Tackling the financial problems Sweden-style
Although Sweden is a small country, its experience of managing its financial crisis in the early 1990s may provide valuable lessons for others.
The financial crisis that began in the United States in 2007 has spread across the world, but the American economy remains crucial to eventual global recovery. If we assume that the US is still going through a financial crisis, its GDP will fall this year as well. Unemployment can be expected to peak around 12 percent, and gross public debt will rise by 50 percent, which corresponds to about 90 percent of GDP.
But if the US follows the Swedish pattern, the worst of its financial sector's problems should have been over. In terms of fiscal problems and real economic decline, however, the US would still be facing a crisis.
In Sweden, the decline in GDP lasted three years, after which the economy was lifted by a dramatic increase in exports because of the sharp devaluation of the krona, with the annual industrial output rising by about 10 percent on average over two years.
The US is not likely to undergo this experience. Financial and currency crises are often linked, but we have not seen this in the US. Instead, paradoxically, the crisis has somewhat bolstered the dollar, at least until recently. Although the US is the epicenter of the crisis, its government debt instruments continue to be regarded as the safest investment in the world.
Will America's widening fiscal deficit alter this perception? One can imagine two scenarios for the dollar over the next five years. In the first, the dollar would retain its position or perhaps even rise slightly. In the second, the decline in the US economy and its growing fiscal problems would lead to a sharp fall in the dollar. Some estimates show that it would take a 40 percent devaluation of the dollar to balance US foreign payments.
Neither scenario is good for Europe - or for the rest of the world. In recent decades, the fast-growing Asian economies, as well as the European Union (EU) economies such as Germany and the Nordic countries, have made export-led growth their primary economic strategy.
As a result, growth in those economies is dependent on US demand, and their industrial sectors have become too large to be compatible with long-term balance.
So both the scenarios seem to preclude export-led growth as a successful strategy. In any case, rich European countries will suffer a permanent structural decline in manufacturing.
Much of the decline we now see in European manufacturing is not the result of temporary economic movements. Instead it is part of a long-term adjustment of the industrial sector's size.
Although the bigger EU countries have embarked on a policy to protect their industries as long as the crisis continues, they will not succeed because no country can halt structural adjustment by offering subsidies.
Moreover, protectionist measures will increase fiscal problems, prolonging the international downturn and delaying the recovery.
But it is very easy to say what should not be done. In the absence of any "miracle" cure, the medium-term aim should be to renew and strengthen the framework for international economic and trade cooperation. A significant cause of the current crisis was the imbalance in international trade and capital flows that built up over years, without anybody taking responsibility for the consequences.
Remedial action in Europe should include completing the internal market. Only when Europe has a dynamic internal market can balanced European growth be achieved.
And achieving that goal is more important than ever, because it will be some time before the US can re-assume the role of locomotive for the world economy.
The author is director general of the Confederation of Swedish Enterprise and a former state secretary in the Ministry of Finance in charge of managing the 1991-1993 Swedish banking crisis. Project Syndicate
(China Daily 10/30/2009 page9)
