Kenneth Rogoff
is a man who has excelled in several fields. Besides being a highly reputed economist who serves as a Professor of Economics at Harvard University, the American is also a chess Grandmaster. Rogoff, 65, also served as Chief Economist and Director of Research at the International Monetary Fund.
“Financial crises often result from what you don’t see rather than what you do see,” Rogoff said while answering the query about the possibility of a financial crisis in the near future. In his interaction with CNBC-TV18, the economist spoke about a wide range of issues ranging from demonetization top regulations in the banking sector. Edited excerpts:
Q: Is there a risk that there isn’t such a deep global financial risk at all?
A: No, certainly as I said at the introductory talk, our book says they happened decades apart, they don’t happen one on top of another and I gave that reassuring message for a long time. I have sort of watched the world unfold in front of me with Trump and Brexit and the trade war and a part of the crisis are technical things in the system but part of it is the handling. Also, we have done massive deregulation. Usually, everybody is scared, regulation is very heavy, repressive one might say and it takes decades before it unwinds. Now, it has happened almost in the blink of an eye. So I don’t want to overstate it. It is much more likely, we just have a normal recession than we have another deep systemic crisis but I no longer dismiss the possibility I don’t feel as safe as I did even a couple of years ago.
Q: Now suddenly I am feeling unsafe. Before I come to this normal recession that you think we may be heading into, I last interviewed you on CNBC-TV18 as part of 10 years of Lehman crisis. So it was September of 2018, at that time the 10-year yield in the United States (US) was almost heading to 3.2 and on a certain day, I guess it went even past 3.2 and we were all wondering if 3.25 would be some kind of a technical trade that would result in some kind of a crisis. But we have, since, moved a long way. Today the rate is 2.67. So what is your sense?
A: First of all, there has been an increasing gap between what you got for investing in stocks and what you got for investing in bonds and stock returns have been high and that is another matter of what investors expect growth to be but certainly, very narrowly on your question about the Fed, I don’t think anybody has any idea. Nobody knows what is normal anymore and so there is a view that it is just drifting down and down and down. There was a paper that made the rounds maybe a year ago saying it is really demographics and it is inequality and demographics and inequality both start to keep getting worse and worse. However, I think we are not sure. I think anyone who expresses any confidence about what it is going to be in 20 years, are kidding themselves.
When it comes to risk management and I would like to highlight how the US is managing its federal debt. It is very short, it is maybe the shortest duration that is a technical term for measuring the average line.That it has been since the high inflation 70s so that is a very cheap rate to borrow but if interest rates go up, it is very risky. So I wouldn’t say so much that interest rates are definitely going to go up, I wouldn’t say so much that interest rates are definitely going to go up, I would say the betting is clear that they are not and they might go down but I think, in terms of macroeconomic risk management, one needs to take account of the fact that could unwind, it could go the other way.
Q: If we are looking at 300,000 plus jobs getting created a month then is there that kind of slowdown, is somebody mispricing something?
A: I think the United States is doing really well. US is booming, productivity I think will pick up, investment is not as good as we would like to see but people are just pouring into the jobs market. The unemployment rates have not been falling, it has been rising because so many people who were pulled out of the job market, they thought it was hopeless but if you look at the world, as I said, China really does seem to be slowing down more than the official number – the official numbers at 6.5 instead of 6.6, you have to be kidding, that is that is statistical error. It has probably slowed down a lot. In Europe that is what Germany is feeling, that is what a lot of Asia is feeling. So, looking more broadly globally that is much slower and the whole world affects interest rates, it is not just the United States.
Q: Is it more likely that the risks to the global financial system and the global economy could stem more from China and China slowing down much more rapidly than what we are accounting for?
A: I think that is the thing we see and I would say it is more acute than the conventional wisdom. When I talked to people at the World Economic Forum, they say the Chinese will just do stimulus, it is no problem, they are just being a little careful. They have already done some but it hasn’t been as effective as it was in the past because a big part of their stimulus was through construction, a big part of construction was housing and it is starting to reach the end of the line.
You are a poor country - it is still very poor compared to Europe - and they have the same housing per capita at the same square metres, and there is really some downward pressure on housing prices. Now they can do things to push it up but that could make it just worse later.
Q: In US as well, the Federal Reserve has pulled back in terms of interest rate hikes and now is looking in terms of a slowdown. How much ammunition does it have if a slowdown genuinely hit, is there that much space for quantitative easing or once again bloating its balance sheet, is it prepared for a slowdown?
A: No, it is not. It will tell you that we have invented these new tools. So they have room to cut interest rates 2.5 percent but in a typical recession, they cut them 5 or 6 percent. Quantitative easing is smoke in mirrors, I think a lot of research - my book summarises a lot of it – it has shown that quantitative easing in US is one branch of the government buying the data of another branch of the government. The Federal Reserve is nominally independent but it has owned lock, stock and barrel by the treasury and the treasury owns its profits.
It is different in Europe where Germans maybe buying Italian data. So I think the only view that quantitative easing, pure quantitative easing did something people that have confidence – the Fed says that is okay, we have other tricks. We will convince you that if there is a recession and the inflation rate gets to zero, we are going to convince you that later we will allow inflation to rise above 2 percent but what just happened. As soon as the inflation rate started reaching 2 percent, they started raising interest rates so I don’t think that convinces anyone.
Q: We almost contemplated that about two years ago, 2015, didn’t we?
A: Many countries did it.
Q: Japan did for sure.
A: Japan, Sweden, Denmark, the Eurozone to a small extent.
Q: We had on CNBC-TV18 Edward Altman just couple of days back and he was speaking about exactly the same problem of accumulation of corporate debt in the US, non-financial corporate debt he says is 100 percent of gross domestic product (GDP) and just 20 years ago it was 50 percent of GDP and 10 years ago, it was 66 percent GDP. So it has grown exponentially if you looked at the history of corporate debt. So his reading is that if a recession comes now and if it is slightly deeper than people are prepared for then there can be very huge defaults. Is that a likely risk?
A: Absolutely. If it happens. The question is how much will it blow up because if you look at normal recessions, there are also a lot of corporate defaults. If you go back to 1983, 1991, corporate defaults are common, there have been periods when 10 percent of the value of corporate debt has defaulted. If it is in some pension plans, wealthy individuals, health internationally - it is very painful, it makes it hard to raise money but it doesn’t blow up the system. The question is how much of it might come back to the banking system and that need to get bailed out by the taxpayer and then a big debate about what we should do and shouldn’t do.
Officially, it is not that much but I think no one knows whether some of these loans which is called the shadow banking sector going to the corporate debt – will that boomerang into banks’ balance sheets.
I have asked regulators about that and they assured me not, I have asked an academic at Stanford whose work I admire very much and she is not so sure.
Q: A lot of highly leveraged corporates and the leverage now is coming undone, they are unable to pay, we have had a huge bad debt problem, something like 13 percent of the total banking assets of the country and India is a heavily bank-financed country.
A: Might I say that is a very large percentage considering you are on a boom and not a recession.
Q: Exactly. How would you look at that, the only reason why that is not blowing up as people running for their money or leading to a run on the banks is because 70 percent of the banking system is owned by the government so no one cares, your money is safe but what is the end game for this? So much leverage and now while we thought that we have recognised and are trying to resolve the banking bad loan problem, it looks like the non-bank finance guys have gotten some of the or the large part of the bad loans and they have been ever-greening it. Have you studied this problem and do you think this can get nastier than what you had prepared for?
A: I haven’t studied it personally. I have read about it. So my impression is that the Indian government in last years has made significant progress on this and so is the Reserve Bank of India (RBI) that this is an area where after years and years of doing nothing and they are finally moving to try to squeeze this out and it is important because other firms that are healthy need to borrow and the banking system cannot perform its function.
By the way, there is some of this going on in France and Italy where the banking system has not healed from their debt crisis. It has absolutely been a factor and holding back their growth but I think for India, this is the long-term problem. I think you have to work it out but in the meantime, maybe opening up a little bit more to foreign capital flows, which don’t want to go into China right now and they would love to go into India might be helpful. By the way I say that - not short-term borrowing to long-term borrowing direct foreign investment. There are opportunities for India to try to keep the economy moving while the banking system is healing.
Q: We could do with a little more capital until now Indian development is largely financed domestically, which perhaps also makes it less risky because we haven’t been shocked by a sudden outflow of foreign capital but just to stick to the ownership of banks, is that a big risk for India? This 70 percent ownership of the banking system by the government, year after year, decade after decade, can the taxpayer be bailing out and is there a sense of being not alive to risk simply because you are owned by the sovereign?
A: It is funny when I came here in 2002, I think at that time I may not have the number right. India’s government that was 70-80 percent of GDP, it is about 70 percent now and the state deficits were particularly out of control and if one would have asked what is the problem with it. I would say that the problem is that you can manage it but you have to do it by making it hard for anybody else to borrow. That is the situation now that you can keep ever-greening the loans by favouring the state banks, by favouring these firms, so-called ever-greening, will you make bad loans on top of good loans but it doesn’t yield for a dynamic economy and trying to clean it up which certainly help raise India’s growth rate, maintain India’s growth rate, make it more dynamic, have it manage risk better if you could do this. Again there have been steps, you are raising an issue where I think I would point to progress, a lot of progress since I came in 2002 but as you said there is a lot of room to go.
First Published: Feb 9, 2019 9:16 PM IST
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