The world economy is in complete disarray. The US and Eurozone are buried under debt. Emerging market economies like India and China too are losing steam. While China posted its lowest ever growth in 2012 since the last 12-13 years, India is mired by the demon of inflation. So, what exactly is needed to bring the world economy out from the mess that it is in currently?
Prudent policy making is the need of the hour. But since the last 2-3 years, policy to keep interest rates near zero in order to boost the economy in the West has hardly had any results. The West has witnessed various bond buying programs by their respective central banks which pumped trillions of dollars of cheap money into the system. However, it has hardly had any impact. In fact, since the consumer confidence is low, the velocity of money is very low. As such, cheap liquidity is unable to bring the economy back on tracks.
If the near zero interest rate policy is not working, central bankers should look out for other policies that can help revive the economy. For instance, India has eased its foreign investment restrictions in certain sectors to attract capital for growth. But it may be noted that in India's case capital is chasing growth. And considering that growth rate in the developed world is below par the theory of cheap money created by their central banks to uplift their growth will not bear fruit.
For effective policy making, first one needs to understand the problem that is hurting growth. For instance, one problem that is hindering growth in the developed world is unemployment. Hence, effectively there should be policies that help eradicate unemployment and create jobs for the youth.
Another problem facing the developed world is low consumer confidence. And that can build only when the consumer has faith in the economy and its long term prospects. Only then will consumer spending increase and improve the growth rates. Strengthening the risk management systems will also ensure that the banking crisis which led to the recession does not repeat in future.
In a nutshell, it is clear that cheap monetary policies have not had the desired results so far. But the problem is developed world has no other means at hand to pull out the economy from the current crisis either. It cannot increase government spending to boost growth as these economies are already under huge fiscal burdens. In fact, some are considering automatic budget cuts to rein in their huge deficits. Implementing tax cuts to increase disposable income in the hands of consumer is also out of question.
Overall, it seems that cheap liquidity is the only solution to bring the developed economies back on track. And the problem is that this solution has not brought any desired results up till now and can lead to further problems like excessive inflation and depreciating currency values.