As economic crisis in the developed economies continues, the best that is on offer is a slow recovery; the high growth rates of 1992-2007 are not likely to return anytime soon, says a new book.
"The new normal will be slower growth, though perhaps with falling rather than rising prices," the book, Hubris: Why Economists Failed To Predict The Crisis And How To Avoid The Next One by Meghnad Desai says.
Desai, emeritus professor of economics, London School of Economics, is member of the House of Lords of British Parliament.
"We already have worries about the declining rate of inflation and growth stagnation in the eurozone area. Growth in China is slowing down. It is unlikely that the economies that have recovered, such as the US and UK, will get back to the old growth rate of 1992-2007," the book says.
Tracing the crisis, Desai says that by mid-2007, two events had taken place, in quick succession, which indicated that the global economy was changing direction. The first occurred in the autumn of 2006 when the US housing bubble burst; this was followed by the collapse on the Shanghai stock market in February 2007.
Just as in World War I, when belligerent nations expected the troops to be home within four months, many economists took the view that the crisis was temporary and self-correcting. Others said that while the crisis was serious, we had the means to solve the problem.
The Great Recession, however, has been the deepest since the Great Depression of the 1930s. The effects of the recession continue to be felt five years on. Although the global economy has now started to show signs of a recovery, it will be many years before economic indicators return to precises levels, the book says.
Desai recalls how in the midst of the crisis, Queen Elizabeth on a visit to open a new building at the London School of Economics asked the now famous question: "Why did nobody notice it?"
A group of economists who later wrote to the Queen called it a failure of collective imagination of many bright people. There was a psychology of denial", they added. The reply she got could not have satisfied her, Desai says.
Since then, some economists such as Nouriel Roubini have claimed that they predicted the crisis.
If this was the case, no one took them seriously, Desai says and adds that when Raghuram Rajan, formerly Chief Economist at the IMF and current Governor of the Reserve Bank of India who is credited with having argued, in 2005, that the new set of financial innovations were increasing the volatility in financial markets and heightening risk, he was dismissed as a "luddite."
To find answers to the question that the Queen posed, there is a need to understand why economists think the way they do and how this thinking resulted in the failure to predict the coming crisis.
"We need to distinguish between two contrasting versions of the working of the economy", Desai says.
"One version views it as a static system almost always in equilibrium and never likely to suffer huge losses of output. The other views it as a dynamic disequilibrium which works by restlessly going through cycles of boom and bust, some of short duration while others last for decades. The latest crisis is a reminder that we cannot neglect the dynamic disequilibrium version any longer. We need it to grasp the significance of what happened and what may yet recur" the book says.
The global economy has been in such a situation before, during the long cycle of 1873-96. It is not a circle but a spiral that the global economy is currently traversing, Desai says.