
by nearly a percentage point next year. And this affects everybody.

It's clear that Germany... it's an export dependent economy, indeed, it's the world's largest
export country. Every one of its markets, without exception, is deteriorating.

We can now even see that China, a very important market, is deteriorating. Of course, the other
Euro-zone countries are deteriorating, particularly Spain; very important, Spain has been a huge
market for Germany in recent years.

There's the UK, of course, going into recession; probably the deepest in the G7, and the US. So,
obviously, Germany is significantly affected.

Domestic demand is chronically weak for years and the Government, until very recently, has been
tightening fiscal policy.

So, I'm not in the least surprised that Germany is moving into recession. And, of course, in
addition the European Central Bank has been slow to ease.

TONY JONES: Indeed, that latest IMF forecast you are referring to, predicted a full year of
recession for the Euro-zone. Is that starting to look it's going to happen?

MARTIN WOLF: Yeah, I think it's certain. I mean, nothing in economics is certain, but increasingly
I am looking now at a recession across the developed world, which is going to mean a massive
slowdown for the emerging countries, which will certainly last through 2009.

And I must say I'm very doubtful about the view that there'll be a vigorous recovery in 2010. The
recession could last that long.

The question you have to ask yourself is what are the engines of demand to pull the world out of

Historically the final engine of demand for the last 10-15 years has been the US consumer; and to a
lesser extent the consumer in the United Kingdom, Australia, Spain, places like that.

And they're all absolutely demolished. So, where is the demand going to come from that will really
pull the world out of this tailspin?

TONY JONES: There's optimism about the Chinese huge stimulus package ahead of the G20 meeting.

They're trying to convince the United States to follow suit. In fact, they would like the United
States to stimulate their economy to the tune of a trillion dollars. Is that likely to happen and
could it be the engine?

MARTIN WOLF: Well, first of all, on the Chinese package, I haven't been able to look through the
details, but people I respect say there's quite a lot of double and triple counting, i.e. counting
of things that have been done.

In other words, there's much less to the package than meets the eye. It's often extremely difficult
for outsiders to understand, fully, the implications of Chinese announcements of this kind.

But, I must say, personally I'm very sceptical that we're going to see a boost of anything like
that scale in the Chinese economy.

Now, if we turn to the US. There already, of course, been stimulus packages and the fiscal position
is deteriorating as a result.

I do expect another big fiscal package in the US; Indeed, I see no alternative to it. And it could
be many hundreds of billions of dollars.

Personally I would think that a package of $500 billion or more would be perfectly justified in
this circumstance, because essentially the world we're in is trying to look for the highest rated
Government paper; that's what they want to hold.

And the US does issue the highest rate in Government paper, except Japan, and so it seems logical
to supply it; and the way to supply it is run a huge deficit. And that, I think, is what it's going
to do.

But, of course, this is a palliative. As a long run solution, fiscal stimulus is inadequate. We
have to have a restored and have a healthy private sector, which means a restored and healthy
financial system and restored and healthy household balance sheets; and this is going to take quite
a while.

TONY JONES: Indeed. And world markets still looking for signals even today from the United States;
they got a negative signal as far as they were concerned.

Hank Paulson's abandoned elements of his bailout plan, particularly those that were going to back
failed mortgage backed assets.

I've got to ask, why did that decision, in particular, hit the global markets so hard because what
he's actually doing does seem quite sensible?

MARTIN WOLF: I think there are probably two elements here, though it's very difficult to interpret

One is, probably, people did hope to get rid of absolute load of rubbish on to the taxpayer at
hugely inflated prices.

And that must have held up the share prices, particularly of some financial institutions, however
they would otherwise be. And if the Government isn't going to do that then they're left with this.

The other problem, which I think is a deeper one, is that Mr Paulson has by now unfortunately got a
very deserved reputation for confusion, for muddle, for not apparently being in command of events.

Not apparently being clear in his own mind what he's trying to do. So, it's a series of desperate
improvisations. This TARP, as it's called, what is it - troubled asset relief program - I can't
remember the exact wording.

TONY JONES: Yes, that's correct.

MARTIN WOLF: This TARP, when it was originally put out was completely incoherent, and indeed, the
original idea was to buy the toxic assets; that's now gone.

So, people can reasonably say "does the US Government actually know what it's trying to do?"

And that's very bad for confidence because, of course, it's an American led crisis and the American
Treasury secretary is the most important player.

TONY JONES: Well, indeed, I suppose it reminded people of when Paulson went before Congress asking
for $700 billion with a three page document and had to be sent away to come with more documents.

Now, he's changed it again. So, I can see what you mean.


TONY JONES: He's actually setting up a new $50 billion to stimulate student loans, car loans, and
actually, of all things, new credit card financing.

This is a strange way to stimulate the economy through further credit debt in a country, I think,
that's holding $10 trillion of household debt already?

MARTIN WOLF: Yes, I'm afraid many of us are probably going to end up trying to encourage people to
do more of the silly things they already did.

I have to say that this doesn't seem very sensible to me. A clean way of approaching this is they
need a big fiscal boost.

I think predominantly through targeted tax cuts; tax cuts, in fact, targeted on poor people and
providing money to poor people because they will spend it. So, that's the stimulus part, and that
has to be a very large part of the package.

And the other part is, essentially, the recapitalisation of the financial system, which is begun,
but I suspect strongly what he's done is not big enough.

Now, if they recapitalise the financial system on a big enough scale then it is possible for these
institutions to write off all their bad loans, or certainly to complete the write downs.

Then their balance sheets look relatively clean, you can have confidence in them again, and
intermediation should restart.

But I have to agree with you that the prospects of getting the American economy going again on the
basis of enormous increases in debt among the households already are very highly indebted, seems
quite hopeless; that's not the way they are going to do it.

TONY JONES: OK, let's go back to where we started, to the Euro-zone. And give us some idea of what
kind of job losses one might expect across the EU?

MARTIN WOLF: That is a very big question. I'm certainly not expert enough to judge. I expect
unemployment rates across the EU to rise by many percentage points; certainly to well above 10 per

But this is going to be paralleled everywhere. If we going to get a full recession then
unemployment rates will clearly go back to... or they could go back to levels we haven't seen for
10-15 years.

And it could be higher than that. Nobody really knows because it does depend on how rapidly
companies lay workers off and that's still relatively difficult in many European countries.

So there could be a lot of concealed unemployment, and under-employment as well as the open

But all the success, there was substantial success in generating employment and lowering
unemployment in the Euro-zone, particularly in recent years, is clearly going to be lost.

TONY JONES: Yes, it's going to put a lot of stresses on the free movement of European workers,
because that's already a problem in Britain.

MARTIN WOLF: Well, yes. I mean, in a way it's actually a solution for Britain. There are, as you
have noted, an enormous number of immigrants into this country.

As unemployment rises, they're going to find they are... their jobs are going to disappear, the
incomes going to disappear and they're going to go back home.

So, one actual big advantage of the mobility we have enjoyed is that the number of people in
employment can fall rapidly without actually increasing either visible unemployment here or the
benefit rolls more broadly defined.

Of course, it means we are exporting the problem; so it's somebody else's problem. But actually
having a mobile labour force, in which people come into your country when there's lots of
employment, and disappear when that employment goes, and that seems quite likely, at least with our
European Union work force, is actually quite a big help.

TONY JONES: OK, final question, because the Governor of the Bank of England, Mervyn King, who now
talks about this being the biggest banking crisis since World War I, which can't inspire too much
confidence, is also now talking about deflation in Britain.

If that happens, what is the effect on the economy there?

MARTIN WOLF: It's very important, I think, to distinguish falling prices from deflation.

I know it seems sort of contentious, but we are going to have, I think, falling prices quite
plausibly, simply because after a period when commodity prices were rising very, very rapidly,
we're now moving into a period when commodity prices are falling very rapidly.

So, headline inflation is going to fall below so-called core inflation, and is quite possible,
though sterling's collapse makes it a little less likely, that as a result we will actually see
falling price levels.

Now, as long as people don't expect those falling price levels to turn into a continuous trend of
falling prices, true deflation, over many, many, years, I don't think that's so significant.

The crucial thing is that the long run expectation of inflation remains about two per cent or so,
which is not a deflationary rate, in which case real interest rates can still be negative, if they
need to be to expand the economy. That's quite plausible.

So, I'm not that worried about having a period of a year or two... might even be helpful given
we've had a huge upsurge in inflation, of having a period of a year or two in which prices are

The crucial thing, as I stressed, is that there should not be an expectation of deflation. And
given the extraordinary weakness of sterling, or the considerable weakness of sterling, I actually
think that's probably not a huge danger, at least... unless things go incredibly badly wrong in the

TONY JONES: OK, Martin Wolf, we'll leave you there. We thank you very much for taking the time to
come and talk to us tonight.

MARTIN WOLF: It's a pleasure.