The year in retrospect

As preparation for this column, I have been browsing through my files of press cuttings for the year. And, these make me wonder whether 2005 would be considered as marking a paradigm shift in global economic power. Financial markets too have witnessed some major changes.

First, the dollar's exchange rate. I had speculated about the possibility of a sharp fall, before concluding that 'as Keynes so wisely said, never predict the level and the timing together'.

In retrospect, how wise has Keynes' advice proved to be! Instead of falling, the dollar has appreciated significantly against both the euro and the yen (and indeed the Indian rupee) since then, helped by two major developments: first, the Federal Reserve continued to gradually increase interest rates, thus widening the differential with the euro and the yen.

Secondly, dollar flows into the US also got a one-time boost this year because of the tax concession available to US multinationals for repatriating home the accumulated profits of foreign subsidiaries.

Both these factors are in for a change. The cycle of rise in short-term rates in the United States may well be coming to an end, even as the European Central Bank and the Bank of Japan start moving in the opposite direction, narrowing the interest differential.

Secondly, the tax concession expires at the end of the year. These two developments, coupled with the growing and increasingly unsustainable deficit on the current account (an estimated 6.4 per cent of GDP in 2005 and a projected 7.5 per cent in 2006!), lead me to expect a downward correction in the dollar's exchange rate over the medium term.

Still on the exchange rate, after making a 2 per cent adjustment, back in July, the Chinese have resisted all international pressure to move faster. Will a lack of progress on the exchange rate issue lead to the threatened imposition of a 27.5 per cent tariff on Chinese imports?

While such a move by the US Congress can hardly be ruled out, one of the defining events of the year would surely make the Americans more cautious: the way the European Union's Trade Commissioner had to rush to Beijing to get an agreement to limit the exports of Chinese textiles.

As Chinese exports started flooding the EU market after the expiry of quotas, the EU authorities fired the first shot in what the media termed as the 'bra war', in a take-off on the galloping imports of that female garment.

Huge stocks piled up in customs warehouses and, in the ordinary course, one would have expected the Chinese to be worried about the issue.

As it was, the EU authorities were facing so much pressure from the retail industry and the consumer that the initiative for a compromise came more from the EU than from China.

In a broader perspective, while it is true that China is dependent on the EU and US markets for its exports and the jobs that the export industry creates, it is increasingly true that these importers too have become equally dependent on imports to keep a lid on inflationary pressures.

If inflation through the year in most of the industrial countries has remained low despite high oil and commodity prices, one important reason surely is Chinese exports of manufactured goods and Indian exports of services.

While as a percentage of the total consumption such imports may be small, they also preclude other producers, including domestic ones, from raising prices. My own feeling is that the US Congress will think twice before imposing the threatened surcharge -- it could hurt the US economy through higher inflation and interest rates, even as it hurts the Chinese.

Indeed, in many ways, it is the South that is at last winning the globalisation war, although this does not seem to have struck many of our political masters. (Just recall how we resisted the inclusion of services in the Uruguay Round -- now, it is services exports that are giving a measure of stability to our balance of payments.)

On another front, Boeing and Airbus are far more dependent on orders from Asia than any other region. And, so is world growth itself! Perhaps the fate of the dollar's exchange and interest rates will be determined more by the currency compositions of Asian central bank reserves than by the Federal Reserve! The other major influence could be the Organisation of Petroleum-Exporting Countries: the possibility of some major oil exporter -- Iran? Venezuela? -- switching pricing to the euro as a political gesture should not be completely ignored. (An example of power flowing from a barrel of oil, not gun?)

A few other developments in financial markets are also worth noting -- the growing influence of 'finance capital' in the shape of hedge funds and private equity, and the virtual bankruptcy of pension funding in many countries.

A corollary of the power shift to Asia has also been the growth of multinationals from the developing world. If Lenovo's purchase of IBM's PC business and BenQ's purchase of Siemens' mobile business were the more spectacular pointers of this trend, there were many other examples as well. Hardly a day passed without our pink papers reporting takeovers abroad by Indian companies. Indeed, by now such news has become routine.

In terms of Asia's rise, one other point bears mention.

So much of basic research in the US is being carried on by scientists of Asian origin: no wonder the US establishment is getting xenophobic about foreign researchers. To add to that, the rising political influence of the Christian right, with its insistence on teaching the biblical theory of creation, for example, leading to a society in perpetual conflict between science and God, does not augur well for a climate of open-minded enquiry and scepticism so necessary for science to flourish!

But talking of open-mindedness, for some time, I have been wondering why our CPI-M has been so supportive of the Iranian theocracy, which, on its part, considers 'Godless' communists kafirs and enemies of Islam.

I think I am seeing some rationale: Marxism itself has become something of a theology, with Marx as the prophet, and has substituted dogma for dialectic. It has its own Martin Luther too—Deng Xio Ping!