Bill Emmott - International Author & Adviser

Article

An American slowdown? Thank goodness
Corriere della Sera - May 21st 2007

In this sophisticated era, with high technology and globalisation and extraordinarily complex financial transactions, few would have predicted that the fate of the worldís largest economy would boil down to something so humble and old-fashioned: the private house. But it has: the reason why in the first quarter of 2007 the United States had its slowest economic growth for four years, an annualised rate of 1.3%, is that Americaís housing market is slumping. The question now is whether things are going to get worse, with a further slowdown or even a recession. We should all hope fervently that it does.

            America is not alone in worrying about a housing slump. Spain too is suffering from a collapse in the construction industry and the beginnings of a fall in prices. For the past couple of years, similar worries have hung over Australia and Britain. The worry is that a housing slump will depress consumer spending, because households feel poorer and some are forced to default on their debts, but also because housebuilding is a labour-intensive industry and so unemployment is likely to rise if fewer new houses are being built. In Americaís complex and creative financial markets there is another worry too: that some of the banks that have lent money to housebuyers may now go bankrupt, perhaps damaging other institutions that have lent to them.

            So far, however, these worries have not come true. Americaís unemployment rate has stayed low (just 4.4% of the workforce, compared with 6.5% in Italy and 9.2% in Germany) and consumer spending has continued to rise along with wages. Spain too continues to enjoy healthy GDP growth, even though the share prices of Spanish property companies have collapsed during recent weeks thanks to fears of a housing crash.

            In both America and Spain, it may only be a matter of time: a slumping housing market may well eventually feed through into unemployment and depressed consumer spending. In Spain, after all, the construction industry has recently accounted for nearly 20% of GDP, so any slump in real estate is bound to have a broader impact. But there is also a more optimistic possibility: this is that a housing collapse will hurt these economies, but in todayís strong global economy its effects will be moderated by other, more positive factors: trade with high-growth countries such as China and India and with recovering economies such as Germany and Japan, for instance, and investment in new technologies.

            That is why an American slowdown now should be seen as good news, not bad. If its housing slump continues and even gets worse, it will do so against a highly benign, supportive global backdrop. Americaís economy needs a period of slower growth or even recession to enable it to reduce its huge trade deficit and to achieve a more sustainable balance between borrowing and spending. Since America accounts for a third of the world economy, any slowdown there will affect the rest of us. But the impact can be mitigated if demand in other parts of the world is rising at the same time. And right now, it is.

            The experience of Australia and Britain in the past few years has been that falling (or, in Britainís case, just flat) house prices need not be economically painful if it happens in isolation. It is when a housing slump occurs alongside other sources of pain, such as rapid inflation and high interest rates, that it brings about an overall slump in the economy.

            Another risk to the world economy may well be looming. It lies in China, where share prices have been soaring, thanks to a stockmarket frenzy among ordinary individual investors: the Shanghai index has risen 40% so far this year, having risen by 130% in 2006. That bubble will burst at some point, and when it does the anger of retail investors who have lost money could even put Chinaís political stability at risk. So let us hope that America can get its housing-led slowdown out of the way before China hits trouble. Trouble in one big economy would be awkward. Trouble in two could be disastrous.


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