A recent Barron’s article elicited considerable response in the financial community. The May 3 piece, drawing on work form a noted New York think tank, saw an increased danger in the rise of emerging economies to some 40 percent of the world’s gross domestic product (GDP). It argued that this increased prominence made the U.S. economy and its markets much more vulnerable than previously to foreign economic fluctuations and speculated that a setback in these economies would force the Federal Reserve (Fed) to keep short-term interest rates lower for longer than many now expect.
This economy may suffer a setback, it may come from abroad, and the Fed may have to follow such a policy path, but the rise of emerging economies hardly makes such events more likely. This country, after all, has long been vulnerable to overseas setbacks. The United States is barely 30 percent of the global GDP, smaller than the European Union (EU), even after all its troubles of recent years, and also now the emerging economies as a group. If any of these, or a significant combination of other overseas economies, were to suffer a major setback, this country’s economy could not help but experience ill effects, and the Fed would have to trim its policies accordingly. This has been an economic fact for decades. It was only in the late 1940s and 1950s that the U.S. economy was so dominant that it seemed immune to foreign influences. That is long ago. Especially since this vulnerability has existed for so long, pointing out its existence now hardly constitutes an argument that such setbacks are likely.
Nor are emerging economies especially dangerous in this regard. As they have developed, they have become less volatile and less correlated one to the other than they once were. And of all foreign economies, they, despite their new larger scale, are less likely to do harm in the United States than, say, a collapse in Europe. That fact is evident in patterns of trade. With most emerging economies, the United States buys much more from them than they buy from the United States. This fact makes them more vulnerable to this country than the other way around. That is not necessarily the case with other trading partners, where trade patterns are more balanced. Indeed, if emerging economies were to suffer some problem, they might well look ever more earnestly to sales in the United States as a remedy and so perhaps mitigate any ill effects.
The object here is neither to dismiss the vulnerability nor to say that the rise of emerging economies does not have consequences. Both are facts of economic life. The point is that in this regard the new prominence of emerging economies neither makes much difference nor raises the probabilities of trouble. To the extent that the new prominence diversifies U.S. markets abroad, it may actually mitigate a vulnerability that has long existed.