It’s remarkable how pervasive ‘New Normal’ thinking still is, despite innumerable economic and financial market shocks. Forecasters continue to assume that the global economy will gravitate towards low but stable growth, regulators still aim to deliver a more stable financial system, and central banks keep aspiring to ‘normalise’ policy after years of radical improvisation. Yet, as I argue in a report entitled ‘The New Abnormal’ such thinking is in for a few surprises. The world is still far from any sensible definition of ‘normal’.
The idea of a New Normal glosses over several sources of instability. The New Abnormal is characterised by on-going structural changes that extend beyond the decade-long challenge of reforming the financial system. Economic policy is unbalanced, with monetary policy forced into the role of supporting economic growth in the face of headwinds from fiscal consolidation and tightening financial regulation.
Sadly, unconventional monetary policy interventions, such as quantitative easing, have enjoyed more success in boosting asset prices than economic growth. As a result moves to ‘normalise’ interest rates could turn out to be much bumpier than the markets expect. As a result, there is a serious risk that financial market volatility will spill over into the real economy. Indeed, market volatility and weak growth could easily become mutually-reinforcing. To the extent that central banks recognise this, this will make the road to higher rates as much ‘market dependent’ as ‘data dependent’.
Meanwhile, the reluctance of policy-makers to embrace growth-enhancing fiscal and structural reforms is deterring the investment that could stimulate a surprisingly robust upswing in the longer term. The upside of the volatility of the New Abnormal, in contrast to the fashionable miserablism of the New Normal crowd, is that there is potential for positive surprises in the longer term. As I’ve argued before, a host of new technologies offer the potential for positive network effects and answers for the demographic challenges to global growth. But it remains to be seen whether the shock of another recession will be required to trigger the shifts in economic policy that might give business the confidence to embrace that potential.