Analysis: Growth stumble, jobs funk beg for new policy tilt

LONDON Wed Mar 6, 2013 8:06am EST

Federal Reserve Vice Chair Janet Yellen addresses the 29th National Association for Business Economics Policy Conference in Washington March 4, 2013. REUTERS/Gary Cameron

Federal Reserve Vice Chair Janet Yellen addresses the 29th National Association for Business Economics Policy Conference in Washington March 4, 2013.

Credit: Reuters/Gary Cameron

LONDON (Reuters) - As western economies hit another pothole in their stuttering post-crisis recoveries, pressure to step up economic policy intervention to tackle entrenched unemployment may be building.

Global business surveys showing a second consecutive retreat in private sector growth last month, albeit from nine-month highs in December, have refired investor doubts about whether policy settings are adequate to protect recovery through 2013.

Few have lost sight of the fact that the country with the best growth performance so far, the United States, has some of the loosest policy settings. And the Federal Reserve makes no bones about its focus on joblessness.

"The large shortfall of employment relative to its maximum level has imposed huge burdens on all too many Americans and represents a substantial social cost," Fed vice-chair Janet Yellen said Monday, warning that "insufficiently forceful" action carried big risks.

Major central banks are flooring interest rates or printing money or both and are assumed in many areas to be the default safety net, and speculation that one or all of the European, British and Japan central banks will ease policy further at meetings this week continues to bubble.

But gnawing doubts about central banks' ability to do all the heavy lifting on their own are turning the focus back onto fiscal policy.

As a result, the highly-politicized debate over how to cut spending to rein in bloated government debts without snuffing out the economic growth needed ultimately to reduce such borrowing has raged again over a sobering month.

A vote against austerity in Italy, Britain's loss of its prized triple-A credit rating, and automatic budget cuts triggered in the United States on Friday have all amplified the risks of slashing budgets too deep and too fast while economies are weak or even contracting.

Government fears that creditors will turn on them if they tilt back towards growth from austerity may also be overstated, some feel - particularly if such a shift comes with some implicit global agreement.

"People continue to under-appreciate the level of cohesion in policy circles and how much the interventionist case is coming together," said Deutsche Bank economist Stuart Parkinson. "Many will be surprised by that over the next 3-6 months."

"If they (governments) are being asked to look beyond austerity for a little bit and have a go at reviving growth, they'll get the benefit of the doubt from investors."

Parkinson said fiscal and money policy would increasingly be targeted at staving off an "unemployment crisis" worldwide. He said governments were hyper-aware of both the short-term electoral challenge and more serious threats to social stability from persistently high long-term and youth jobless rates.

According to Organization forecasts there will be some 74.2 million 15-24 year olds unemployed in 2013, up more than 5 percent since the crisis started in 2007.

"The real crisis is unemployment - particularly among the young," said Parkinson, adding this would drive action by global forums such as the G7 or G20 to offer cover for policymakers to ease up somewhat on severe domestic agendas.

International Monetary Fund chief economist Olivier Blanchard offered intellectual cover for a rethink last year when he said "fiscal multipliers" of the impact of spending cuts on economic activity during recessions were much greater than the IMF had originally assumed - even if he's since said those multipliers ease again as economies improve.

REWARDS FOR LEEWAY

With the United States seemingly rewarded by investors for backloading spending cuts until growth is on a better footing, should European governments now take notice? After all, its 10-year borrowing rates remain below 2 percent, Wall St stocks are at record highs and even the dollar is rising.

No other country can boast the world's dominant reserve currency, but there are signs that as voters push back against austerity, investors are not running as scared as deficit hawks would suggest - as the relatively muted market reaction to Italy's inconclusive election suggests.

Noting that Italy already has a cyclically adjusted budget surplus, Jim O'Neill, outgoing chairman of Goldman Sachs Asset Management, said: "Tightening fiscal policy for the sake of it with a vague aim of debt reduction is not a smart strategy."

Instead, Italy needs to generate growth through reforms of product and labor markets that will boost nationwide productivity, O'Neill said, adding: "Reform doesn't equate to austerity, as their voters have just shown."

Scott Thiel, Deputy Chief Investment Officer of Fixed Income, Fundamental Portfolios at the world's biggest asset manager Blackrock, said he doubts we'll see any formal rolling back of fiscal targets in Europe soon. Italy, in his view, will still implement recent fiscal cuts and reforms in the absence of a coherent new government for a time anyway.

Thiel added, however, that there is still an implicit assumption in Europe that countries will get leeway if push comes to shove, and investors need to get a fix on the long-term mechanics to exercise any judgment on that.

"No one expects a growth-led fiscal adjustment to happen in a year," Thiel said. "This is a multi-year corrective process and, as an investor, an awful lot depends on your horizon. For me, it's way too early to tell on how current growth trajectories will affect longer-term fiscal sustainability."

(Editing by Catherine Evans)

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