Falling demand

China has devalued its currency, the yuan. This has sent jitters in the financial markets across the globe. Stocks are down and currencies of most emerging markets are following the downward trajectory of the yuan.

The United States has long been saying that the yuan was already much below its real value. The US had been asking China to revalue the yuan upwards. Instead, China has devalued its currency so as to maintain the pace of its exports. China’s exports have been declining at a monthly rate of about (-)5 per cent for the last few months.

The Indian rupee has declined in tandem. A cheaper yuan means that Chinese goods will be cheaper for the US consumer. An American consumer was getting 64 yuan worth of Chinese goods for 10 dollars till a week ago. Now she will get 66 yuan worth of goods for the same ten dollars. As a result, Chinese goods will become more attractive.

Correspondingly, Indian goods will become less attractive. Therefore, the Reserve Bank of India has allowed the rupee to slide in tandem with the decline of the yuan. In effect, therefore, China has gained very little. It is like the weekly street market at 10 pm. Every seller reduces his price so that he can get rid of the stocks but none succeeds because the customers are few.

At the root of the problem is falling global demand. The developed countries were previously making exclusive goods. In the 1950s, for example, the General Motors of the US and Morris of the United Kingdom were selling cars in India. They were among the few global producers of cars. They could sell the cars at a high price because the Indian consumer did not have much choice.

These manufacturers paid high wages to their workers from these large earnings. In recent times, the US companies like Microsoft have likewise sold Windows software to consumers across the world at high prices and used these earnings to pay high salaries to their employees.

The situation has flipped lately. The Indian companies are making cars and exporting to the US today. The number of pioneering products that the developed countries are able to sell in the global market is fast declining. In consequence, wages are stagnant or declining. Their workers no longer have the purchasing power to buy TVs from China and clothes from India.

This decline in wages of workers of the developed countries is coming along with increase in wages of workers of the developing countries. However, the decline in wages of the developed countries is steep while the increase in wages of the developing countries is minimal.

Think of a water tanker discharging its water into a pond. Decline in the level of the tanker will be huge while increase in the level of the pond will be minimal. The number of workers in the developing countries runs into billions. Therefore, the increase in wages due to the shift of manufacturing from Detroit to Chennai is virtually nil. Globalisation is a one-way street with lowering wages for the workers of developed countries.

This decline in demand from the developed countries is counteracted by new inventions. Last two decades have seen an exponential expansion in demand for mobile phones, computers, TVs, photocopy machines, and metro rail. We have thus, before us, two opposing tendencies. The demand for goods in the global market is declining because workers of the developed countries are facing a wage crunch. On the other hand, demand for new products is being generated.

It will be obvious that the decline in demand by the developed countries will necessarily continue. Global movement of goods will necessarily lead to a shift of manufacturing to the low wage countries like Bangladesh and Vietnam. Accordingly, the number of jobs in the developed countries will decline. The increase in demand due to the invention of new products, however, will always remain uncertain.

Game-changing product
One did not know in the 1980s that the personal computer will be invented. One did not know in the 90s that mobile telephony will become so cheap. Invention of a similar game-changing product has not been made in the first decade of this century, however.

The natural trajectory for the global economy, therefore, is to slip into a long recession. This tendency has been counteracted in the last century by a spate of new inventions beginning with the manufacture of Ford T on the assembly line.

Whether the natural tendency will be nullified by new inventions is hard to predict. Experience of the last two decades is not encouraging. Therefore, I think a global recession is more likely in the coming period.

The government must change gears. Its efforts aimed at attracting multinational corporations to “Make in India” for the global market are certain to fail. One does not put up a new cold storage when the potato stored in the existing facility is rotting. Therefore, the government must push for import substitution. Let us make goods that we are importing at present. That is feasible.

My prognosis is subject to one caveat. Development of a new invention, say, a personal helicopter that will replace the car, will jumpstart the global economy into a new phase of growth. Recession is certain if such an invention does not take place.

(The writer was former Professor of Economics, Indian Institute of Management-Bangalore)