 It's indeed a pleasure to be back here in Helsinki and in wider, I have very long standing association. In fact, arriving last evening and during a very short walk, which I had to take because my luggage had not arrived, so I had to walk up to Stockman briefly last evening. I can't tell you it, there was a rush of a sense of nostalgia from many years ago and over the years I've been coming back here. So thank you very much, Tony, for inviting me and giving me this opportunity to talk. I'm back in a different incarnation this time and that's the way I'm going to speak to you. This is on the global crisis, but I will do an analysis of the global crisis and where it's going, but to do a lot of that from the point of view of developing economies and emerging economies. For two reasons, one is that fits in perfectly with my current charge in the World Bank, the World Bank with its focus on developing countries and the poor, you do want to focus on what's happening there. And also my previous experience, which Tony mentioned in India, working as chief economic advisor, I was actually doing, tracking a developing country and emerging economy and through the period of the European crisis and European crisis and the American crisis. Actually, and in some ways I had a wonderful view of the global crisis because when the American subprime crisis developed, 2006, 2007, and became a full-fledged crisis, 2008, I used to live in the US. So I was watching it actually happen almost outside my doorstep, the crisis brewing. And then by 2009, the crisis had moved out to the rest of the world. And I also actually moved to the rest of the world. I went to India in 2009. So I went sort of following the crisis. There are some people who go chasing the monsoon. They chase the monsoon all over to understand the monsoon. So without quite planning to do so, I went chasing the crisis all over and got a bird's-eye view of that. So I am going to use this dual perspective and tell you about where I think we stand, what are the prospects, with all the uncertainties. Of course, this economic life in general is full of uncertainties and maybe economic life is even full of even greater uncertainties. So with all those caveats, I will do a little bit of speculation and looking into the future. The center of the theater of today's crisis is Europe. There is no getting away from that. But in some sense, the big concern is the developing world. And for the following reason, that Europe is now technically, the Eurozone is in recession, which means you've had two successive quarters of negative growth. The emerging economy with all its slowdown is still growing. I mean, Indonesia is growing at about 6.5%. China is down to 7.5%. China's growing slower. India annual growth is down to 6.5%. Quarterly growth down to 5.5%. Brazil down to 2%. But these are all by industrialized country standards. These are not bad figures. However, you have to remember that these emerging economies, despite their very, very rapid growth, all of them harbour huge populations that happen to be precariously poor. A slight difference in situation, they actually have the risk of malnutrition and suffering. In a way you can't think of in the industrialized world. So both the theater is in Europe and the slowdown in Europe is more marked. In terms of human tragedy, these things can blow up in a very big way in the developing world, despite the fact that they seem to be growing somewhere between, say, 2% and 7.5%, which is China. Despite that fact that they are growing, they can be a hard hit. Also they can be a hard hit because within developing countries, and I'll come back to this in a moment, there can be very different experience for different income groups. And that also can make a difference to how people at different stages of the income spectrum suffer in different ways. And if the suffering is great for people who are already precariously poor, this can be dreadful. So this is by way of explaining why despite the fact that my focus is going to be the crisis in industrialized countries, I'm going to speak from the perspective of the developing and emerging world. Let me go back first and take a look at what happened in 2008, the subprime crisis. I'm going to give you a very, very simple account of this. A very simple explanation of this and at times it is worth looking for the simplest of explanations. I have to tell you something which is there in my book beyond the invisible hand about simple explanations, which I was last week, about 10 days ago, reminded of because of an Italian edition of my book which will come out and my publisher drew my attention to the story that I was telling to stress the importance of simple thinking instead of straight away jumping into complication. This is, I don't know where the story came from, Sherlock Holmes and Watson are going on a detective trip in England when they get very tired and they decide that they will have to pitch a tent and take a night's nap and then again start out next morning, so they pitch a tent and go off to sleep. In the middle of the night, Sherlock Holmes nudges Watson and says, Watson, look at the sky and tell me what you can deduce. So Watson looks at the sky, it's full of stars. In London with its fog, you would never see so many stars. So Watson said, gosh, I did not know that there are so many stars. Well, if there are so many stars, I deduce that there must be lots of planetary systems. If there are lots of planetary systems, I deduce that there will be some planets like Earth. If there are some planets like Earth, I deduce that there must be at least one other planet like Earth with life there. So I deduce that there is life in the universe outside of Earth. By then, Sherlock Holmes is very impatient. He turns to Watson and says, no, Watson, someone stole our tent. Watson's mistake is a mistake far too often you see in the academic world. Our love of complication is such that we pursue endlessly complicated deductions when there may be a simpler truth to follow. Now, I don't want to oversimplify the analysis of what happened. It is a complex enough one, and I have to apologize by saying that what I will say will not be a watertight description, but still I feel there's something to the simple line. So let me begin with 2008 and the subprime crisis, the way it happened in the United States. The broad outlines you all know, the US had begun starting a couple of years earlier to lend money for home buying to customers who are considered subprime in the sense that normal considerations bank would not lend to them. They were worried about the ability of these people to repay. But for a variety of reasons, including some change of the law and pressure from the government, they started lending to these subprime people and they all were buying houses, which at first sight seemed like a very nice move. You're reaching out to these poorer people. But you have to remember, this was reaching out not with one time grant and aid, but with loans which have to be repaid. So what happened after a while was some of these people began to default on these houses. They were not being able to pay back the loans that they had taken. When that happened, the hardship of these people had another implication for the banks. I am dropping some complications in the story and pushing that aside. What happened with these banks is the bank balance sheet of the bank when a bank gives out a loan to a home buyer, the balance sheet of the bank has two sides to it. High probability that this money will come back to me, so I've given $100,000, but it shows on my balance sheet as money that will come back to me. But there is also a probability that there will be a default. If there is a probability of default, then I will get hold of the house because I'll go and foreclose the house, I'll take away the house. So there's a probability that I will not get the money, but I will get the house. And the house has a certain value. So this is on the bank's balance sheet. When the defaults started and the houses were going back onto the market, with so many homes going back onto the market, house prices started falling. When house prices started falling, something began going wrong on the bank balance sheet. When you don't get your money back and you get the house back on your balance sheet, the value of the house that you had had changed by the time that you were getting the house back. So when the banks were going and foreclosing the homes, the value of these homes were dropping. And as more homes were being put back into the market, the prices were dropping and the balance sheets of banks began deteriorating. Once the balance sheets of banks started deteriorating, the credit market started going tight. And at that stage, actually in everyday life, you could not quite perceive that there is a crisis going on. But I remember the Economist magazine had a very nice description of what is happening in America, where you wouldn't know at the individual level at everyday life that something is going wrong. They said it's like the early problems deep down in your plumbing system, where it's gradually getting clogged, but it's not yet affecting your everyday real life. But once the clogging of the financial system became deep enough, the real life started getting affected because the water supplies were going down, meaning real commodity production started going down. America's economy was beginning to tank. Given that the United States is the biggest economy in the world, when the US economy began to slow down, there was a crisis that was being felt all around the world, including Europe. But in Europe, in the meantime, something else had happened. Europe had had one of the biggest human-made deliberate economic experiments in the world. Probably the biggest human-made deliberate experiment was communism. The second biggest was the construction of the Eurozone country. Most economic institutions that you see in life evolve. They happen slowly. No one did it deliberately. But the Eurozone was a deliberate construction. And I think it's a very, very worthwhile venture. It's not surprising that when you're trying to make such a huge construction that there will be some fault lines in that construction. And indeed there were some fault lines. This is not to blame anyone because no one saw these fault lines, including investors. But these fault lines began showing up. After the global crisis of 2008, the fault lines began showing up. And the fault lines took the following form. When the Eurozone came into existence, first of January 1999, 11 countries getting onto the same currency. There's a beautiful chart. Unfortunately, I don't have that chart with me here. You have this very, very beautiful chart which shows that all the Eurozone countries borrowing costs were roughly the same. So if you want to borrow money, whether you're Portugal or Germany, roughly the same interest you have to pay. Which means investors were viewing all the Eurozone countries in some sense like one unit. So whatever is the risk with one country is the same risk with the other and the interest rates are roughly the same. If you look at the chart of interest rates, it's virtually the same up to 2008. In 2008, there's a sudden realization which begins to dawn on the investors that the Eurozone is a monetary union. It's not a fiscal union. When a sovereign borrows money from you, that sovereign has to pay you back. So the default risk could indeed be different across different countries. As this idea dawned on the investors, the borrowing costs of these countries just diverged. That graph is beautiful. To 2008, it's virtually the same line. Then it spreads out open. Germany can borrow money at negligible interest rate. Greece and Portugal to borrow money, they have to pay very high interest rates because the borrowers, the lenders' perception had changed. And indeed, as we now know, and no one can say that I knew all the time because no one really fully understood this, that having a monetary union without an adequate amount of fiscal coordination between the regions or the countries can cause a problem. And indeed, this did cause a problem. So once the American crisis was there and the whole economy was rocking, Europe was beginning to be sucked in to this crisis. And this was happening, first of all, because the borrowing costs began to rise, and this led to one particular problem. Some countries in the eurozone which had their borrowing costs drop when they joined the eurozone because the investors were treating them as safe country just because they are a part of the eurozone ended up borrowing a lot during that period because their borrowing costs have gone down. So when the borrowing costs began diverging, you suddenly realize that the debt burden has shut up on some countries. That's where Europe stands. And the European, so the fiscal deficit has increased because of that and also because in trying to stem the global recession of 2008, 2009, virtually every country in the world and by now India and China and Brazil are also playing the same game. Every country is running up a larger fiscal deficit as a homage to John Menard Keynes's classic of 1936. They're all going in for a fiscal stimulus which is probably the right thing to do. But with the fiscal stimulus and the fault lines of the construction of the eurozone showing up, Europe's debt burden becomes very large and there are other special problems to this. One of them became very, very evident in August 2011 when I was still the chief economic advisor to the Indian government. Early August 2011 was an important incident with a very paradoxical reaction in the world financial markets. But then again, that links up to what I was saying earlier. Early August 2011, standard and powers downgraded United States, if you remember. This sent shockwaves through the world. United States being downgraded from its triple A status sent shockwaves but the consequence of those shockwaves were very interesting. Money started being pulled out from most places in the world certainly all the weaker economies of Europe and that money was going into US treasuries. So after US gets downgraded, money flows into US treasuries and actually even in India, we were feeling the money being pulled out of Indian stock markets and this was happening worldwide from emerging economies and money rushing into US treasuries. And what had happened again relates to what I was saying earlier. Just think, if you lend money to the US treasury, you know that the chance of a default on that is negligible, why? Because the US has a central bank and the worst comes to us, the US can print some more dollars and pay you back and you know that the US will not want to have a default on its record so the US will go out of its way and it still has a central bank it can turn to. But imagine now think of the countries in Europe. Spain, you've lent a lot of money to. Spain can no longer give you a guarantee of paying back because Spain does not have the printing capacity anymore. That's gone to the central bank, ECB. So the monetary union without the fiscal, with fiscal autonomy created this strange problem that the country that is borrowing from you does not have the capacity to pay you back by printing money. Not the best option, but the US has that option which European countries did not. So the realization that it is risky to lend to European countries which no longer have their own central banks meant that money was now rushing despite the US being at the core of that particular turbulence, money began rushing into United States and we were in a full-fledged crisis again by 2011. So 2008 was a crisis, 2011 is another crisis. And this time the developing countries are being hurt even more. So let me now switch back to the perspective from the ground in a sitting in a developing country. Let me give you the story of the country that I know best, India. It is really a change in the world situation. People who are chief economic advisors before me to the Indian government some 20 years ago, they would tell me how every morning you get up and you check the local price of onions, tomatoes, et cetera in India, check maybe what's happening on the Indian stock market. But I can tell you during my last year in India every morning you get up and check quickly what's happening in Europe. Because if the crisis deepens anymore, you know there will be an impact. And the impact is so very visible. India had a remarkable round of growth from 1994. It was growing very rapidly, but from 2003 and certainly from 2005, the country was growing very, very rapidly. From 2005 to 2008, three consecutive years of approximately 9.5% growth which used to be unthinkable in India. I mean I used to live in India for many decades and never thought that India would get into a plus nine growth whereas it had done it for three consecutive years. Then comes the crisis, 89, the world is mired in crisis and India's growth rate drops to 6.7%. What is done in that year is India goes in for a big fiscal stimulus. And the same thing was happening in Brazil, same thing was happening in China, in Indonesia. I got a very good view of this because I was a part of a lot of G20 negotiations. So I would be regularly in meetings with these country economists and get to discuss the situation over there. So you are beginning to see this fallout elsewhere. With the stimulus package in place, most emerging economies picked up again. India in fact in 2009, 10 and 10, 11 was back again not to 9.5% growth but 8.4% growth for two successive years. But then when the crisis comes again, the second dip in 2011 with the Eurozone crisis this time the sovereign debt crisis, the growth begins to plummet, plummet seriously. India's growth goes down to 6.4%. Quarterly growth is down to 5.5%. Some industry, the sector industry and manufacturing is now below 1%. Over the last couple of months it's gone below 1%. Business growth is down to below 2% overall growth. India luckily the overall growth is still, the quarterly is at 5.5%. China 7.5%. But China used to grow at 10%. So you're seeing the slow down just all over in the second round. And there are lots of accompanying problems that are arising in emerging economies. One accompanying problem is the following. The world is beginning to now see a kind of inflation and stagnation experience which is very, very unusual. What's happening increasingly, the growth is reasonably well coupled. The industrialized countries and poor countries are moving together, but inflation is tending to be decoupled. And you see this happening in 2010, even the early part of 2011, is that as rich countries are injecting liquidity into their system to get a revival in their economies, this liquidity is not getting the growth up in their countries, but this liquidity is in fact what it's doing is injecting some pressure on prices in developing countries. And in fact around 2010, you see inflation extremely high in Argentina, extremely high in Vietnam, pretty high in Turkey, pretty high in India, reasonably high in China. So emerging economies are inflating. So in one place I described this as a kind of salad bowl statflation. So it's like some parts are tomatoes, some parts are carrots. So some parts are inflating, some parts are stagnating. The industrialized world is stagnating and some parts are inflating. And this is raising some very deep questions on global economic structure. And one of them is to do with the following, that this was realized sometime in the 17th century that for most activities, it's good to have competition. There should be lots of people producing clothes, lots of people producing housing material, lots of people producing food. But in one particular domain, you don't want competition. The money-creating authority. It's best to have a monopoly. A single economy should have a single money-creating authority. Bank of England gets created in 1694 with that in view. I think the Riksbank was already created, the Swedish one even before that, but central banks are being created. Single economy with a single money-creating authority. That world worked pretty well. Monetary policy rules were developed for that world. But just think about the kind of world we are gradually moving into. In today's world, the walls between countries are becoming lower and lower. Goods flow from one country to another with grates. Labor also flows. This was the hard barrier till a long time, but now labor flows in a very unusual way. At times, they themselves move. At times, the jobs move and find where the skilled labor is wherever in the world. So labor is also beginning to move. And capital, of course, moves very easily from one country to another. So the world is gradually becoming like a single economy. So we are, in some sense, we have created many central banks, one for each nation. But with the world becoming a single economy, at one level, we are going back into the predicament that we have tried to avoid in the 17th century, one economy with many central banks. And some of the coordination policies that we are seeing in monetary policy, I think, happen to be an malaise of this new world that we are living in. And there is no doubt this is no one's making, no one did it individually. But this is the reality of the world. And we will have to find new structures of policymaking, new forms of coordination, coordination of fiscal and monetary policy. This morning I've been talking to officials and ministers here. And we were talking about the importance of a certain amount of fiscal policy coordination also across countries that we need. The same way that today we use the ILO to talk in terms of labor market policy coordination, WTO to talk of trade cooperation, we need something similar in terms of fiscal and monetary policy. Where do we stand? With growth beginning to go down in emerging economies, and there is another frightening development which is taking place. First of all, let me just show you, I don't want to use too much of this. I've got a couple of transparencies. I'll show you the interconnection between the industrialized world and the poor countries. This is, effectively you can think of this as borrowing cost for developing economies. And you see the Lehman crisis over there. When the Lehman-Babas crisis takes place with nothing happening in developing countries, the borrowing cost goes up. It's suddenly more expensive to borrow for these countries. And let me just jump over now to something I don't want to actually spend time on. These I need, I may come back to some of this. Yeah. This is another thing in today's world which is greatly worrying and which is what I meant, that poor countries, even if growth is going at say 2% to 5%, there can be a lot of distributional effect because the prices of certain food items are climbing. The maize price situation is very bad in the world, wheat price situation is very bad in the world. And I can tell you, in a country like India, the bottom 40% of the population spends 60% of their money on food. These are people still fairly poor and they spend a huge amount of their money on food. So when food prices rise, even if the whole country as a whole is growing by say 5.5%, the bottom segment that spends a disproportionate amount of their money on food, that segment is getting hit very badly. So it is a precarious situation for the world, but where are we expecting to go? Let me do a little bit of speculation on that and with that I will stop. This is a figure from World Bank Research which I want to show you. If you look at industrial production, there has been a little bit of pickup in that blue shaded zone. You can see industrial activity picking up in the Euro area in China. This happened over the last couple of months and the reason for that is to do with ECB policy. And indeed that has given us some peace and I'm going to do a little bit of analysis of that, do a little forecast about what might happen and stop and then be happy to take questions. So this graph shows that you're doing a bit better and indeed we are saying that we are hopefully turning around the corner, but there is a downside risk and I will not distract you with this picture anymore. I will go back to a talk of what the downside risk may be and why did we do better? When the, so I'm going back again to where I was when the sovereign debt crisis in the Eurozone area deepens in 2011, one very major move was made. In fact, towards the end of 2011, it was a bit of a nail-biting situation in emerging economies. I was extremely concerned and my counterparts, I knew from our G20 meetings, they were all concerned in emerging economies that if there is a major European crisis, then we are going to feel that in a very deep way with our growth plummeting. But that crisis was averted through a policy which was, I think at that point of time, the right policy, long-term refinancing operations. This is the ECB injected money into the banking system in two tranches. In December 2011 and February 2012, it lent money to banks all over Europe, a total of roughly $1.3 trillion. So it's a massive infusion of money. So many banks which were rocking suddenly stabilized and there was some peace. The markets improved, the global situation began to improve. Earlier this year, you had Draghi make the statement, whatever it takes, ECB will do. And any country that gives some assurance that they are going to undertake some fiscally responsible management, the ECB is going to stand behind that country and not allow the sovereign to go down. And that statement also of a potential injection of liquidity gave a lot of peace and some of the turnaround that you see in the industrial figure and even financial markets if you've tracked over the last six months, you will see a calming of the financial markets which is done by this injection of liquidity. But think a bit hard. What the injection of liquidity does is it buys you time. It does not solve any of the fault lines in the system. Make no mistake that I don't think that ECB had any other choice. You had to buy time because in the end of 2011, the world would have spun into a major recession if the ECB had not acted. So ECB did right. ECB bought us some time by injecting this money. But when you've bought time, you have to do things with the time that has been bought. Otherwise the crisis will come back to you and there is a bit of a risk of that. We usually wake up to cliffs like the fiscal cliff. When the cliff is virtually upon us, the US fiscal cliff and the World Bank has done some calculations on that. Let me just quickly show you this. Yeah. If the US cliff does come upon us, so nothing happens and the full cliff hits us, the world economy is going to be hit very adversely and this is our calculations of the level of negative shocks that different countries will feel. No doubt that the US is going to feel the deepest shock and this is going to transmit to all over the world including South Asia, Middle East and North Africa. It's going to go all over the world. The shock is going to hit us. There's a lot of effort going on and I have to say on the fiscal cliff, I'm hopeful that the US is going to soften it up so you will not get hits of this kind. But there are other kinds of small cliffs and walls which are coming our way and we should be aware of this and begin to put our heads together and thinking about what can be done. One of them is what I've called somewhere European debt cliff or European debt wall. You can choose whatever you want to choose. The LTRO operations whereby 1.3 trillion euros were injected into the market. These are three year loans. So in December, 2014 and February, 2015, these banks will be expected to pay this back to the ECB. What have the banks done with these loans? We know that a large amount of these loans have been just put into sovereign bonds. They have put into Spanish sovereign bonds, Italian sovereign bonds and it's a little bit of an arbitrage activity going on on the part of these banks. ECB has given them the money cheap. You pocket in sovereign bonds, you want some interest, but three years later, you have to pay back. And that is the worry. That that is another debt wall that is moving up and is going to come upon us. It's a wall with two parts to it. One part in December, 2014. One part in February, 2015. And unless there are deep structural changes that are made and productivity pushed up in Europe during this time, we are going to get another big rocking of the global economy by the end of 2014 and early 2015. And that's what makes me feel that over the next two years, up to 2015, two and a half years, the downside risk for the world remains very, very large. So the European situation is going to be very difficult for two years, two and a half years. And Europe all said and done remains among the two biggest economic powers in the world. The US and Europe as a whole are two of the biggest economic powers in the world. And a slowdown in Europe is going to affect the situation in emerging economies. And I wish I could be very positive, but I think the best scenario is that this roughly stagnant situation will continue up to 2015 and then it will begin to pick up. And this is going to impact the developing countries. Where will the developing countries go here on? What is happening at one level in the world is also a change in the global, tectonic structure of the global economy. You know, with the modern technology, the biggest resource of the world, which is human capital and labor, the world market is becoming a single place. So emerging economies that have invested in their human capital, higher education, countries like China, today when Malaysia is doing very well, a whole lot of these countries, I think will after this rocky two to two and a half periods are over, you will begin to see big growth in these emerging economies. If industrialized countries, rich countries like Finland, like the Scandinavian countries, like United States, continental Europe, if these countries grow moderately well, they don't have to be rapid growers, but they are countries which are already well off. The world is back again to a reasonable keel from 2015 onwards. I do expect industrial emerging economies to grow very well, and I'll give you one set of numbers which I think in some sense sums up what's happening in India since I used to watch the Indian statistics very well. If you don't look at forecasters and economists, they look instead at investors and what they are doing, and you get a sense of the expectations they have of a typical emerging economy like India, and that actually ties in with my priors about India. The money that is going into the Indian stock market, the foreign money, that has gone very thin over the last one year or so. Not enough money is going out, very often the money is being pulled out of the stock markets. So short-term investment, volatile investment is going weak, but if you look at foreign direct investment, which is usually a bet on a country with a medium to long-term view, that in fact last year was India's record year. India got $43.8 billion of foreign direct investment into India, which was $5 billion more than ever before. So it seems that world financial markets are taking the following view about India. Risky over the next, over the short run, maybe over the next one or two years, it's a risky bet, but a good bet in the long run is the way the world is viewing this, the financial markets are viewing India, and my view of, actually not just India, but emerging economies is very, very similar, but I know the numbers best for India, so I'll give you the numbers. One particular indicator which again suggests that the prospects, the medium to long-term prospects are very good, is savings and investment. A country's growth is dependent for emerging economies, very dependent on how much you save and invest. India now saves and invests somewhere between 30 and 35%. China saves and invests more than 40%. And we know that as soon as investment and savings go above 30%, we know from the East Asian experience that growth tends to pick up very, very rapidly. This has happened in South Korea, this has happened in the early Taiwan, in Hong Kong, in Singapore. With these countries now investing so heavily, India, China, even more heavily, you expect that their long-term growth will be high. There are, let me just end by putting in words of caution of course. As I've been in small groups talking everywhere, economic growth does not depend on economics alone. It depends a lot on politics, it depends a lot on sociology. So the politics of the country, political institutions of the country, the sociology of the environment, social norms of the environment matter a lot. So some of these predictions could go wrong if political instability becomes very large. Also, economic progress can be nurtured if we can have the right social norms and cultural practices in place. And over here I feel this part of the world has really lessons for everywhere. There are studies which show cross-country studies. They're simple things like trust and trustworthiness in everyday life. Integrity in small interactions and exchange contribute to a society's economic development in a very big way. And I feel this is a lesson that we want to take it to the whole world that look, develop these little norms and practices, trust and trustworthiness on which Francis Fukuyama has written at great length. These are extremely important. They can nurture development further, growth further. And I think this part of the world has a bit of a lesson to take to the rest of the world. As far as political stability goes, the different countries have different regimes and different problems to cope with. Let us just keep our fingers crossed that they will have the wisdom to deal with their political realities as best as they can. Thank you very much.