A speech delivered by Dr. Gerard Lyons at Virtuoso Travel Week 2019
I’m going to talk about three areas. First, about the current global situation and the key message there is considerable uncertainty. Second, if that depresses you too much, I’m going to lift the spirits by highlighting some of the key underlying themes that are impacting the global outlook, and these are themes that will impact all industries including travel, and I think we should be positive about them. But third and finally, we should also be mindful of unconventional politics and policy. And then, I will finish off by talking about what that means for the travel industry.
When one looks at the global picture for any country whether it’s America, Brazil, Australia or France, it needs to be seen in the context of two big events that have continued to influence us over the last decade. First, is the global financial crisis of 2008. After that global financial crisis, the West is still coming to terms with what happened. Recoveries have been weak by historic standards. America, for instance, this summer, experienced its longest ever economic recovery. The trouble is many people haven’t noticed. The recovery is long, but it’s very weak by historic standards. Also, in the wake of the 2008 financial crisis, interest rates in the West are incredibly low.
The shift in the balance of power is the other big factor that we need to take into account. The shift in the balance of power means that more and more growth is coming from the rest of the world. It’s the rise of China, India, and the emerging economies. They are exporting competition to the rest of the world. It’s keeping wages down, adding to political discontent elsewhere. And it’s keeping prices down, adding to competitive pressures for industries.
The world economy currently is facing considerable uncertainty. Twice in the last few years, the financial markets have been caught unawares. The first time was in 2016, when the world economy proved far stronger than the financial markets expected. And the second time was last summer, when the world economy weakened far more than people expected. There are many different measures of global GDP growth. It really doesn’t matter which one you use, as long as you always use the same one to get the story right.
After the financial crisis of 2007-2008 we had the first outright global recession since the second world war. The world economy contracted. Normally, economists think on this global measure of anything 3% or below as indicating recession. The world economy, since the financial crisis, has hovered around 3.2%, 3.3%, 3.4%. But in 2016, growth picked up quite sharply. It continued into 2017 and then started to lose momentum last year. The expectation from all forecasters is for growth to rebound next year, but recent events have made people start to fear that will not be the case.
Financial markets are now fearing a recession in the West and a slow-down globally. Why this change? Three things have happened over the last 18 months to lead to a change in this sentiment. Policy in China; President Trump’s attitude towards trade, which has escalated the trade war; and central banks. I’ll speak about each of these in turn.
To understand what might happen over the next 12 to 18 months, you need to just understand the thinking behind policy in China, the thinking behind policy for President Trump and trade, and what central banks are likely to do.
Let’s take China. Chinese growth and industrial production has slowed significantly. I first visited China in 1994 and continue to visit. China is going through phenomenal change. It’s now the second biggest economy in the world, but its’ income per head is still incredibly low, on the par with number of Caribbean economies.
China currently is experiencing a significant political change in terms of policy focus. It’s gone from being a low income country to middle income, and the challenge it faces is to overcome what’s called the middle-income trap. Countries have often gone from low income to middle income, but not many of them have managed to go from middle income to high income. China plans to do so, and I expect it will.
A number of years ago, I testified to a UK parliamentary committee about China. And after speaking for a few minutes, it became clear that I could bamboozle all the people around the room with data. And in the end, if you use too much data, people come away confused. I, therefore, decided to describe China as a Robin Hood, a Goldilocks, and a Superman economy. I think that is worth remembering now because it helps to explain some of the big issues. Robin Hood took from the rich and gave to the poor. China is seen, particularly maybe by President Trump, as taking from the West. But when one goes across the rest of the world, China is seen as being very positive. It is helping spur growth across the emerging regions, including East Asia.
It’s a Goldilocks economy in the sense that the temperature of the porridge has to be just right. For China, the key challenge for policymakers is to get the temperature of the economy just right. Too cold, unemployment picks up and tensions may emerge. Too hot, they start to feed problems in terms of debt and leverage. And in recent years, the big worry in China has been a buildup of debt and leverage. So they’re trying to ensure that the economy is just warm enough, but it doesn’t overheat. And the buildup of debt has been a big concern for the international markets, too.
The Superman factor is that China is an up, up and away economy. Its previous kryptonite problem was a lack of resources. Its current kryptonite problem is that to move from middle income to high income, it needs access to technology and access to intellectual property rights. And this is really at the heart of the trade dispute. And this is really at the heart of the trade dispute. President Trump doesn’t believe that China is playing fair, and he would like to maybe see a fairer playing field. But maybe at the same time limit China’s access to some of that technology expertise it needs.
At the beginning of last year, Liu He, China’s main economic person (Vice Premier of the People’s Republic of China), spoke in Davos. His speech had many aspects to it, but to understand policy in China, I would say the three Ps came out. Pollution control. China is at the forefront of the green economy. (People don’t always appreciate that.) Poverty reduction. Reducing poverty, taking 80 million people out of extreme poverty was the aim. And the third P, which led to China’s tightening policy over the last year was the prevention of risks. In particular, the build-up of debt and leverage. Hence, China tightened policy last year.
But by the middle of the year, they realized they had gone too far. Partly because of what they themselves were doing and also partly because they were then hit by the unexpected escalation of the trade disputes. Thus domestic policy changed in China. Since the middle of last year, China has been easing policy. It is called prudent monetary policy, relaxed fiscal policy. They’re cutting taxes and, in a nutshell, they’re taking measures to ensure that the economy, even though it will be more volatile, will be stronger in terms of being able to withstand shocks elsewhere.
What about trade? Global trade has slumped in the last year and this is a big worry. One needs to differentiate between tactics and strategy. But it seems that President Trump’s strategy is to really push the trade dispute even further now than people expected.
Now, China has a big trade surplus with America. In 2018 it was $420 billion. Tightening the trade disputes by escalating it further by putting tariffs on Chinese goods is unequivocally negative for U.S. consumers. It will also be negative for China in terms of exports. Although recent data showed that China is starting to export to other countries, in turn.
There are always winners and losers. If China is hit with higher tariffs, maybe other countries, say Vietnam, maybe Bangladesh, will step into the fray. But at the end of a day, tariffs are a tax paid by the domestic consumer. The worry for global markets is that we’ve now reached the situation where it might incur a loss of face for either President Trump or President Xi Jinping in terms of steps needed to de-escalate.
In economic terms, we clearly want it to be de-escalated but the markets are now factoring in that geopolitics takes over. And the perception is that it might not be possible to de-escalate ahead of next year’s US election. But the worry is that the deterioration of the trade dispute really impacts global growth. It’s not only hitting global growth, it’s hitting industrial production.
On top of this we have technological change impacting the auto industry. When one looks at the auto industry and trade tensions, global industrial production is very weak. The second of the three factors that led to the slowdown last year, the trade dispute, is not being reversed. The third factor is what we need to keep a focus: on interest rates. In the wake of the global financial crisis, central banks around the world, including the US Fed, came to the world’s rescue. This chart shows US interest rates.
Over the last decade, central banks have been almost unconventional in what they’ve done. They’ve been unlimited in the resources they’ve used. But now we’re seeing a U-turn. Having raised rates and having tightened policy last year, central banks are now easing policy, led by America. They cut a few weeks ago. And they have also, in recent years, printed money.
This graph shows the balance sheet of the Fed and the amount of money that the US Fed has been printing, quantitative easing. America ramped up the amount of printing of money a few years ago. They kept it stable. And they’ve been tightening. When you add these two together, the fact that America has stopped printing money, so to speak, and also that it’s raised rates in previous years, we have a combined situation where US monetary policy is a lot tighter now than it was.
Given what’s happening in trade and the US economy, where there are signs of a recent slowdown, pressure is now being put on the Fed to cut rates and ease policy significantly. If you think of the three factors that I mentioned, accounted for the slow-down in the world economy last year: the tightening in China that’s now being reversed, trade tensions not been reversed but escalated, monetary policy, not just in America but globally, is where the focus is.
Having tightened in previous years, we are now seeing a policy U-turn. Central banks were right to raise rates previously, but they are now right to cut rates this year. Two weeks ago America and Brazil eased rates. Last week it was Thailand, New Zealand, and one or two others.
So central banks are now easing policy. And if that continues, then it might be sufficient to stop the West going into recession. And it will be sufficient to allow global growth to stabilize later this year. But further policy easing is needed. We are also seeing a situation where the dollar is incredibly strong.
But the other area where the markets have become very spooked is what’s happening in China. The below graph shows the Chinese currency, the Renminbi. As it goes up, the dollar is stronger against China. Last week the Chinese currency hit its lowest level for over a decade.
The worry is that China is going to carry out further depreciation of its currency. That is not the intention. I think the Chinese want to stabilize their currency. But just as one needs to keep a focus on what happens to US interest rates, one needs to keep a key focus on this. Because what we’ve seen in recent years is Asia, led by China, has exported low inflation to the rest of the world. It’s forced companies to, basically, have to invest more to compete. If there was a weak link from the Chinese currency, the concern is that it would add to competitive pressures across the globe.
When one brings all this together, the first part is to recognize that the world economy has slowed significantly. It’s important to recognize that financial markets are now very worried about what lies ahead. But whichever economy one looks at, the outlook depends on the interaction between the economic fundamentals, policy and confidence. Policy is now able to respond and we should expect further policy response. But what happens on confidence may well be heavily impacted by what happens on the trade dispute, and that’s a concern.
While that might worry you, let’s get positive. In this second part I focus on some underlying drivers. Here are three numbers to remember: 32, 62, 86. They’re the size of the world economy in trillions of dollars. $32 trillion was the size of the world economy at the beginning of this century. $62 trillion was the size of the world economy the evening the financial crisis started. $86 trillion was the size of the world economy at the end of last year. And it’s getting bigger.
Despite everything, global growth is rising. How can it be that we’re always so pessimistic in the west and yet the world economy is growing? Well, growth is often far away from where people realize.
In fact, America is in pretty good space. I think the key region of global growth that will be dominant for the travel industry is the Indo-Pacific. From India in the west to America in the east. India, people focus on the slow down now, but has huge potential. I’ll come to that in a second. Northeast Asia is clearly a dynamic area, as is southeast Asia. But the whole Indo-Pacific region, more global growth is going to come and, is already coming, from this region.
Then there’s perspiration and inspiration. 1 in 12 in the world’s population is an Indian under 28. India’s population is incredibly young. So is South Asia’s. Also, Africa’s working age population is set to increase by twice that of India’s and china’s combined in the next 15 years. Demographics is a dividend if you plan for it. And for the travel industry it’s a positive, if people plan for it. It’s a potential disaster for some if they don’t plan for it.
But it’s not just perspiration, it’s also inspiration. We are currently in the fourth industrial revolution. This chart shows some of the things that are happening now and these are areas which when combined point to reasons to be positive about global growth despite the current slow-down. Any one of these by itself is significant. When all combined it’s just mind blowing.
The world economy will experience incredibly strong growth in future years. But all industries will go through dramatic near term change. Previous industrial revolutions have had three impacts on jobs. First is a negative one when technology substitutes for existing jobs and jobs are lost. But then there are two impacts that are positive. One is an income effect as people are able to afford more as they start to have more money and technology lowers the price of new products. Mobile phones is a classic example. People buy more of them, more jobs are created in those areas. Then, there’s a creative effect. Jobs are created in areas that we don’t even know about yet. This has happened in every previous Industrial Revolution, and it will happen now, but it does mean that while you should embrace change, it also means you should anticipate significant near term turmoil.
Urbanization is not talked about enough. More and more of global growth is coming from cities. The top 600 cities currently account for half of global growth. In 20 years’ time, the top 600 cities are expected to account for close to two-thirds of global growth. Guess what? These cities are in parts of the world where many people might not want to travel to at the moment.
Some of the biggest growing cities are inland in China. That’s also where the emerging middle class is coming from. It’s expected that the West, which currently accounts for 157 of the top 600 cities, will, in 20 years time, account for only 20 of them. This is a big change.
China’s Belt Road is one of the most important events and developments you need to take into account. China is stretching out westwards, southeastwards, over land and sea, building up its economic, and you might argue political, ties. The Belt Road takes China across 62 countries. It’s exporting its way of thinking maybe, but it’s also transforming many of the countries. In China, the two cities that people tell me that are likely to benefit the most from the Silk Road are Istanbul and Urumqi. These are significant changes that are already impacting the way some countries and governments are planning, and they will impact the travel industry.
Finally, in this section, is the real positive, it’s about the scale of opportunity. Now, Western Europe and the States have lots of older people who have high incomes, so even though economies like those in Western Europe might have a slower pace of future growth, they are still a big market.
Currently, 1 in 14 people in the world is someone aged 65 or older, not that 65 any longer is old. In 20 odd years’ time, that’s about to fall to 1 in 6, so older people are the rapidly expanding part of the globe’s population. You have younger people in India, South Asia, younger people in Africa, but older people in Western Europe, certainly in Western economies and in China, Korea, and also, Japan.
Dramatic change and increasing opportunity. Climate change is impacting not just the environment in the way people think about it, but it’s also impacting the way younger people think about a broader range of ideas. IT fits alongside the sharing economy, Airbnb and who knows what else it will be in the future. If you can’t own the capital, you rent the capital. To conclude the second part, it’s about the longer term changes you should take into account.
Third and finally, it’s about unconventional politics and policy. We saw some unconventional politics last night in Argentina with the President losing a key vote. We see unconventional politics across many parts of the world, with autocratic leaders coming more and more to the fore.
We’re also seeing unconventional politics in the way in which countries are responding, and also we’re seeing tensions come to the fore. Who a year ago would have predicted that the two cities that would see the most domestic problems would be Paris and Hong Kong? No one, I would guess. Therefore, no one should rule anything out.
Brexit, I personally think, will be a positive for the U.K. The U.K. has not been able to convey a positive message around Brexit, partly because the previous Chancellor and Prime Minister believed Brexit was about making the best of a bad job.
The current Prime Minister very much views Brexit as an opportunity. Since the Brexit referendum three years ago, Britain has added one million new jobs. It’s also benefited from huge technology investment from all the tech-based companies who plan to make London their tech center outside of Silicon Valley. The point is that the U.K. economy is a very open, flexible, and adaptive economy. Regardless of what you think about the politics, the U.K. economy has the ability to adapt and respond. The two final messages are linked to this.
Inflation is very low because of competitive pressures, and as a result, central banks have the ability to do more. I mentioned the Fed earlier in terms of printing money. The graph shows the total assets of global central banks. When it goes up, it means effectively they’re printing money, and since the global financial crisis a decade ago, they have printed money on a phenomenal scale. In recent years, they started to stabilize because they wanted to withdraw from that policy stance. Given the slow-down that we’re seeing, they’re likely to do more.
Central banks will act as a shock absorber, but this graph shows maybe the biggest shock absorber, global debt. This is a positive and, also at the same time, a worry. A positive is that in an environment of low interest rates it’s possible for governments to spend more. The challenge is that debt levels have globally continued to rise. The economic crisis of a decade ago was caused by rates being low, too much liquidity, and too much debt. But it has an implication, it means that central banks don’t have to do it all, governments can also step in.
What does all this mean? Economies across the globe are being impacted by the changes. All are impacted. Australia, for instance, is cutting rates to probably half a percent by the end of this year, is about to have its first current account surplus for 44 years, because they’re exporting iron ore to China. Another example, Brazil is seeing a slow-down in growth. It had a recession ’15-’16, and then picked up. It’s now seeing interest rates being cut, and it’s likely to cut rates more. Economies that are key and important are all being impacted by this changing global picture.
Implications When you look at the travel industry, I think one needs to be pragmatic, not pessimistic, about the global economy at the moment. Accept that there is a slow down, expect that there will be a policy response, and clearly it’s the G2, China-U.S. relationship that is vital to this. When one looks at the top 1% or 0.1% of earners, how global financial markets are impacted will have an impact on their spending decisions in the next year or so. Equity markets currently look very vulnerable.
The policy response will also be key. If governments are spending more money, they may want to start eventually taxing high earners even more. In Britain, for instance, the top 1% of earners pay 27% of the tax. Tourism might also be seen as an area that can be taxed more. We are starting to see a reaction in terms of overtourism, whether it’s Amsterdam or Barcelona, but also alongside the fact that international investors are buying up housing and other assets in Western economies one might see more interventionist policies.
Climate change will become more central in the debate. Will people therefore feel that they should travel closer to home rather than further away? All of these influences will bear on your target audience, but at the end of the day, I think that you should embrace change. While you should be concerned about the global slow down at the moment, do not lose sight of some of the key underlying core issues that I’ve talked about: perspiration and inspiration, urbanization, and all the technological change that goes along with all of this.
New trade corridors have become very evident in recent years, whether it’s goods, services, people, commodities, but also that will become very evident in travel too, in the future.
To conclude: uncertainty about the global slow down now; don’t under-appreciate the longer term trends; and unconventional politics and unconventional policy will come to the fore. But, at the same time, particularly in the travel industry as it is a growth industry, you have the ability to influence the debate by reaching out to the regulators and to the politicians. You can actually influence the debate, not just be passive in your reaction to it.
Thank you for your time. _______________________________________________________________
Gerard Lyons is an expert on the world economy, monetary policy and financial markets. From 2013 to 2016 he was Chief Economic Advisor to Boris Johnson, the Mayor of London then, and now the British Prime Minister. Currently Lyons holds a portfolio of roles, including independent non-executive director at the Bank of China (U.K.) and Chief Economic Strategist at challenger wealth manager Netwealth. In addition, Lyons sits on the Advisory Board of The Grantham Institute of Climate Change and the Environment at the London School of Economics and Imperial College; and is a member of the Advisory Board of Warwick Business School.
He has testified to the US Senate Banking Committee and the US Congress Foreign Affairs Committee and spoken at the EU-China Summit in Beijing, and at Davos and other global meetings. He is a published author and has been a regular on international TV and written press columns across the globe