Former Treasury Secretary Lawrence Summers likened the array of risks confronting the global economy to the pre-crisis summer of 2007, with the UK’s current troubles just one example of potential breakdowns.
“We’re living through a period of elevated risk,” Summers told Bloomberg Television’s “Wall Street Week” with David Westin. “In the same way that people became anxious in August of 2007, I think this is a moment when there should be increased anxiety.”
The summer of 2007 saw the first signs of strains over a collapsing US housing market, eventually morphing the following year into the worst financial crisis since the Great Depression.
Besides the UK, “I don’t think there’s any sign that I see -- yet -- of other markets being disorderly,” said Summers, a Havard University professor and paid contributor to Bloomberg Television. “But we know that when you have extreme volatility, that’s when these situations are more likely to arise.”
Among the dynamics behind the current fragility are substantial leverage, uncertainty about the economic policy outlook, unease about high rates of underlying inflation, volatility in commodities and geopolitical tensions tied to Russia’s Ukraine invasion and to China, Summers said.
Japan’s Investments
One particular area to monitor is the strains inherent in Japan’s policies right now, the former Treasury chief said.
On the one hand, Japan has been withdrawing liquidity from its markets, through its purchases of yen last week in an effort to support the exchange rate. But on the other hand, it’s injecting liquidity through the Bank of Japan’s continuing monetary easing. It’s an “extraordinary thing” Summers said.
“It will be interesting to see how that plays out,” Summers said. Japanese investors have “vast holdings” of fixed-income securities around the world, and that will be something to keep an eye on, he said.
As for the UK, “we’re in very complex and uncharted territory,” Summers said. While the Bank of England’s intervention in the gilt market stabilized things for a time, that may not prove lasting, he said, noting that the BOE’S plan is for operations to continue until Oct. 14.
No Vacations
The key problem is that markets don’t believe UK macroeconomic policy is sustainable, he said.
“It’s not going to stay stable forever on the basis of two weeks buying -- and it’s probably not even going to stay stable for two weeks, unless there is a sense that this is a bridge to the fundamentals being fixed,” Summers said of UK markets. “And that’s not what we are seeing from the indications we’re getting this morning.”
Prime Minister Liz Truss on Thursday ruled out a U-turn on the biggest set of tax cuts since 1972, saying “this is the right plan.”
Summers, who served at the Treasury during the Clinton administration and was director of the White House National Economic Council under President Barack Obama, said that given the current risks, “this is certainly not a time when very many firefighters should be taking vacations.”
“When a country as major as Britain is going through something like this, that is something that can have consequences that go beyond,” Summers noted. “It wouldn’t amaze me if we had situations like that in more places.”
He likened financial troubles to tremors before an earthquake. While sometimes the tremors pass, that’s not always the case -- as was true in 2007, he said.
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