Get Ready For The Slowdown

Americans may be forgiven their self-satisfaction in these long, hot summer days. Unemployment is low, real incomes are rising, and the stock market is increasing the wealth of millions. But it may be time to take a break from the barbecue and beach routine for a reality check. The global economy is downshifting from fast to slow growth, with the U.S. no exception. Yet fiscal and monetary policy remain tight just about everywhere. Unless policymakers begin to ease up, there could be economic trouble ahead.

A run of recent surprises makes for a darkening economic outlook. In the U.S., growth is slowing more sharply than anticipated, from a 5.4% annual rate in the first quarter down to a pace of zero to 2% in the second. The Asian crisis is finally hitting hard, striking at both exports and corporate profits. Inventory accumulation is at a record high, manufacturers are cutting back, and the high-tech sector, especially chips, is being slammed. Job growth is slowing. The General Motors Corp. strike is a wild card that could do serious harm.

Europe, once expected to pick up the slack when the U.S. tuckered out, is rolling over, too. The Bank of England recently raised interest rates as the British economy weakened. The surge in sterling has already sent manufacturing into recession. First-quarter growth of 2.5% was probably cut in half in the second and may turn negative in 1999. On the Continent, where economies were supposed to be in liftoff, growth has fallen from 3.2% in the first quarter to 1.5% in the second. The Asian crisis played a major role, but Germany contributed by committing a fiscal faux pas, raising the sales tax just as consumers were beginning to open their pocketbooks, hurting demand. The prospect of Chancellor Helmut Kohl and his conservatives being replaced by a Social Democratic-Green coalition in September is cooling investment, as well.

The surprise out of Asia is how bad it is. Japan's gross domestic product has had its biggest three-quarter contraction since the war, with 1997's fourth quarter down an annual rate of 1.5%, first quarter 1998 down 5.3%, and the second quarter off 3.5%. Kureditor kurunchie, or credit crunch, is now in the Japanese vernacular. By U.S. or European measurements, unemployment is probably well over 5% and rising fast. The latest bank-reform package is ambiguous, and Tokyo keeps reversing itself on a permanent tax cut to stimulate spending.

The rest of Asia is in worse shape. Indonesia's economy could contract by one-third this year. The economies of Korea and Thailand could shrink by 10%. China's growth is slowing, and pressure to devalue the renminbi by 10% to 20% is increasing. Devaluation fever is spreading to Brazil and Russia. It has already sent the South African rand down by 30%.

Despite evidence of a slowdown in global economic growth, policy remains tight. It may be that declining U.S. bond rates, higher European employment, and massive Japanese pump-priming will brake this unexpected slide in growth in the months ahead. But caution argues that policy should be shifting now to ensure it. The IMF should allow its Asian wards to lower interest rates and spend more. Germany should grow its way out of deficit, not tax itself back into stagnation. The Bank of England should back off from further tightening. And Washington should return much of the upcoming $70 billion federal budget surplus to the consumer in the form of a tax cut. As for the Federal Reserve, it now effectively makes monetary policy for the world. By not hiking rates very much, it showed amazing acuity in the years of high economic growth. Now it must show the same kind of insight as growth suddenly stalls.