By now I hope you’ve read Edward Hugh’s profoundly depressing take on “From The Golden To The Grey Age,” a report published by Deutsche Bank that, to my chagrin, I haven’t been able to get a hold of as of yet. Tyler Cowen made reference to Hugh’s post recently, and I assume most of you guys are reading Tyler. (If you’re not, you should be.) The report suggests that business cycles might be getting shorter, i.e., that recessions will come more often in the years to come.

Now, without dwelling on the gory details, if we look at the spread between the upside, median, and downside cases, we could pretty rapidly come to the conclusion that the next US recession has a high probability of starting sometime between next summer, and the summer of 2012 – which, as you will appreciate, isn’t that far away. I am also pretty damn sure that Ben Bernanke and his colleagues over at the Federal Reserve appreciate this point only too well, and hence their imminent decision on more easing, since a recession hitting the US anytime from next summer will really come like a jug of very icy water on that very fragile US labour market, not to mention the ugly way in which it might interact with the US political cycle.

This, in a sense, is the headline. But Hugh uses this prospect to clarify the clash of national interests that underlies global imbalances All of the parties involved face extremely tough trade-offs, and the United States is in no position to play the role of benevolent global economic hegemon. The persistence of high unemployment in the U.S. is leading the Obama administration to double-down on economic “global unilateralism” over “unilateral globalism”:

My feeling is that the US administration have decided to reduce the unemployment rate, and close the current account deficit, and that the only way to achieve this is to force the value of the dollar down. That way it will be US factories rather than German or Japanese ones that are humming to the sound of the new orders which come in from all that flourishing emerging market demand.

That is, the global economy is, in the short-run, looking not unlike a zero-sum struggle to policymakers in the major economies, e.g.,

At the same time, two of the world’s largest economies – Germany and Japan – have very old populations, which effectively means (to cut a long story short) they suffer from weak domestic demand, and need (need, not feel like) to generate significant export surpluses to get GDP growth and meet their commitments to their elderly population. The very existence of these surpluses also produces tensions, and demands for them to be reduced. But this is just not possible for them, and Japan is the clearest case. For several years Japan benefited from having near zero interest rates and becoming the centre of the so-called global “carry trade”, which drove down the currency to puzzling low levels, and made exporting much easier. Large Japanese companies were even expanding domestic production and building new factories in Japan during this period (a development which had Brad Setser scratching his head at the time, trying to work out how the yen could have become so cheap).
Then the crisis broke out, the Federal Reserve took interest rates near to zero, and the United States became the centre of the carry trade. The result is that every time the Fed threatens to do more Quantitative Easing the yen hits new 15 year highs, even while the dollar continues its decline, with the result that Toyota are having a change of heart, and are now thinking of closing a plant in Japan to move it to Mexico. The present situation is just not sustainable for Japan, which is basically being driven back into what could turn out to be quite a deep recession.

Indeed, while Americans are prone to self-pity — for the very good reason that the impact of the Great Stagnation has been uneven, with the most vulnerable Americans suffering the most — the Japanese are arguably having it worse, despite a much lower (5.1%) unemployment rate. If the global economy does indeed become dog-eat-dog, the United States, by virtue of its size, has more room to maneuver and to impose its will on other economies.

But if we do indeed go down this beggar-thy-neighbor route, the future of global politics will be even uglier than we expect.

(I’m not really this gloomy. I think there’s a way out. Just not sure about the details yet. Famous last words. Thanks to Arpit Gupta for sending me Hugh’s post.)