Every year end, I would do a review of what I personally achieved and did not achieve. It is a useful reminder of what we might have missed and should really be doing in the coming year. 

2010 went by like a flash. At the global level, it was a year of broad recovery from the crash of 2007-09. The emerging markets grew strongly, whilst the advanced markets still struggled with deleveraging and high levels of unemployment. The year ended with the Europeans in deep water, as they struggled with the rescue of the Irish economy in order to stop the contagion from spreading. But Germany seems to have become the strongest partner in the European Union, with current account surpluses that are as high in absolute and relative terms as China. The U.S. economy seems to have got back some growth, but unemployment remains stubbornly high.

On the whole, from an investment point of view, the developed markets seem to have reasonably well, thanks to the quantitative easing-2 (QE2). The U.S. equity market is up 10 percent, and even the Japanese market is up 10 percent because of the revaluation of the yen. Only the European markets are down roughly 10 percent, with the exception of Germany, which is up 10 percent. Emerging market stocks are up 13 percent, with Thailand and Indonesia delivering returns of over 50 percent in 2010. Only China, the fastest growing economy, had a decline in the Shanghai A share index of more than 15 percent, due to concerns with higher interest rates and tighter monetary conditions.

Financial markets, however, did not perform as well as commodity markets. Gold and oil prices were up nearly 25 percent in 2010, whilst industrial commodities were up 40 percent. This basically says that investors prefer to hold more real goods than paper currency and securities.

Structurally, the advanced markets are now deeply in debt and may have major adjustments to make, especially in Europe. Even though the U.S. debt levels are high, it is likely that with the presidential elections coming in 2012, 2011 will continue to be a year of fiscal and monetary stimulus. If unemployment remains high, there will be a new president in 2012.

Personally, the most interesting experience in 2010 was the psychological change in mindset of the power shift from West to East. In 2009, this was discernible, but not visible. In 2010, there was a distinct change in mood, with Western intellectuals sensing that their theoretical superiority has become highly vulnerable. I believe in the second decade of the 21st century, there will be profound changes in economic theory, moving out of neoclassical free market fundamentalism into more practical and empirically defensible work. Unfortunately, I am not sure that the breakthroughs will come from Asian universities.

Recognizing the defects of current risk management models as well as forecasting tools, leading business schools in the West are already beginning to change. Drawing upon multidisciplinary work, they are moving away from partial and narrow models towards more integrative thinking, looking at the world as “whole systems,” rather than through the silos of partial analysis.

In other words, we need to think about the world in terms of systemic complexity and how individuals, firms and even nations adapt to this complexity in which our actions affect the rest of world and vice versa. Feedback mechanisms have become the core of our thinking and we need to understand that there are multiple solutions to complex problems, rather than the elegant “optimal equilibrium” from neoclassical analysis.

As two University of Toronto professors recently suggested, we need minds that are both “mile deep, inch wide” and “mile wide and inch deep.” Historians, statesmen and journalists tend to think widely, whereas our students today are taught to be specialists in very narrow and professional fields. Our academic disciplines tend to focus on theories that try to “explain a lot by very little,” which has shown to be too narrow and simplistic.

For example, most of the stock market analysts tend to be “momentum analysts,” using simple charts to project on a linear basis why markets are likely to go higher. Their collective influence on markets make the market more procyclical, because herd behaviour make beliefs self-fulfilling.

The massive volatilities of the last three years have shattered our faith in such tools. Markets, like the weather, have become extremely hot and cold at the same time. They have become less predictable using conventional tools.

Firstly, the global warming effects are having more influence on financial markets than most analysts realise. This is the feedback mechanism between man and nature, in which nature may turn out to be more influential on financial markets than current models impute.

Secondly, we are shifting from a mainstream paradigm which has turned out to be not useful, into a period of transformation in models and theory, in which a thousand flowers may bloom. There will be a period of confusion, in which some will make fortunes, whilst others will lose them.

What concerns me is that whilst Asian economies have been shielded from the current crisis better than the West, Asian universities and think-tanks have not really evolved new systems of thinking that can radically challenge those of the West. This is partly due to the fact that our mindsets are dominated by the technological superiority of the West, including in intellectual pursuits and theoretical work.

Modernization has often been equated with Westernization. In reality, true modernization at the local level is making foreign ideas local through adaption to local context and realities. If successful, such innovation can then be reapplied for exports back to foreign markets. What is true of products has to be true of ideas also.

This is why I think 2011 will be an important turning point. I do not consider the competition between the East and the West one of GDP or products, but truly one of ideas. Is the Asian model truly resilient or do we have fragilities that we have not fully recognised and corrected? That is the challenge of 2011. 

By Andrew Sheng

Andrew Sheng is author of the book “From Asian to Global Financial Crisis” and adjunct professor at the Tsinghua University and University of Malaya. ― Ed.

(Asia News Network)