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6 factors shaping the global economy in 2016 | World Economic Forum

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6 factors shaping the global economy in 2016

Anders Borg, Swedens former Finance Minister, gives his


Written by

perspective on what to look out for in the economic year ahead,

Anders Borg
Chair, World Economic Forums
Global Financial System Initiative

from reforms in China to the threat of Brexit.


2016 will be a challenging and difficult year for the global economy.

Regular Author

Global growth is picking up somewhat after a number of weak


years. A global GDP growth rate of 3.5%, the latest IMF forecast, is

Published

lower than the 4.5% average that preceded the decade before the
Wednesday 23 December 2015

great recession, but it is better than the average over the past five
years.

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The US and UK recoveries are self-sustained, but weaker than

during a normal post-crisis period. In the Eurozone, expansionary

https://www.weforum.org/agenda/2015/12/6-factors-shaping-the-global-economy-in-2016/[10/28/2016 4:48:32 PM]

6 factors shaping the global economy in 2016 | World Economic Forum

policy is still called for and further steps to support growth could be
expected. In the US and Europe alike, investments levels are low,

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productivity growth is very weak and the export sector is only


providing a small contribution to the recovery. At the same time
growth is slowing in Asia and world trade is likely to grow at a slower

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rate than GDP. It is a recovery without a real upturn in the business


cycle, threatened by a range of factors.
One:the year of political populism?
2016 could become a year marked by political populism. Weak
economic activity and low productivity growth mean that real wages
and consumption are likely to continue to be disappointing. When
reality is coming short of expectations, there are grievancesto be
exploited. Donald Trump, Jeremy Corbyn, Alexis Tsipras, Nigel
Farage, Marine Le Pen, Bernie Sanders, Pablo Iglesias Turrin and
many others are taking advantage of stagnating living standards
and increasing economic insecurity.
A number of factors are reinforcing populism anddiscontent. Job
security is undermined by global competition, digitalisation and
robotisation. New work opportunities ahead are more likely to be

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short-term contracts, part-time jobs, self-employment without full


social benefits and full job security. The so-called Uber class of
insecure workers is a new reality to be dealt with. The demands for
education, expert knowledge and social skills have taken a quantum
leap upwards and increased the threshold for people seeking to
enter the labour market. Unionisation is on the retreat. Increased
insecurity in labour markets, the weaker negotiation power of the
unions and low productivity are setting narrow limitations for wage
negotiations and real wages.
In a period when most advanced economies needs strong
governments to implement far-reaching structural reforms, voters
are favouring short-termism and asking for simple solutions. To
restore political trust, governments needs to deliver real wage
increases, more jobs and better welfare. This can only happen if
growth is revitalised by reforms to increase labour market flexibility

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6 factors shaping the global economy in 2016 | World Economic Forum

and to improve the business climate.


There is a clear risk that the fear of political populism will undermine
the way leaders dealwith long-term challenges and thereby creates
a vicious negative spiral where disappointment further weakens
trust in governments.
Two: global insecurity and the refugee crisis
US presidential elections will be a major political event during 2016.
From a global perspective, the key issue is whether the next
president will be able to restore the US as a global force for stability
after the apparentlethargy of President Obamas administration.
Another period of a United States that lacks direction in its foreign
policy, combined with a reluctance to engage with military forces in
difficult regions, will create deep security problems.
Europe needs to step up its ability to deal with emerging security
issues, although that is an unlikely outcome without leadership from
the USA. The tragic events in Paris have created a momentum for a
coalition bringing the US, France, the United Kingdom and,
unexpectedly, also Russia together for a push-back of the Daesh
ambition of establishing a Caliphate. It seems necessary for the US
and Europe to be ready to actively counter extremist Islamic
terrorism in the Middle East, North Africa and Afghanistan in the
medium term as well as in the long run. To leave large areas and
regions under the control of Daesh, Boko Haram, Al-Shabaab or the
Taliban is a global security risk.
The refugee crises in Europe will remain a major factor during 2016.
UN estimates indicate that over one millionpeople have entered
Europe with the intention of claiming asylum during 2015. On a
global level, UNHCR has stated that the number of forcibly
displaced people reached almost 60 million in 2015, an increase of
some 40% since 2014.
Germany, Sweden, Hungary, Austria and Italy have been the most
affected countriesin Europe (Hungary and Sweden with the highest
per capita numbers, and Germany with the highest number in

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6 factors shaping the global economy in 2016 | World Economic Forum

absolute terms). In the last few weeks, the inflows have decreased.
Partly that could be due to temporary harsh weather. The fact that
the European Union has made a broader political agreement with
Turkey could also be a factor.
In addition, Daesh will face a stronger counter insurgency efforts
during 2016. If Daesh is pushed back and insecurity reduced in
Syria and Iraq that is likely to further improve the situation. It should
however be pointed out that some 4 million refuges from the conflict
in Syria-Iraq remain in the neighbouring countries (in Turkey 2.2
million, in Lebanon 1.1 million and in Jordan 650,000 people).
The historical pattern has been that it takes a few years before the
refugee numbers normalise after a period of conflict. The intensified
challenge from the Taliban in Afghanistan could also increase the
number of people claiming asylum in Europe (about 100,000 people
have come from Afghanistan to Europe during 2015). The number
of refugees coming to Europe is most likely going to be lower in
2016, but they will remain much higher than the long-term average
for both 2016 and 2017.
The short term economic consequence of the high migration flows
will be somewhat higher GDP growth in Germany and Sweden, due
to a temporary increase in public expenditure. The consequences of
a growing population is positive in the long term, reducing the
demographic pressure of an ageing population. Increased internal
globalisation, to use the term coined by Angela Merkel, is potentially
a more diversified work force and a more creative economy.
In the short term, the task of integrating such alarge number of
people will be a challenge. In Sweden the historical experience has
been that people from Syria have integrated well into the labour
market. However, to be able to integrate a large number of people
coming from a much less developed country (GDP per capita in
Syria was 5000 USD before the conflict, which is slightly more than
10% of the level in Sweden and Germany) will be complicated. To
strengthen integration, countries need to increase labour market
flexibility, boostspending on early education efforts and active

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6 factors shaping the global economy in 2016 | World Economic Forum

labour market measures and streamline welfare services, but both


in Germany and Sweden this will be very difficult. Looking ahead it
is likely that unemployment will be somewhat higher in 2017 and
2018. and this will dampen wage pressure and inflation pressure
somewhat.
Three: the referendum onBrexit
A key factor shaping Europespolitical future in the decades to
come is the referendum on the UKs membership of the EU.
Referendums always come with uncertainty. Unexpected events
can push the results in any direction. The best guess is that the
United Kingdom remains in the European Union. The economic and
political consequences of a British move towards isolationism are
devastating.
The political balance in Europe would shift from the idea of a Europe
open to free trade and dynamic markets, turning the balance
towards a more bureaucratic and centralising perspective. Europe
and the UKwould both be in a much worse position in the
competition with the United States, China, Japan and India. For the
UK, the long-term economic consequences are likely to be deeply
concerning. Without full participation in the European Union,
Londons role as the financial centre ofEurope would sooner or later
be put into question. The populists are creating the impression that
it is costless for the UKto move away from Europe, but that is a
dangerous illusion. The Danish referendum set off a wave of
financial turmoil back in 1992 and the implications of Brexit would be
more far-reaching.
One factor to bear in mind is that voters often seems to favour the
status quo when uncertainty is high. When almost all economic
experts, the traditional political parties and the larger parts of the
business sector are arguing for a yes, this should be the most
likely outcome, but in the age of populism uncertainty remains high
until the ballots have been counted.
Four: Russias role in the world

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6 factors shaping the global economy in 2016 | World Economic Forum

Another political factor contributing to financial uncertainty is Russia.


At the end of 2015, President Putin has rapidly repositioned Russia
from being the outsider rocking the boat to a constructive force
dealing with Daesh in Syria and Iraq. The repositioning is obviously
fragile. Putin has in no way backed down in principle from the
aggressive stance in the conflict in eastern Ukraine. So far the
Russian intervention seems to have provided more support for
President Al-Assad than actual damage to Daesh.
In the long run, Russia is likely to be a declining power under the
current regime. Low fertility rates and premature alcohol-related
death among men, combined with excessive dependence on natural
resources rather than productivity and innovations, are undermining
the long-term prospects. But in the short run, any neighbouring
country that shows signs of weakness face the risk that Russia will
try to exploit the situation. President Putin has been a master of
navigating the age of populism and could revert to the anti-western
rhetoric at any point of time.
For the coming years investments in Russia will be perceived as
risky. A solid recovery in Russia will only come if foreign investors
become convinced that the U-turn in Russian politics oflate 2015 is
the first step towards a Russia that is open for co-operation and
ready to reform its archaic economic structures. Until then most
investors will hibernate and hope for a thawing in the Russian
tundra.
Five: weak growth, choppy markets
Global growth will be weak next year. Furthermore, we are also
likely to see substantial turmoil in financial markets. The
combination of the recovery in the US and, even if weaker, in
Europe, as well as a deceleration of growth in China is creating
uncertainty for the financial markets. The extraordinary monetary
policy measures over the last few years have pumped short-term
money into the global financial system.In combination with low
liquidity in markets, partly due to the new regulatory structures that
are reshaping banking everywhere, this has set the tone for

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6 factors shaping the global economy in 2016 | World Economic Forum

turbulence.
The key factor deciding the degree of turbulence will be inflation in
the US and reforms in China. If inflation is picking up in the US and
the Federal Reserve is perceived to be behind the curve, this could
push US rates higher and reinforce the appreciation of the dollar.
The best guess is that inflation will remain subdued in the US. A
weak consumer recovery and very low resource utilisation is unlikely
to give a demand-driven inflation push. The potential for accelerated
productivity growth out of the broad technology-driven shift that is
now taking place should also keep cost pressure under control.
The traditional models that the Federal Reserve and other central
banks are using to forecast inflation are backward-looking and are
unlikely to capture the fast moving technological development that
we are now seeing. On the back of higher than expected
productivity it is also possible for the unemployment rate to
gradually go lower without pushing a traditional wage and inflation
spiral.
2016 could potentially be a year when the implications of the digital
transformation become a dominant theme. The potential is clearly
there. Many start-up companies have been printing very strong
growth numbers for years, but the macro-economic impact has so
far been on the weaker side because the growth has come from a
low level. Every year this is gradually changing. When more and
more people do their shopping and banking online that will also
mean that the broader implications becomes more pronounced. The
pressure on existing firms to adapt to increased competition is likely
to mean that prices and profit margins are being squeezed.
A more problematic impact could be that employment growth is held
back during the recovery. So far that has not been the case in the
advanced economies. The labour market in the US has been strong,
but that has also been the trend in the United Kingdom, Germany
and the Nordic countries.
Six: Chinas reforms

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6 factors shaping the global economy in 2016 | World Economic Forum

If inflation expectations in the USare akey factor shaping the


financial year of 2016, reforms in China are on anotherscale. If
China is able to gradually move forward with rebalancing the
economy from investments to consumption, that could open a path
towards more sustainable growth and a gradual return of optimism
in the Chinese business sector.
The Chinese government has many times, not least at the last
meeting in Davos and at the Dalian summit, stated its ambition to
push forward with reforms to open the economy and continue the
transformation towards a well-functioning market economy. The
downside risk seems to be that these reforms are dependent on the
ability to deal with resistance from special interest groups,
includingstate-owned enterprises and more conservative centres of
power. For the global economy, it is key to monitor any sign that
reforms are being accelerated and that resistance to change is
being pushed backwards.
Any sign that a credit contraction is hamperinggrowth would imply
that it is necessary for the Peoples Bank of China, PBOC, to push
monetary policy in an expansionary direction. In such a scenario,
the RMB would weaken and that would imply second round
depreciation in the rest of Asia. In any such scenario we would also
see continued turbulence on commodity markets as well.
Commodity prices are likely to contributeto the low-inflation
environment. It will take time before we see the recovery of the
super-cycle.
It is important to underline how important China is for the rest of the
emerging market countries. Growth in Asia, Latin America and
Africa has been bolsteredby the growing demand for iron ore,
copper and oil from China. If China succeeds in dealing with
domestic challenges, that would also contribute to revivingoptimism
in emerging markets.
It is, however, important to underline that the renaissance in
emerging markets has a more fundamentalbasis than just
beingderivative of China. India, Indonesia, Bangladesh, the

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6 factors shaping the global economy in 2016 | World Economic Forum

Philippines, Brazil, Mexico Colombia, Nigeria, Ethiopia and East


Africa have been able to accelerate growth out of their own power.
Political reforms have improved governance. Barriers to trade have
been reduced. The regulatory burden and the cost of doing
business have been reduced. The education level of the workforce
has improved. The mobile revolution has made information
accessible almost everywhere and increased political transparency.
Emerging economies will be under market pressure during 2016. If
the Federal Reserve accelerates rate hikes and the PBOC
depreciates the RNB this would create tensions for the global
economy. In this rather difficult environment, it would be a critical
moment if external pressure translatedinto a push for economic
reforms. If the governments in Brazil, Turkey, Nigeria or Russia
would see market pressure as an argument for reinforcing structural
reforms that could be game changer. So far the response has been
far from convincing.
It is important to take on board the fundamental optimism that
globalisation is bringing to emerging markets. According to the IMF
forecast for 2016 there will be more than 3.4 billion people living in
countries with a GDP growing faster than 6%. A growth rate of 6%
means that the total economy will triple in two decades. That is the
fastest transformation out of poverty that humanity has ever
experience. Whether 2016 will bring a revival of the fundamental
emerging market story or a year of disappointment is an open
question, and the more market pressure is seen as an argument for
reform the better the outcome will be.
2016 is likely to be a difficult year. Growth is increasing, lead by the
recovery in the US and other advanced economies, but populism,
geopolitical risks and market turmoil are likely to cast some
shadows over the optimism.
Author:Anders Borg,Chair, Global Financial System
Initiative,World Economic Forum
Image:A sign showing distances to cities all over the world is seen
outside City Hall in San Bernardino, California January 23, 2015.
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6 factors shaping the global economy in 2016 | World Economic Forum

REUTERS/Lucy Nicholson

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Written by
Anders Borg, Chair, World Economic Forums Global Financial System
Initiative

The views expressed in this article are those of the author alone and not the
World Economic Forum.

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