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Analytical Studies

Issue Objectives for the Genoa Summit Meeting 2001:
Microeconomics

The Microeconomic Situation

General Comment: there is not expected to be anything of note raised with respect to microeconomic conditions at the Genoa Summit.  In terms of economic issues, Genoa should be, quite rightly, dedicated to the Macroeconomic issues that will reduce the possibility of recession.  That means monetary policy (the favoured instrument now), fiscal policy (tax relief, probably not expenditure), exchange rate policy (although the G8 stays properly away from naming this topic) and trade.

It is likely we will not see much of substance addressed to Microeconomic issues in Genoa.  Apart from Japan, whose prospects are thought to be poor, the remaining democratic market economies of the G8 do not exhibit heavy pressure to implement change in domestic markets, including the markets for labour, capital, goods and services.  It is possible that certain reforms may be addressed in labour markets, particularly in the movement of labour, but this is not to be expected in the face of the much more dominant world economic situation.

In his Outlook for the Genoa G8 Summit of 2001, Sir Nicholas Bayne pointed out that “…a sudden deterioration in the US economy…would bring the fate of the world economy onto the Summit agenda.”  It now appears that the domestic consumer component in aggregate demand in the North American economies, ever growing in importance, will remain robust enough to allay that prospect.  Recession continues to be the word that no one dares speak.

Overall, and again with the notable exception of Japan, it appears that the consumer is bucking the trend of the production sector and the former is taking up the slack that has appeared in the latter (in terms of inventory).  It is notable too that this has taken place in the face of the downturn in capital markets, particularly the market for stocks in the high technology sector.  Similarly, higher energy costs worldwide, as well as in the crucial perception of the American consumer who buys energy, have not currently impacted growth projections in a way that has led to pessimistic or recessionary thinking and the prospects for energy prices are thought to be positive.

General comments based on the Okinawa G8 Communiqué

Para 8 – “Reform efforts must now focus on maintaining the momentum behind      financial and corporate sector reforms, improving public and private sector governance and transparency, and strengthening social safety nets to ensure strong, sustainable growth and avoid future instability

This statement may apply to several subject areas and in Microeconomic terms represents a furtherance of the generally established commitment to private sector business promotion while it also provides room for manoeuvre in labour market reform.  This is not an immediate issue in Europe but will be expected to grow in importance in North America.  The prospect that these issues will be discussed at Genoa may be diminished by the urgency of the US and world economic conditions – do not expect much emphasis in Genoa.

Para 9 – “…the rapid diffusion of IT brings about fundamental structural changes to our economies. There are encouraging signs of a new reality in the improvement of productivity in the United States and, to a lesser extent, in other G8 economies. But to capitalise on the opportunities before us, we must renew our unwavering commitment to structural change in our own economies, including greater competition and more adaptable labour markets, underpinned by appropriate macro-economic policies.

The IT sector itself and applications of IT to broader divisions within the business production sector are clearly expected to contribute to two influences:

It is expected that this emphasis will be continued, although the language may be subdued by the current worldwide downturn in the high tech and telecommunications sectors.

Para 16 – “We also welcome the increasing co-operation between the International Labour Organisation (ILO) and the International Financial Institutions (IFIs) in promoting adequate social protection and core labour standards. We urge the IFIs to incorporate these standards into their policy dialogue with member countries. In addition, we stress the importance of effective co-operation between the World Trade              Organisation (WTO) and the ILO on the social dimensions of globalisation and trade liberalisation.

The general pressure from labour markets, in terms of wage demands, has been moderate during the past two years and there appears to be little prospect of such pressure; it will be interesting to investigate how much further the G8 intends to promote the idea of labour-producer cooperation, if at all.  Again, not much progress should be expected at this level in Genoa, as the world economic situation will dominate.

Para 52 – “…Make further efforts to remove inappropriate disincentives for people below retirement age to stay in the labour market;

We may expect further indications of the loosening of regulations in labour markets of the G8 countries at Genoa and this statement was a good indicator.

The G7 Finance Ministers Meeting earlier this year did not produce enough data to draw any conclusions about Microeconomic conditions or goals.

CANADA
(based on data as of March 2001)

Despite the downturn in the telecommunications and high tech sectors, which have resulted in very large losses and concomitant decreases in the demand for labour, the prospects for the Canadian economy remain modestly good for the remainder of 2001.  Prospects for 2002 are not as good if the slowdown in the U.S. continues.

These results and forecasts have had two effects on the consumer, labour and business sectors.  Consumer spending has not withdrawn substantially, while, simultaneously, business investment has declined.  Labour markets remain stable with the notable exception of looming public sector wage demands, which will increase through the summer and may spill over into the autumn.

Canada will be content with the goals of stable consumer demand, stability across labour markets and minor gains in business investment, but there are no guarantees, given the situation in the U.S.

The following results and projections apply:

EUROPEAN UNION

The euro zone countries have already and will continue to live through one truth for the duration of 2001, that is the weakness of the euro in relation to the US dollar.  The strong dollar policy may run counter to policy instruments being used by the European Central Bank.

Second, all Euro zone countries are awaiting events in the United States.

The European Central Bank is considered to have reacted slowly to events in the US and this increases the risk of a more significant and longer lasting period of sluggish growth, if not recession, in Europe.

GERMANY
(based on data as of May 2001)

The German economy is expected to continue on the trail of ‘flat expansion' for the duration of 2001.  As with all of the other economies, the micro foundations of the German economy will be influenced by the situation in the US for the remainder of the year and into 2002.

Germany will likely continue to seek modest growth in the overall economy and hope that the combination of a downturn in the US and high energy prices do not derail consumer demand, which will continue to be modest.

The following results and projections apply:

ITALY
(based on data as of March 2001)

The Italian economy benefited more than some other economies, Germany and France included, from the relative devaluation of the euro in 2000.  This led to buoyant domestic demand with consumer expenditure leading the way.  Energy prices served to reduce consumer demand in the later half of 2000 and this trend continued into 2001.  The service sector was the real source of growth in 2000 as other sectors, construction and agriculture in particular, contributed smaller amounts.

The following results and projections apply:

RUSSIA

Given the current state of the Russian economy and its prospects in the medium term, it is the opinion of this writer that there is little useful commentary to be made on the Microeconomic conditions prevailing in that country.

The traditional types of markets that are associated with the developed western economies may be expected to emerge once the Russian economy has achieved some semblance of stability.

Russia, as a major exporter of energy to Europe, may be expected to play a role in medium term business demand in terms of factor input prices.

U.S.A.
(based on data as of May 2001)

It is apparent that the general economic situation in the US is the single most important factor in determining what will occur throughout the remainder of 2001 and into 2002 throughout world economies.  The current challenge faced by the US Federal Reserve is to walk the line between maintaining consumer confidence while simultaneously promoting business investment and not allowing the spectre of inflation.

Added to the general situation, the US faces two energy crises:

While European consumers have reacted to higher energy prices with purposeful reductions in expenditure, which have resulted in more modest growth in final demand, US consumers are not thought to have a similar level of tolerance and continuing high energy prices could cause a significant downturn in expectations in the consumer market.  The summer weather has reduced this trend but lower energy prices must appear on the American agenda, especially going into the winter months.

The following results and projections apply:

JAPAN
(based on data current to June, 2001)

Simply put, Japan is in danger of slipping into yet another recession, it's second in two years and fourth in the past decade.  Rapidly slowing business investment, weakening exports and flat consumer spending have all contributed to a 0.2 per cent shrink in the Japanese economy in the first quarter of 2001.  The present quarter is showing evidence of further shrinkage.  The poor Japanese economic outlook is not aided by current American economic situation, especially since the U.S. is Japan's most important export market.

Without a significant increase in both capital investment and consumer spending, the trend is likely to continue resulting in the government not meeting its targeted growth rate of 1.7% growth for the fiscal year or worse, resulting in negative growth in the Japanese economy for this fiscal year.

Some other strong quarterly indicators of economic slowdown include: an unemployment rate of 4.8% (the unemployment rate has now returned to Japan's post –war peak) and decreases in retail sales (by 2.3%), household spending (by 4.6%) and industrial output (by 1.7%).

New Prime Minister Junichiro Koizimi is being pressured by the weak economic situation.  Two months ago, he was elected on a reformist platform that may prove hard to meet.  His Minister for Economic and Fiscal Policy has indicated that unless Japan seriously devotes itself to reforming their economic structure, economic growth will not be increased.

On May 25, 2001, the Minister of Economy, Trade and Industry indicated that Japan needs to carry out structural reform in order to prepare both for a "liquidation of the past" and for the economic "challenges for the future."  To this end, the government has set out 15 policy proposals to achieve the creation of new markets and new jobs which include proposals revolving around building innovation systems and fostering venture businesses to create new industries and the reform of employment systems and maintenance of a safety net.  The Minister stressed that in order to cope with fears about the employment situation and other matters during this process, the Japanese must be ready to ride out the difficulties caused by moving towards a unified employment policy based on support for skill development, while speeding up reform aimed at the creation of new markets and new jobs, and proceeding with business reconstruction.  To be accepted, any reform will have to be presented to the Japanese public in a clear vision as reform will most likely involve a drastic shift of public and private sector resources to programs that will help to promote these developments. 

Further, in a mid-June speech in Tokyo, the Prime Minister spoke of moving ahead with structural reform and starting to think with a mid to long-term view of the economy.  To do this, the Prime Minister will have to move forward on acquiring control of the country's huge government debt, tackling the steadily rising deficit, cleaning up the current financial system, and consider drastic cuts to spending on regional public works and eventually privatizing services like the postal savings system.  Each of these movements would require enormous political capital and the overcoming of expected fierce opposition, however, the continued bad economic news may quell opposition to structural reform that the current government, like past governments, is experiencing. 

While it appears that the thinking of the new government is well founded, this is not the first time that the Japanese have come to a G8 Summit with lofty new goals and promises of restructuring their economy.  It remains to be seen whether any structural change will actually occur.


UNITED KINGDOM
(based on data current to May, 2001)

At a glance, the economy is booming in the UK and all indicators are positive.  Economic growth was 2.6 per cent in the year to 2001Q1, a figure which is consistent with the Budget forecast for growth of 2¼ -2¾% in 2001 and beyond.  Other economic indicators  such as service sector output, manufacturing output, industrial production and business and manufacturing investments have all increased over the past year.

The UK is experiencing the longest period of sustained low inflation since the 1960s.  In May, interest rates were cut by ¼ percentage point, to 5¼ per cent.  The previous change – a quarter-point cut – took place in April 2001.  The official interest rates have not been so low for so long since the 1960s and the long-term interest rates are at their lowest levels for over 35 years.

Employment in the UK is at a record high.  April 2001 figures show an increase of 67,000 on the previous 3 months, and up 261,000 on a year earlier.  The ILO unemployment rate (5.0%) is the lowest rate since 1979.  ILO unemployment fell 65,000 to 1.48m in the three months to April (compared with previous three months), and was down 198,000 on a year earlier.   The social benefits claimant count in May was 0.977 million, down 3,200 on April.  The claimant rate (3.2%) is the lowest since September 1975.   March, 2001 figures show that over 290,000 young people have moved into work through the New Deal.

Around 150,000 young workers will be able to take advantage of the new National Minimum Wage youth hourly rate which came into force on June 1, 2001.  The rate increased from £3.00 to £3.20.

A priority for the Blair government is the delivery of improved public services.  The state of public finances in the UK look good with the Budget 2001 being at least as tight as set out in Budget 2000 and the Pre-Budget Report.  There was budget surplus of £20.2 billion in 2000-01.  Public sector net debt peaked as a percentage of GDP in 1997, having risen sharply during the early 1990s.  It has fallen from 44.0 per cent at the end of financial year 1996-97 to 31.7 per cent at the end of 2000-01.

While the Blair government has been criticised by many traditional labour supporters as being too fiscally conservative, they are committed to delivering high quality public services.  Priorities for the 2002 Spending Review include:

The British government has implemented a series of consultations aimed at various sectors of the economy.  Two examples of the consultative process are the review of the supply of scientists and engineers and new proposals to increase saving and asset partnership for all.  The review of the supply of scientists and engineers is responding to concerns that innovative businesses in the UK sometimes find it difficult to recruit the skilled researchers.  In addition to examining the numbers of scientists and engineers in the UK and the jobs they do, the consultation I will be looking at the skills needed by businesses for their R&D activities, and at the skills gained by science and engineering graduates and postgraduate students, particularly PhD students.  A major focus of the work will be to investigate how businesses and universities communicate and collaborate in providing relevant training to students.   With respect to the proposals to increase saving and asset partnership for all, the Government believes that saving and asset ownership are an important complement to the three main pillars of its welfare strategy: work and skills, income, and public services. The Government has done much to extend the benefits of saving and asset ownership through Individual Saving Accounts, Stakeholder Pensions and the Pension Credit. But there is strong evidence to suggest that households on lower incomes are not saving enough for themselves, or their children, to enjoy the benefits and opportunities of asset ownership. The review will examine options for policies designed to increase rates of saving and asset ownership, both among the lower-income households of today, and in generations of families to come.

Given the positive economic outlook in the UK and their recent status as being Europe's number one location to invest, look for the UK to stress the importance of building the economy upon a strong social framework and developing new and innovative ways to combat social dependency and responding to the increasingly globalised nature of both individual countries' economies and the world economy.

FRANCE
(based on data current to June, 2001)

While growth is expected to continue, the American economic slowdown has started to affect the French economy.  The Bank of France has recently revised the projected growth rate for the French economy downwards to 2.5% growth from 2.9% growth in the face of the decline in American production. France will therefore be concerned about the decline of exports to the U.S. and will be seeking other ways to improve their trade balance.  France may want to address these concerns in Genoa.

The Bank of France has also released figures showing that the cost of consumer goods has increased to 0.7% in June from 0.5% in May.  It is widely believed that the high cost of oil has been a significant factor for these inflation numbers.  Additionally, the introduction of the printed EURO currency on December 31 2001 is causing some to fear inflation as it is anticipated that retailers may take this opportunity to raise real prices when they change the price tags from Francs to Euros.

Given that many of the G8 members are concerned about the economic slowdown that is slowly spreading as well as increasing estimates for inflation, this will probably be a key area of discussion for all as it has been for key meetings over the last several months leading up to the Genoa Summit.

France may have to face hard economic choices in the near future, especially if the brain drain of recent continues.  While France's superior education system has generated brilliant graduates in almost every field, increased globalisation of the French economy has meant that young people from France are more likely than in the past to look for better opportunities abroad. Some 250,000 French people are said to live in Tony Blair's free market Britain with an estimated 500,000 having migrated to the United States. They are attracted by higher salaries, more generous stock options, lower taxes, more enticing opportunities to start one's own business, to “get rich” and to enjoy more flexible working patterns. Similar developments may occur in the future between France and Germany if Gerhard Schröder's fiscal reforms are to be fully implemented.  While the French government might have a clear perception of what is at stake, convincing young and skilled French citizens to stay in France might prove to be a significant challenge.

France may address the brain drain issue in Genoa within a discussion on labour market and work force mobility.

Prepared by Allison Smith and John King

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