In collaboration with WEFRP, Chatham House will produce a report on ‘A Twenty-First Century International Monetary System: Proposals for Reform' at the end of 2009. Draft papers will be discussed at workshops on 13th and 30th October, and the Report will be launched at an event in December or January.

Welcome to the 8th WEFRP e-newsletter. While some have said that this is the worst recession since the 1930s, others claim it might be over already. Here we highlight the views of the members of the WEF research programme Prof. Simon Wren-Lewis from Oxford University and Prof. Andrew Scott from London Business School .

I hope that you will find this newsletter of interest. But, if you have received it in error, or do not wish to receive further issues, please unsubscribe.

Prof John Driffill, Programme Director

I hope that you will find this newsletter of interest.  But, if you have received it in error, or do not wish to receive further issues, please unsubscribe.

Is the Recession Over?

From the WEFRP, Professor Simon Wren-Lewis from the University of Oxford says:

"In 2010, there are likely to be three factors that in themselves could lead to further falls in output. First, the large stimulus that the government has provided to the economy will be coming to an end, and consumers will instead be focusing on the impact of future cuts required to stabilise the government's finances. Second, with substantial spare capacity around there will be little appetite for new investment by firms. Third, consumers may continue to increase their savings in an effort to bring their debt to more normal levels."

"To set against this gloomy outlook is one key factor that may be enough to lead to a significant recovery through 2010. Sterling has depreciated substantially over the last two years, and is now highly competitive against the Euro in particular. We may not have seen a boost to the UK trading sector yet for two reasons. First, there are typically quite significant lags before gains in competitiveness feed through to higher exports and lower imports. Second, gains in competitiveness may until now have been swamped by the slowdown in world trade."

"So in normal circumstances I would expect to see strong growth in UK net exports of goods and services next year. However there is one important element of doubt - one factor that makes circumstances abnormal. To increase output often requires firms to obtain short term credit: wages need to be paid before the firm gets paid for its output. This credit is normally provided by banks. If UK banks are still recovering from the credit crunch this lending may not be forthcoming, and this could dampen any stimulus from higher world demand for UK output."

"Macroeconomic forecasting is a pretty unreliable business at the best of times. The exceptional nature of the credit crunch makes it even more unreliable than usual. While I think we probably will see the economy being pulled in different directions along the lines suggested above, knowing which forces will win out is almost impossible to say with any certainty."

Prof Simon Wren-Lewis's and Prof Campbell Leith's research project Reinstating Fiscal Policy as a Stabilisation Device is summarised here. Professor Wren-Lewis's web page details may be found here.

Professor Andrew Scott from London Business School predicts:

"It's undeniable that economic recovery has begun. What is more debatable is whether this recovery is sustainable. At some point the enormous public stimulus will have to be scaled down and then reversed. It is far from clear that the private sector, whether it is consumption or investment, will be in a healthy enough position to replace this stimulus. With the banking sector deleveraging and firms and households wishing to hold less debt the expectation is for private sector demand to remain subdued. Recovery may therefore be short lived. It's also worth noting that for an economist recovery means that the decline in the economy has stopped, not that the economy has reached its pre-crash highs. With modest growth expected during the recovery it may take several years or more before this occurs."

"The other reason to fear a double dip is the banking sector. This recession is unusual in offering two ways in which banks can lose money. The first is through the fall in the value of securitised assets such as CDOs. The second is through the more conventional channel of nonperforming loans. However, normally nonperforming loans, corporate insolvencies, credit card defaults and unemployment peak around a year after the recession has passed. If the recession is ending now, then 2010 will lead to some grim news on corporate defaults, further bank write downs and potential bank failures and further capital injections. Very low interest rates may mitigate this problem but the depth of the recession will also mean high levels of insolvencies."

"I would suggest that the economy remains weak and the financial sector fragile. Further large losses are inevitable and the chances of a double dip recession significant. However in terms of US and UK banks and Global GDP although the future may be weak it seems unlikely that either 2010 or 2011 will see as big a fall as 2009. Further problems seem guaranteed but the worst should be behind us. However that doesn't mean recovery is entrenched. There still could be a lot of very bad things to come."

Prof Andrew Scott's research project Risk Sharing and Contingent Debt is summarised here. Professor Scott's web page details may be found here.