Martin Wolf: Disaster has always been a threat to world economy

There are three things to worry about: wars, inflation shocks and financial crises

There is a great deal of ruin in a nation. Thus did the wise Adam Smith rebuke a correspondent's worry that ruin was bound to follow reversals in the war against the North American colonists.

If there is a great deal of ruin in an individual country, there is even more ruin in the world economy. Somehow, it keeps on going.

Measured at purchasing power parity, the world economy has grown in every year since 1946, even (albeit barely) in 2009, in the wake of the global financial crisis. The period between 1900 and 1946 was more unstable than the era of managed capitalism that succeeded it. Even so, the world economy grew in all but nine of those years.

The innovation-driven economy that emerged in the late-18th and 19th centuries and spread across the globe in the 20th and 21st just grows. That is the most important fact about it. It does not grow across the world at all evenly – far from it. It does not share its benefits among people at all equally – again, far from it. But it grows. It grew last year. Much the most plausible assumption is that it will grow again this year.


The world economy will not grow forever. But it will only stop when the economics of Thomas Malthus overwhelm those of Joseph Schumpeter – that is, when resource constraints offset innovation. We are certainly not there yet.

Since 1900, the world's output has grown at a rate of just over 3 per cent a year. Such is the power of compound interest that world output has expanded more than thirtyfold over this period. Output grew relatively slowly in the early part of the 20th century and relatively fast between 1947 and the early 1970s. Intriguingly, it grew faster under post-war Keynesian economics than under the conservative revival by Margaret Thatcher and Ronald Reagan in the 1980s.

Pattern of volatility

Now consider the pattern of volatility. The marked volatility between 1914 and 1919 was due to the first World War; that of the 1930s to the Great Depression; and that of the 1940s to the second World War. The instability of the 1970s and early 1980s was due to the oil shocks, triggered (or augmented) by war (the Yom Kippur war of 1973 and Iraq’s 1980 invasion of Iran). Inflationary financing of the Vietnam war generated the inflationary backdrop to the instability. Ultimately, that led to disinflation by the Federal Reserve, under

Paul Volcker


The slowdown in 1990 and 1991 was again due to disinflation and the first Gulf war, which followed Saddam Hussein’s invasion of Kuwait. The slowdown in 1998 was triggered by the Asian financial crisis, that in 2001 by the bursting of a huge stock market dotcom bubble and that in 2009 by the western financial crisis.

This picture of the past indicates the kind of events one should worry about. In brief, there seem to be three: wars; inflation shocks (perhaps linked to wars or jumps in commodity prices); and financial crises. These phenomenons can be linked: wars will trigger inflation if their finance is by inflationary means.

Modern threats

Let us consider current risks. Some analysts have been convinced high inflation must result from the expansion of central-bank balance sheets. They are wrong. It is possible for central banks to control the effects of their policies upon the expansion in credit and money.

A second set of risks, again ceaselessly promoted, is that of financial crisis. The biggest risks seem to be in emerging economies. But these risks are likely to be contained or prove manageable at the global level. If the worst came to the worst, the results are likely to be more like those of 1998 than of 2009.

The third set of risks is that of geopolitical upheaval and conflict. We can identify a daunting list of worries: the massive overloading of the EU's capacity to act; the possible exit of the UK from the EU; the hollowing out of the western alliance; the rise of populist pressures in high-income countries, shown in the success of Marine Le Pen and the rise of "Trumpism"; uncertainty about China's economic and even political future; the rise of global jihadism, and particularly of the Islamic State, the "world's most powerful terrorist organisation"; Russian revanchism; disputes among great powers, notably between Russia and the US and China and the US; friction in the Middle East, notably between Iran and Saudi Arabia; state failure; floods of refugees; and US retreat from its hegemonic role.

Beyond this is a decline in the legitimacy and effectiveness of many high-income democracies, the fragile self-importance of many other powers and the chaos in large parts of the world. Yet all this comes at the same time as a need for effective global governance in an integrated and interdependent world.

Nature of catastrophe

If one wants to worry, there is plenty to worry about. Yet, from the economic viewpoint, what matters is not so much whether the world will be well-managed: it will not be. What matters more is whether a disaster will be avoided. What would such an event look like? A war among great powers could be one. Election of a bellicose ignoramus to the US presidency could be another. A war between Iran and Saudi Arabia would be a disaster. The replacement of the Saudi regime by Isis would be another. A nuclear war between India and Pakistan would be another. Collapse of the EU?

The cumulative chance that at least one of all such disasters will occur is greater than the chance any one of them will do so. Nevertheless, the likelihood that none of them will occur is surely bigger. Remember: there is a great deal of ruin in the world economy. – Copyright The Financial Times Limited 2016