By Peter G Hall
Vice-President and Chief Economist Export Development Canada
Recession? Hard to believe that word has crept back into the business banter again. But there it is, and more than a few are concerned about the possibility of a general downturn in activity. Whether it’s likely or not, part of the fear-factor is the perceived lack of policy tools to combat economic weakening. Fiscal policy is generally in repair mode OECD-wide, and is a growing concern in emerging markets. Monetary policy is still ultra-loose, seven years and running. Downturn would slide us swiftly into a depleted tool box – or would it? Are all the tools tapped out?
Actually, there is an isolated recession in the works already. Talk to anyone attached to the mining or oil and gas industries, and they’ll likely say recession is soft language. Net producer nations already paid dearly in 2015, losing hundreds of billions of dollars in expected revenue as commodity process plunged. Recent increases notwithstanding, today’s prices are still below last year’s average, extending the bottom-line carnage into 2016. The financial impact hits quickly, but many of the broader impacts on investment and employment are yet to be felt. It’s a pretty grim situation; are there any remedies?
Thankfully, commodity-dependent nations have learned from past boom-bust cycles. Over the years, many have created sovereign wealth funds (SWF) as a means of storing and spreading resource revenue to future generations, but also as a buffer against the inevitable cycles. Even non-resource nations have seen the wisdom in this, and created rainy-day funds of their own. Recent high prices have caused many SWFs to reach colossal proportions. The Sovereign Wealth Fund Institute puts Norway on the top of the heap, with a single fund worth $825 billion. Abu Dhabi’s four listed funds exceed Norway’s, and other Middle Eastern oil economies dominate the rankings. Add China’s main funds together, and they top the rankings at almost $1.9 trillion. The amounts are staggering, by any measure.
At the same time, the commodity price downdraft put a big draw on those funds. Persistently high commodity prices together with economic and political developments led one SWF-laden economy after another to make fiscal commitments that became dependent on those high prices. Fiscal breakeven prices are well in excess of actual resource breakeven prices. In early 2015, the IMF pegged the marker for six MENA oil nations and Russia at or above $100 per barrel. Even Saudi Arabia – the low-cost locale – is estimated to need $85-90 to balance its fiscal books.
Clearly it’s pretty awkward to be sitting on billions and invoke austerity measures to balance the books. As such, these nations seem to be leaning on their funds to pay the bills. The drawdown is dramatic in not a few cases, and has even led some oil-rich regimes to tap into bond markets for the first time in living memory. There’s concern about the financial sustainability of the situation, and the longer-term effect on affected economies. But flip the argument around, and it’s hard to imagine the current situation playing out without the SWFs to lean on. Austerity would be a requirement, with significant fallout. Instead, the funds are acting as a smoothing agent, and if you like, are a redistribution of the sovereign cash stash back to the countries that actually helped to create it in the first place. These hefty payments are not only keeping the global economy going, but are being funneled to the very engines of global growth.
These flows aren’t sustainable at current commodity prices; eventually funds will run out, or governments will unilaterally decide to stem the flows. There is, however, a possibility that generalized growth will take over, lifting and extending overall activity further afield in a way that gently lifts commodity prices, easing the bleed on sovereign funds more naturally. It might seem like wishful thinking, but it’s actually the way that the situation is playing out today. Maybe all that’s needed is a little more time for growth to catch on in a big way.
The bottom line? If you thought the world had run out of sources of stimulus, guess again. Sovereign wealth funds are buffering some of the ill effects of wild price swings and localized weakness. It’s hard to imagine where we’d be without their oomph. It’s also creating opportunities for exporters who can trace the money trail.