I worry that China may export its woes in ways back-of-the-envelope calculations miss, that the Middle Kingdom’s troubles will one way or another have the effect of depressing investment spending in America and Europe as well as in other emerging markets. And if my worries come true, we are woefully unready to deal with the shock.
After all, who would respond to a China shock, and how? Monetary policy would probably be of little help. With interest rates still close to zero and inflation still below target, the Fed would have limited ability to fight an economic downdraft in any case, and it has probably reduced its effectiveness further by signaling its eagerness to raise rates at the first excuse. Meanwhile, the European Central Bank is already pushing to the limits of its political mandate in its own so far unsuccessful effort to raise inflation.
And while fiscal policy — essentially, spending more to offset the effects of China spending less — would surely work, how many people believe that Republicans would be receptive to a new Obama stimulus plan, or that German politicians would look kindly on a proposal for bigger deficits in Europe?
Now, my best guess is still that things won’t be that bad — nasty in China, but just a bit of turbulence elsewhere. And I really, really hope that guess is right, because we don’t seem to have a plan B anywhere in sight.
Krugman thinks China’s economic turmoil could have been handled through more aggressive infrastructure building as an investment. But, wait, isn’t that what all those train lines and empty cities-of-the-future are about? Certainly they could have done more, but wouldn’t that have just led to greater debt overhang?
The scary part is his key insight, that we’d better hope that we are insulated from China’s troubles because ‘we don’t seem to have a plan B anywhere in sight.’
from Stowe Boyd http://stoweboyd.com/post/136875891697
