Via MBMG’s Paul Gambles
If you do not change direction, you may end up where you are heading
Lao Tzu, 6th-5th century BCE
Things are looking up in the world economy, apparently.
US stock prices are on the up — this time because of firms’ quarterly results, not just central bank force-feeding. Added to that, in its latest World Economic Outlook,[1] the IMF suggests that global economic activity is “picking up with a long-awaited cyclical recovery in investment, manufacturing and trade.”
The reasons the IMF’s experts give for such optimism are that they see stronger activity and expect greater demand and reduced deflationary pressures in the coming months. They also see financial markets as being more optimistic than in the recent past.
So, everything’s ok and all the doom and gloom has dissipated, hasn’t it?
The answer to that question depends on which way you’re looking. It is indeed encouraging to see a share-price rise based on actual results; but a closer look reveals that overall indices have been pushed up by just a handful of stocks. For example, 40% of the NASDAQ has been driven by just five companies; whereas only two companies — Caterpillar and McDonald’s — contributed the most gains in the Dow Jones Industrial Average’s gains. [2]
A more probing investigation of the IMF’s statement also reveals that global growth prospects aren’t as bright as they may seem. Estimated and predicted GDP growth for each year between 2016 and 2018 in G7 countries is below 2% and barely reaches 1.7% in the Eurozone. The IMF’s global generalization is mainly propped up by China’s predicted growth rates ranging from 6.7% to 6.2% (see chart).
Quite frankly, it baffles me as to why an organization like the IMF, which has such excellent economic data resources available, draws such superficial conclusions. Those China GDP figures, which distort the whole picture, are widely believed to be works of fiction, calculated to meet government targets, rather than depict the real economic situation there.[3]
And that’s just the problem. We live in incomprehensible as well as unpredictable times. A member of the Bank of England’s Monetary Policy Committee (MPC) recently admitted to the UK parliament’s Treasury Committee that the UK central bank was “probably not going to forecast the next financial crisis.”[4] That may leave plenty of room for comment on the effectiveness of central banks and their policies; but at least it’s honest.
It’s also fair comment. One thing we can expect is that whenever the next crisis comes along, China will play a key role. When the global financial crisis began to hit in 2008 and the world began deleveraging, the world’s second largest economy went on an infrastructure investment binge and allowed the RMB to appreciate in value, despite a fall in exports. Consequently, a rise in Chinese consumption checked the rest of the world’s drop, thus avoiding a far greater financial crisis than we actually saw.[5]
With private debt levels still incredibly high, [6] emergency-level base interest rates in force [7] for the last eight years and still relatively low oil prices, [8] the vicious circle of debt-deflation in the US, Eurozone countries and the UK, amongst others, is a constant threat.
It’s a threat that could have become a reality if, in the last year or so, we hadn’t been able to rely on the Chinese economy, in the main, to keep the ball rolling. As Eric Peters, CIO of One River put it, “Pretty much everything that happened in 2016 can be explained by two things; China and oil prices.” [9] Proof of that can be seen in the below chart showing global credit impulse. Despite western central banks’ best efforts to kick-start their economies through cheap credit, China is still the place where people and businesses are more tempted, if not forced, to borrow. In January 2016, global credit impulse was at +3.8%, of which 3.5% was down to China. As Brooker’s Adrian Dunn has pointed out, that alone makes a mockery of all the attention the press and analysts paid to the Will they? Won’t they? soap opera regarding Fed and ECB interest rate hikes.
As Steve Keen has repeatedly stated, [10] practically everywhere in the world, domestic demand growth correlates closely with credit impulse — look at the US, for example:
Logically, that would make the future more assured: we just observe China’s credit and demand trends to see the coming global trends. The slight flaw in that cunning plan, however, is that China’s reported year-on-year credit impulse and domestic demand rates have experienced imperfect correlation over the last few years. Demand was declining even during the credit impulse peak of 2016 and has changed little since the recent plummet in impulse (see chart).
To add to the incomprehensibility and unpredictability even further, don’t forget that we really have no idea as to the accuracy of either of these figures; [11] nor do we know exactly how bad the country’s private levels are. China may have done the world a favour in the aftermath of the GFC but its people and firms have borrowed heavily to both invest and consume, particularly amongst private businesses and commercial banks. The published figures (see chart) show a massive increase in company and bank debt from late 2008 onwards.
Not only are those rates still increasing but, given the massive shadow banking system in China, they may just be a drop in the ocean compared with the real amounts — estimated by some at around US$3 trillion, or another 18% onto the current bank debt levels.
In addition, the People’s Bank of China’s (PBOC) own variation of quantitative easing has exposed the fact that it doesn’t know how to moderate money expansion — vital for understanding the future of an economy. Its 10-year bond yield, which follows a similar pattern to the 5-year and 1-year yields, is through the roof. It has increased by a factor of nearly 29% in just six months, whilst the US, for instance, has remained relatively level (see chart).
The consequence of all of this is that we are dealing with scary figures — which, in reality, could well be the tip of the iceberg — along with a government and central bank who don’t have anywhere as much control as they’d like to believe. All this in a country which represents the world’s second largest economy, has the largest population, has undertaken the most extreme credit creation programme ever and, in doing so, has been saving the world from the financial abyss. So, I’m keeping an eye firmly on the riddle within an enigma that is China.
[1] http://www.imf.org/en/Publications/WEO/Issues/2017/04/04/world-economic-outlook-april-2017
[2] http://www.cnbc.com/2017/04/25/us-markets.html
[3] http://asia.nikkei.com/Politics-Economy/Economy/China-and-India-GDP-figures-tell-a-story-just-not-a-true-one?page=2
[4] https://www.theguardian.com/business/2017/feb/25/bank-of-england-fears-may-not-spot-next-crisis-five-places-to-look
[5] https://www.ft.com/content/7a802c07-1f27-357a-8337-d479189087e3
[6] See BIS statistics http://www.bis.org/statistics/totcredit.htm?m=6%7C326
[7] For example, the US Federal funds rate (US), ECB refi rate and the Bank of England Base Rate
[8] https://fred.stlouisfed.org/series/DCOILWTICO
[9] http://www.zerohedge.com/news/2017-04-09/eric-peters-calls-it-%E2%80%9C-change-change-now-negative
[10] http://www.blglobal.co.uk/Features.aspx?id=economic-indicators-help-or-hokum
[11] http://asia.nikkei.com/Politics-Economy/Economy/China-and-India-GDP-figures-tell-a-story-just-not-a-true-one?page=2
There are plenty of private (assuming this word applies there) businesspeople in China that know the difference between contrived and authentic economic results. I would prefer to infer reality from them than the IMF. Since the whole original debacle was based largely on mortage debt here, and since people are being “forced to borrow” there, you have to be more than a little deluded to think that the world economy is anywhere near a safe trajectory. And never forget the recent growth attribution to USA and China in current data. If things were humming at all now, crude would be over 60 bucks, especially with a weak dollar. So when are things going to start humming? Jeffrey Snider thinks sentiment will revert back to actual, not the reverse. Hope has “sprung eternal” for quite awhile. Maybe that goes to the integrity of a throng if people sporting PhDs in economics.