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There's No Quick Fix To The Global Economy's Excess Capacity

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http://www.telegraph.co.uk/finance/comment...s-capacity.html

There's no quick fix to the global economy's excess capacity

There is one overwhelming fact about the world economy that cannot be wished away. Excess capacity in industry is hovering at levels not seen since the Great Depression.

By Ambrose Evans-Pritchard

Published: 6:57PM BST 15 Aug 2009

Too many steel mills have been built, too many plants making cars, computer chips or solar panels, too many ships, too many houses. They have outstripped the spending power of those supposed to buy the products. This is more or less what happened in the 1920s when electrification and Ford’s assembly line methods lifted output faster than wages. It is a key reason why the Slump proved so intractable, though debt then was far lower than today.

Thankfully, leaders in the US and Europe have this time prevented an implosion of the money supply and domino bank failures. But they have not resolved the elemental causes of our (misnamed) Credit Crisis; nor can they.

Excess plant will hang over us like an oppressive fog until cleared by liquidation, or incomes slowly catch up, or both. Until this occurs, we risk lurching from one false dawn to another, endlessly disappointed.

Justin Lin, the World Bank’s chief economist, warned last month that half-empty factories risk setting off a “deflationary spiralâ€. We are moving into a phase where the “real economy crisis†bites deeper – meaning mass lay-offs and drastic falls in investment as firms retrench. “Unless we deal with excess capacity, it will wreak havoc on all countries,†he said.

Mr Lin said capacity use had fallen to 72pc in Germany, 69pc in the US, 65pc in Japan, and near 50pc in some poorer countries. These are post-War lows. Fresh data from the Federal Reserve is actually worse. Capacity use in US manufacturing fell to 65.4pc in July.

My discovery as a journalist is that deflation is a taboo subject. Those who came of age in the 1970s mostly refuse to accept that such an outcome is remotely possible, and that includes a few regional Fed governors and the German-led core of the European Central Bank.

As a matter of strict fact, two- thirds of the global economy is already in “deflation-liteâ€. US prices fell 2.1pc in July year-on-year, the steepest drop since 1950. Import prices are down 7.3pc, even after stripping out energy. At almost every stage over the last year, in almost every country (except Britain), deflationary forces have proved stronger than expected.

Elsewhere, the CPI figures are: Ireland (-5.9), Thailand (-4.4), Taiwan (-2.3), Japan (-1.8), China (-1.8), Belgium (-1.7), Spain (-1.4), Malaysia (-1.4), Switzerland (-1.2), France (-0.7), Germany (-0.6), Canada (-0.3).

Even countries such as France and Germany eking out slight recoveries are seeing a contraction in “nominal†GDP. This is new outside Japan, and matters for debt dynamics. Ireland’s nominal GDP is shrinking 13pc annually: debt stays still.

Global prices will rebound later this year as commodity costs feed through – though that may not last once China pricks its credit bubble after the 60th anniversary of the revolution in October. My fear – hopefully wrong – is that we are being boiled slowly like frogs, complacent until it is too late to jump out of the deflation pot.

The sugar rush of fiscal stimulus in the West will subside within a few months. Those “cash-for-clunkers†schemes that have lifted France and Germany out of recession – just – change nothing. They draw forward spending, leading to a cliff-edge fall later. (This is not a criticism. Governments did the right thing given the emergency). The thaw in trade finance has led to a V-shaped rebound in East Asia as pent up exports are shipped. But again, nothing fundamental has changed. Deficit countries in the Anglo-Sphere, Club Med, and East Europe are all on diets. People talk too much about “liquidity†– a slippery term – and not enough about concrete demand.

Professor James Livingston at Rutgers University says we have been blinded by Milton Friedman, who convinced our economic elites and above all Fed chair Ben Bernanke that the Depression was a “credit event†that could have been avoided by a monetary blast (helicopters/QE). Under that schema, we should be safely clear of trouble before long this time.

Mr Livingston’s “Left-Keynesian†view is that a widening gap between rich and poor in the 1920s incubated the Slump. The profit share of GDP grew: the wage share fell – just as now, in today’s case because globalisation lets business exploit “labour arbitrage†by playing off Western workers against the Asian wages. The rich do not spend (much), they accumulate capital. Hence the investment bubble of the 1920s, even as consumption stagnated.

I reserve judgment on this thesis, which amounts to an indictment of our economic model. But whether we like it or not, Left or Right, we may have to pay more attention to such thinking if Bernanke’s credit fix fails to do the job. Back to socialism anybody?

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how can the world have excess capacity when at least 3 billion people live nearly like humans did back 10k years ago if not worse.

forgetting that, how can we ever have excess capacity?

you could perhaps say we shouldn’t have build x and built more of y but you cannot say we have intrinsically too much x.

if we did we would slowly turn off the excess.

what he is saying is that there is too much competition so margins are very low and hence people will go bankrupt. however that is the capitalistic system. the worse go bankrupt and the best make a profit.

has been the human way for at least tens of thousands of years.

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I read this and wondered.

As far as I know the factory still needs some people to operate they are not all self mending, self healing, self monitoring, self taining, self working robots. So to increase capacity of the existing factories you will have to increase employment in the factory at sometime.

The problem is really with the companies that build factories or make machinery in use in factories or fit out factories. Because the world has bought too much capacity in the boom times.

Even that argument is facile because in tough times companies have to invest in more effiecient machines to make cheaper or higher quality goods to compete.

So in summary not good for employment levels in countries that make factories but may be ok for conturies that have invested in the factories, but I think AEP is a bit of course with his argument.

Edited by ralphmalph

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how can the world have excess capacity when at least 3 billion people live nearly like humans did back 10k years ago if not worse.

forgetting that, how can we ever have excess capacity?

you could perhaps say we shouldn’t have build x and built more of y but you cannot say we have intrinsically too much x.

if we did we would slowly turn off the excess.

Excellent questions - the overcapacity thing seems to be an intellectual wormhole some of the left get stuck in because underneath they feel people doing things is somehow damaging

what he is saying is that there is too much competition so margins are very low and hence people will go bankrupt. however that is the capitalistic system. the worse go bankrupt and the best make a profit.

has been the human way for at least tens of thousands of years.

Even if margins were low through high competition, you would expect the 'cost' of this to balance out with everyone passing on low prices and high efficiency to everyone else.

What is actually happening is high deadweight costs

Edited by Stars

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