Manish Tewari | Is the world heading into another recession?

In September 2008, Wall Street collapsed and triggered a full blown financial crisis. It marked the beginning of a global recession that brought down a major chunk of the financial industry. What is now conventional wisdom was difficult to predict back then. It was not clear that a recession was on the cards, and nobody thought the oncoming meltdown was going to be the worst since the great depression of the 1930s. Then Lehman Brothers collapsed and Wall Street went into freefall.

The prospect of a similar global recession seems increasingly likely. Credit Suisse, one of the world’s largest investment banks, has had a nightmare September. Panicked investors have driven the group’s credit default swaps (CDS) to a 14-year high. Worryingly, the combined asset value of stressed groups such as Credit Suisse and Deutsche Bank is $2 Trillion. Lehman Brothers — whose collapse plunged the world into a global recession — had an asset value of $600 billion. If Credit Suisse and Deutsche Bank fall, they will in all probability take the global economy down with them.

September 2022 has brought back the ghosts of September 2008. S&P 500 declined by 9.34 per cent, and Dow Jones Industrial Average, fell by 8.84 per cent. They have seen their biggest losses since March 2020. This is also their worst September performance since 2002. Nasdaq dropped 10.5 per cent, its worst September performance since 2008. Global growth forecasts have been snipped. In July, the IMF lowered its global growth forecasts for 2022 and 2023 from 3.6 per cent to 3.2 per cent and 2.9 per cent, respectively. The World Trade Organisation chief, Ngozi Okonjo-Iweala, and economists at the World Economic Forum, have noted that a global recession by 2023 is the most likely scenario facing the world economy.

Indeed, the likelihood of the US Federal Reserve (Fed) persistently raising interest rates to tame inflation could push America into recession. Nobody is holding out for a soft landing anymore. Jerome Powell, US Fed chairman, recently admitted he had no idea how severe a potential recession would be. The math is simple: As the Fed adopts an increasingly hawkish stance, putting pressure on currencies around the world, central banks would be forced to constantly control inflation or protect their currency, leading to an inevitable recession. When President Bush addressed the United Nations General Assembly in September 2008, he sniggered that recession was an American problem to be handled by Americans themselves. In retrospect, he could not have been more wrong. What happens in Vegas does not necessarily stay in Vegas.

Just last week, China's central bank moved aggressively to protect the yuan. It asked its offshore bank units to ensure sufficient dollar reserves for an intervention to help reverse the yuan’s slide. The yuan has already taken an 11 per cent blow vis-à-vis the dollar this year. The Chinese are looking to offload the dollar in big numbers which could spell pandemonium in the market. This is in response to the dollar's rapid appreciation — a direct by-product of the Fed's rate hikes.

Japan, the United Kingdom and Europe have also moved to strengthen their respective currencies. The Japanese central bank intervened to prop up the yen for the first time in 24 years. The European Central Bank (ECB) hiked interest rates by 75 basis points in September, its largest single hike ever. As is clear, Central banks around the world are scrambling to keep up with the Fed's aggressive tightening. This is due to the fear — a genuine one no doubt — that a weak currency will ramp up the cost of imports and make it that much more difficult to handle inflation. More such hawkish policy by central banks is expected in the coming months.

That said, there is an immediate cause to all this turmoil. Germany, the UK, and Italy are all slated to reel under recession next year because of the Russian invasion of Ukraine. Supply chain shocks from the conflict have brought higher costs with little growth. This is most stark in the UK where the pound touched record lows and households face energy inflation of about 80 per cent. European countries fare no better as Russia’s hold of oil and gas supplies puts them at Putin’s mercy. Russia has already cut gas supplies to Germany, Bulgaria and Poland.

With the winter approaching, Europeans face a race against time to decouple their energy supplies from Russia which is a nigh impossible task to achieve within the next couple of months. Europe’s interconnected nature will hurt it more because of its highly integrated supply chains. A recession is but an inevitability. Sanctions on Russia do not seem to be working and have, in fact, helped Russia to squeeze Europe even more by stopping energy supplies. The Oprichniki in the Kremlin are sniggering at the UK and Europe raising interest rates despite the impending recession threat.

Macroeconomic instability is bound to impact living standards and increase poverty. Multiple crises in the last five years have led to massive food insecurity, particularly in Sub-Saharan Africa. Already, 53 countries around the world face acute food shortages with projections expecting the situation to get worse. In a de-globalising world reeling under the shocks of a pandemic and the Russia-Ukraine conflict, it is difficult to see nations coming together to revive the global economy that has reached an inflection point, chock-full with inflationary pressures and supply chain disruptions.

In India, too, the impact is upon us. The rupee breached the 82 to a dollar mark on Friday. The Reserve Bank of India has revised annual GDP growth number downwards to 7.2 per cent but this number also takes off from a very low base and does not reflect real growth. Current account deficit was 2.8 per cent of GDP in April-June 2022. Trade deficit at $149.47 billion between April-September 2022 is almost double than the corresponding period last year. The fiscal deficit at Rs. 5,41,601 crores for the period April-August 2022 leaves little room for fiscal maneouvre. The single biggest challenge to India’s banking system because of the deteriorating global economic situation is Rs. 8.58 lakh crores owed to various Scheduled Commercial Banks by borrowers, with the bulk of the money being owed by India’s largest corporate houses.

All indicators point to a crisis of a magnitude greater than the 2008 global recession. This is so because the world is fragmented, and national debts are at staggering levels which will debar countries from doing any tinkering once in recession. Fiscal stimuli are difficult when your national debt equals $30 trillion, which is the federal debt of the US government. For now, hedge funds and investment banks are still dancing, but when the music stops playing — to quote the infamous words of a CitiBank CEO during the 2007-09 financial crisis — things will get complicated.