Economic growth must slow, warns BIS

By Norma Cohen and Chris Giles in London

Global economic growth must slow to curb inflationary pressure around the world, the influential central bankers’ bank has warned, saying that there was little or no slack left for rapid non-inflationary expansion.

In its annual report, the Bank for International Settlements said that with the scope for rapid growth closing, monetary policy should be quickly brought back to normal and countries should act urgently to close budget deficits.

More

ON THIS STORY

• Interactive Inflation across the G20
• High-tech companies wary on expansion
• Fed holds rates on inflation concerns
• In depth Central banks
• Eurozone core inflation rises sharply

The tough recommendations were urged on advanced and emerging economies alike from the BIS – the international organisation which came closest to predicting the 2008-09 financial and economic crisis – despite signs of weakening economic momentum this year.

The spike in energy prices has cooled the global economy since January and led to fears for the recovery, culminating in the International Energy Agency’s release of 60m barrels of oil in the coming month.

The BIS report, however, warned policymakers not to expect a normal recovery because much of the pre-crisis growth had been unsustainable and capacity will have been destroyed for ever, particularly in finance and construction.

Jaime Caruana, general manager of the BIS, said on Sunday that the imbalances caused by unsustainable growth before the crisis “now need to be rectified, and as they are, growth is bound to be slow. Policymakers should not hinder this inevitable adjustment.”

Rising food, energy and other commodity prices underscored the need for central banks around the world to begin raising interest rates, perhaps even more rapidly than they brought them down, said the BIS in its report. “Highly accommodative monetary policies are fast becoming a threat to price stability,” it concluded.

The fact that interest rates have been so low for so long also introduces new risks into the world’s financial system even though these policies were put in train initially by a desire to reduce risk, the report added.

“The persistence of very low interest rates in major advanced economies delays the necessary balance sheet adjustments of households and financial institutions,” the BIS said.

The BIS view runs counter to that of the Federal Reserve, its largest member central bank, which made it clear last week that its interest rates would remain extremely low for an “extended period”.

Its recommendations are closest to the policy of European Central Bank, which is expected to raise interest rates for a second time in early July. In a barb at the Bank of England, the BIS said inflation had persistently exceeded its 2 per cent target since the end of 2009, but that rates have not yet been raised in response. “One wonders how long its current policy can be sustained,” the BIS said.

關係自由世界存亡 美國介入亞洲高危

一、

南中國海的情勢，頗令筆者擔憂；筆者不想扮演憂國憂民的角色，筆者心有所懼的是，該區一旦爆發戰事，香港的金融中心地位以至世界最高樓價的盛況（香港是聚財之地樓價租值才會這麼高）馬上變色。

大多數論者均認為攷慮政經利益，有關各國就領海主權的爭端，「點到即止」、「動口不動手」，即彼此為了向國人交代，俱大張旗鼓，或虛張聲勢，或不惜出動精銳之師，顯示實力、宣示主權，實際上大家都希望化干戈為共享問題海域的資源，當然，要達「擱置爭議，共同開發」的願景，尚待各方的協商；問題是樂於開誠布公與人為善坐下談判的意願並不強烈。

中國「一手和一手戰」的部署，若生宏效，足以令有關各方不得不在談判桌上解決問題，問題是Prepared for peace和Ready for war，可能被有關國家解讀為「沒有打勝仗的把握才爭取和平」！中國海軍加強在南海活動、「首次主動」派遣大型海事船進入敏感海域、舉行連串軍演以至新建航母試航日期可能提前等等，也許意在展現軍力雄厚，有「打必可勝」的本錢，但越南、菲律賓諸「小」，有老美撐腰（姑勿論早已投入美國懷抱的南韓、日本和澳洲〔前總理陸克文因有意疏遠美國未終任便被「逼宮」落台〕），竟有與中國對着幹的膽量；而經貿上與中國打成一片的台灣，雖非美國的「忠狗」（起碼是美國不會絕對放心，以其對馬英九若連任會否在政治上讓步以酬這三四年來大陸對台灣的經濟輸送〔經濟增長可觀為馬氏的政治籌碼〕，拿不定主意，若非如此，美國斷無不賣較新型戰機給台灣的理由），但南海一旦有事，台灣靠攏政治理念相近的美國，不會與中國站在同一陣線，是可以肯定的。在這種情形下，中國決策層恐怕不會俯順「現在是給南海劃定紅線的時候」並認為中國「要有敢於為捍衞原則同時與各國衝突的勇氣」的「民意」（見昨天本報十八版），這是《解放軍報》警告「激化矛盾只會把事情弄得愈糟」因此要致力尋求和平解決之道的原因。

二、

美國已把「重返亞洲」定為國策，二三周前《經濟學人》一篇特稿罕見地「打賭」五年後美國在亞洲的影響必勝今日；西方論者大都認為，二千年入侵伊拉克以及翌年「九一一慘劇」後開闢阿富汗戰場，牽制美國的軍力，令她在亞洲事務處處被動，「不進則退」，加上○八年「金融海嘯」令美國經濟元氣大傷，還有日本經濟久沉不起，國力無復舊觀，歐盟則為了經貿，不敢全面追隨美國的中國政策。如此這般，配合軍力日盛，中國便有取代美國在亞洲地位的雄圖。中日釣魚台島之爭、北韓炮轟南韓延平島、中國制裁與越南及菲律賓合作開發其近海油藏的石油公司以至中國以強硬態度維護南海主權等，俱為美國及其亞洲盟友所不願見。美國國務卿及國防部長先後在國際場合表示不會放棄亞洲利益，顯示其亞洲政策將趨進取，這等於「美國集團」會盡一切努力遏制中國在區內的活動。昨天消息傳來，美日外長防長華盛頓會議達成兩國加強軍事合作、聯手牽制中國及不提美國駐軍定期撤離普天間基地的協議，同時對中國「造成地區緊張」及「中國正在製造磨擦」的看法有共識。美日對中國的「不懷好意」已不再掩掩藏藏而是公諸於世。美國明目張膽地介入亞洲事務，意味中國要為「南海劃定紅線」愈來愈困難。環顧這種惡劣的客觀環境，中國「一手和一手戰」的策略雖然正確，可是，萬一目前有一艘在有關海域巡弋的艦艇—不管屬於哪一國—突然「爆炸沉沒」，事件將如何善了？筆者沒有答案，只知道局勢會極緊張和危險，周邊地區包括香港都無法不受衝擊！

美國對亞洲興趣復熾，除了要保持航道暢通及各區內盟國的民主體制不致在中國龐大的陰影下蛻變，還有更深層的原因。五月十五日《大西洋月刊》發表該刊特約撰述高德寶（J. Goldberg）訪問國務卿克林頓夫人的特稿，其「採訪外記」指自從艾未未事件之後，奧巴馬政府對中國政府完全失望，克林頓夫人公開質疑「一黨專政能維持多久」，她還表示中國阻止歷史前進（指「茉莉花革命」後中國加強政治箝制的力度）將「徒勞無功」（a fool's errand），她堅信高壓專制政府必敗的看法，令高德寶想起列根在冷戰時期的豪語：「我們必勝他們必敗！」事實上，一黨專政若成為另一種成功政經發展模式，意味民主多元政制有被取代的一日，作為自由世界的守護者，仍擁有軍事絕對優勢的美國怎會坐視不理。這種政治氣氛瀰漫白宮和國會山莊，是美國對中國突趨強硬的底因。

三、

中國的近鄰對中國的和平崛起，何以怕得要死，紛紛與「江湖老大」美國結盟或不惜羅掘殆盡一擲億金擴軍黷武，這樣做當然與向國人表示當局決心「保衞國門外島嶼」有關；但中國對這些國家一再伸出友誼之手，並藉促進雙邊貿易令她們受惠，她們仍提高警惕，很大程度是中國政治決策及國防政策高度不透明令人身處「暗中」因而不得不提高防範有以致之。

中國的不少內政外交政策，經過數十年的落實，好處已全部體現，壞處則開始顯露。以中國叫得最響乍聽亦大有道理的「只做生意不干涉他國內政」的政策，過去的確大受對手國的歡迎；可是，這種只圖牟取經濟利益對不合理現象置若罔聞的做法，其惡果已漸漸浮現。中國引進數以千計的內地勞工在緬北克欽邦（Kachin）興建大型水力發電站（世界第六大，將於二○一九年完成；電力悉數輸往中國），便引起土著的反感以至反抗。一句話，如此大工程，不僅令萬千土著喪失家園，且破壞了當地生態環境，令河水截流，淘金者無金可淘，而有關收益為與中國「合作」的緬甸軍政府囊括，土著不滿，是理所當然的。這便是「不干預內政」的消極效果。在政策層面中國若不能與「普世價值」合軌，到處受歡迎的光輝日子恐怕快成過去！

百仕通：人民幣問題遭誇大

私募基金百仕通（Blackstone）主席史瓦茲曼（Stephen Schwarzman）認為，當前世界經濟被三大陰霾籠罩，分別是貨幣戰爭危機、金融改革的潛在破壞力，以及大眾對金融業的憎惡情緒。他呼籲各國監管機構盡快釐清金融改革的具體細則，以免金融機構自綁手腳，拖慢實體經濟的復蘇。

三大陰霾籠罩全球

史瓦茲曼昨晚到香港大學演講時指出，自2008年金融海嘯至今，已發展國家的經濟復蘇仍然緩慢，各國政府爭相在貨幣政策上做手腳，例如美國不斷印鈔，近期日本和巴西等亦有意調低幣值；再加上各國要求人民幣升值的呼聲，貨幣戰爭正一觸即發。

他認為，目前的人民幣問題實際上被誇大，儘管長遠而言升值有利於改善中國的經濟失衡，但對於全球經濟的幫助卻沒有人們所想像般大。他期望各國領袖在下個月的首爾G20峰會上好好談判，避免危機繼續惡化。

史瓦茲曼表示，海嘯後各國政府都積極推行金融改革，包括巴塞爾協議第三期，以及美國和歐盟的金改法案。但他指出，所有這些金改都已拖延得太久，而細則仍毫不明確，銀行和金融機構不清楚該預留多少資本，放貸時綁手綁腳，企業借不到錢去做新投資，損害職位創造及經濟復蘇。他呼籲監管機構盡快明確細則，而在金改的過程中，金融機構應該積極參與，不應被蒙在鼓裡。

負面情緒經濟隱憂

他說，公眾對於市場制度和金融業的負面情緒亦是經濟的隱憂之一。他認為，金融海嘯的成因是過度槓桿化，但在後海嘯時期，大家就趨向另一極端，對風險變得非常反感，缺乏冒險精神，不利於資本主義的發展。但他承認，目前電腦程式和高頻交易在股市中被過分使用，令大市脫離基本因素，是非常危險的一回事。

史瓦茲曼直言看好中國前景，百仕通在內地亦有大量投資，因此被問到與中國有關的問題時，他都謹慎回應，例如自稱不熟悉「威權資本主義」（authoritarian capitalism），但就見識過它在應對金融海嘯時的威力，認為對某些國家而言是理想的制度。

Fears of global currency war rise

Thailand is introducing a tax on foreign holdings of bonds, the latest in a string of attempts by emerging economies to curb destabilising capital inflows amid fears of a global currency war.

The Thai cabinet on Tuesday imposed a 15 per cent withholding tax on capital gains and interest payments for government and state-owned company bonds, a clear signal that it would take tough measures to curb inflows of “hot money”.

Emerging markets have been caught in the middle of a seemingly intractable dispute over exchange rates and capital flows between the US and China, on evidence again at the International Monetary Fund meetings in Washington over the weekend.A surge of money into Thailand has driven the baht to its highest against the dollar since just before the Asian crisis of 1997-1998.

While the US accuses China of undervaluing the renminbi, China blames loose US monetary policy for driving money into emerging markets that threatens to destabilise their economies.

Jean-Claude Trichet, president of the European Central Bank, added his voice to warnings about the dangers of a global currency war, saying in New York the international community “must say ‘no’ to protectionism and ‘no’ to beggar-thy-neighbour policies”.

The Thai announcement signals a lack of confidence that the issue will be resolved at next month’s meeting of G20 heads of government in Seoul, South Korea.

“Most countries in Asia are moving in the direction of capital controls,” said Dariusz Kowalczyk, a strategist at Crédit Agricole. “But I doubt they will be successful. There is so much liquidity, and there will be even more from quantitative easing in Japan and the US, that the tide will be just too high.”

Korn Chatikavanij, Thai finance minister, played down the move, saying Thailand was only rescinding a 2005 tax waiver for foreign investors. “This is not capital controls,” Mr Korn told the Financial Times. “We are equalising the tax treatment between foreign and local investors”.

But he conceded that the recent inflows were “problematic”. Mr Korn said foreign holdings of Thai bonds had increased “unnaturally” over the past month, shooting to 10 per cent of the total, and eclipsing a previous record of 4 per cent.

The move follows a doubling of taxes on foreign bond purchases in Brazil and sustained – though denied – currency market intervention by the South Korean authorities to hold down the won. The Thai authorities have already intervened in recent months to prevent the baht rising, but to little effect.

Capital controls have been recently endorsed by the IMF as a legitimate short-term weapon for reducing the impact of volatile capital flows, but many economists remain sceptical about their effectiveness. After an initial dip, the baht was the only Asian currency to appreciate against the dollar on Tuesday.

There has been recent speculation in India and the Philippines that some form of controls might be introduced, but senior officials have played down the reports.

Pranab Mukherjee, the Indian finance minister, said on Monday that there was no need for intervention to take the steam out of the rupee, or for capital controls on fund flows.

從相互需要到適者生存 「大國政治」捲土重來

2010年10月12日

財經路向透視

從滙率戰到網絡商業間諜案，從吵得不可開交的國際會議到非洲資源的新一輪爭奪戰，可以看出「大國政治」已經捲土重來。

新興經濟體——尤其是中國、俄羅斯、印度和巴西實力的增長，正在改變各國外交和國防部門的工作重心，同時推動着金融市場的發展，重塑全球商業環境。

脆弱共識

美國前國務卿基辛格上月在日內瓦發表演講時，把當今新興國家崛起之勢比作十九世紀或二十世紀初期「大國誕生」的方式；大約百年前的那場國家競爭，最終釀成了第一次世界大戰。

「可能會發生混亂，但一旦出現混亂的局面，新秩序早晚就會出現。」基辛格表示，如今這批新興大國，尤其是中國，正讓國際關係和世界體系變得動盪起伏；他認為，各國領袖應協同努力，盡量避免這一過程「讓人類遭受前所未有的苦難」。

雖然2008年的全球金融危機似乎讓各國在經濟互相依存和共同監管等問題上形成了某種脆弱的共識，但這種共識已經基本宣告破裂。日前，IMF總裁施特勞斯卡恩痛陳全球合作的減弱趨勢，「合作勢頭沒有消失，但顯然正在弱化，這才是真正的威脅；任何人都要記住，對於全球的危機，不存在一種『國內』的解決方案」。

私人部門分析人士把這種變化描述得更加露骨。怡和保險顧問集團（Jardine Lloyd Thompson）信貸和政治風險部門負責人Elizabeth Stephens說：「僅僅一年前，他們都還以為各自相互需要；但現在是適者生存。」

有人說，這一幕是不可避免的——其中一個重要原因就是全球金融體系愈來愈不平衡，新興國家貨幣升值壓力增大。

許多國家依賴出口導向型的經濟增長，以促進就業，保證社會穩定，這必然會導致各國在滙率和獲取資源問題上出現衝突。大家都想壓低滙率，同時確保自己拿到便宜的燃料和糧食。

中國就處於這種緊張格局的中心，其中既有滙率的原因，也有其對資源需求巨大的原因，但問題並不局限於中國和美國形成的所謂「G2」格局。

另類武裝

有人發現，日本等亞洲國家的主權財富基金正在追隨中國和中東國家的腳步，爭奪非洲等地的糧食、礦產和能源資源。這種資源戰對二十一世界的影響，可能堪比常規戰爭對二十世紀的影響。

「我們只不過是在用另一種方式武裝自己罷了。」Investec全球策略師Michael Power說：「我們沒必要把滙率戰搞得那麼駭人聽聞——但事實上確實存在某種衝突。」

Ten years later

Posted by Cardiff Garcia on Sep 14 19:58.

Unlike Roubini & Bremmer, we doubt the recent crisis has produced an “irreversible” setback from which developed economies will never recover.
But that doesn’t mean the current pain will be short-lived or easy to bear.
Carmen Reinhart and Vincent Reinhart have posted an abbreviated version of their Jackson Hole paper at VoxEU, where they look at how national economies have historically fared in the decade after financial crises. They examine fifteen periods of post-crisis performance in specific countries along with the global economy’s rebound after three different episodes (1929, 1976, 2006).

Among the highlights, beginning with unemployment (emphasis ours in all excerpts):
The rise in unemployment is most marked for the five advanced economies, where the median unemployment rate is about 5 percentage points higher (Figure 2). In ten of the fifteen post-crisis episodes, unemployment has never fallen back to its pre-crisis level, not in the decade that followed nor through end-2009.

On housing:
Real housing prices for the full period is available for ten of the fifteen financial crisis episodes. For this group, over an eleven-year period (encompassing the crisis year and the decade that followed), about 90% of the observations show real house prices below their level the year before the crisis. Median housing prices are 15% to 20% lower in this 11-year window, with cumulative declines as large as 55%.

And deleveraging:
In the decade prior to a crisis, domestic credit/GDP climbs about 38% and external indebtedness soars. Credit/GDP declines by an amount comparable to the surge (38%) after the crisis. However, deleveraging is often delayed and is a lengthy process lasting about 7 years. The decade that preceded the onset of the 2007 crisis fits the historic pattern. If deleveraging of private debt follows the tracks of previous crises as well, credit restraint will damp employment and growth for some time to come.

And here is where we are in the current, um, recovery:
During the first 3 years following the 2007 US subprime crisis (2008-2010), median real per capita GDP income levels for all the advanced economies is about 2% lower than it was in 2007. This is comparable to the median output declines in the first 3 years after the 15 severe post World War II financial crises. However, while 82% of the observations for per capita GDP during 2008 to 2010 remain below or equal to the 2007 income level, the comparable figure for the fifteen crises episodes is 60%. This indicates that during the current crisis, recessions have been deeper, more persistent, and widespread.

Great. The authors also note that in those instances where a country experienced a double-dip after the initial recovery — this happened in seven of the fifteen episodes — it was largely because of a new and unexpected shock.
Which means that even if growth does soon return to its pre-crisis trend, don’t get too comfortable.

Related links:Diminished expectations, double dips, and external shocks: The decade after the fall – VoxEU
In the long run we’re all…just fine (maybe) – FT Alphaville
And you thought we were bearish – FT Alphaville
The Jackson Hole papers (finally) – FT Alphaville

Devaluing the yuan

Posted by Neil Hume on Mar 25 15:45.

Continuing with Thursday’s China theme, SocGen’s Albert Edwards has been looking at the emergence of a trade deficit in the People’s Republic and the implications.

The backstory here is the recent, surprise announcement from Premier Wen Jiabao and Commerce Minister Chen Deming that China would record a trade deficit in March – the first since April 2004.

The deficit, of course, is one result of the massive Chinese stimulus package focused on infrastructure, which has sucked in massive amounts of commodities.

And obviously Edwards thinks this is going to have serious ramifications.

One of the key changes over the last year is the rate at which Chinese import growth now outstrips export growth (see left hand chart below). It is clear much of this is down to the rapid pace of commodity imports, associated with a step-up in infrastructure projects due to the fiscal stimulus programme, but also with stockbuilding. Hence we see total imports handsomely outstripping imports from countries that are not big commodity producers, such as the US and Europe [see charts below].

Now, Edwards believes the trend toward a sustained trade deficit in China is very real, as much because of infrastructure projects as the stock piling of dollar denominated assets.

Now there are a couple of things I have been mulling over in my mind about these developments. It is well known that China has been buying commodities in excess of its needs for final consumption and stockpiling them. This seems sensible.

If you have a pegged exchange rate and have to buy dollar assets, why just pile up mountains of US Treasuries when you can pile up mountains of copper and iron ore that can be usefully consumed at some point in the future?

This change in policy also has the added advantage of engaging in FX intervention on the trade account rather than the capital account, thereby relieving intensifying political pressure for a yuan revaluation. Indeed I would suggest that the pre-announcement of the March trade deficit is the latest salvo in the ongoing war of words.

China can quite reasonably point at its trade deficit and respond to the US that its criticism that the yuan should be revalued is totally invalid if it is running a trade deficit. Some might argue that instead of ‘manipulating’ its currency, it is trying to head off pressure to revalue by manipulating its trade balance.

All of which means, China will be buying a lot fewer Treasuries. Although that does not necessarily mean higher bond yields, says Edwards.

To the extent that China’s trade surplus is ’shifted’ elsewhere (e.g. Canada), these countries may be larger consumers of US goods and hence the US may see a quicker reduction of its own trade deficit. If that is the case, the US could become more like Japan, funding purchases of Treasuries out of domestic savings. Or to the extent the commodity nations see larger trade surpluses and do not peg their currencies in the same way as China, they will see intensifying upward pressure on their own currencies, helping to clear recent extreme global imbalances which were at the heart of the recent credit crisis.

Ultimately though, Edwards thinks there is a bigger issue than US Treasuries yields. And it is this:

I still make the very simple point I made back in November; a collapse of the current recovery seems extremely plausible in both the US and China in the not too distant future. This will only intensify the mutual belligerence seen in both nations. And despite the recent downturn last year, the yuan has strengthened decisively over the last four years.

I think the emergence of a persistent Chinese trade deficit would fundamentally change the political dynamics between the US and China. If political tensions continue to mount and the US begins to erect trade barriers after naming China as a ‘currency manipulator’, at some point China may indeed do exactly as the US authorities wish and stop ‘manipulating’ its currency. And if it is running large trade deficits, investors should consider the very realistic outcome that China does indeed devalue the yuan.

Yikes.

Related links:
Now, China is bashing the euro – FT Alphaville
Down the drain in China – FT Alphaville
Is China blowing bubbles? – FT Alphaville

When to sell gold?

Posted by Neil Hume on Mar 23 10:31. 48 comments.

Now, there’s a question, and it’s one that Societe Generale’s Dylan Grice has attempted to answer on Tuesday:
JP Morgan once said he’d made his fortune by selling too soon. We spend much time thinking about what to buy and when to buy it, More…

Now, there’s a question, and it’s one that Societe Generale’s Dylan Grice has attempted to answer on Tuesday:

JP Morgan once said he’d made his fortune by selling too soon. We spend much time thinking about what to buy and when to buy it, when in fact knowing when to sell is more important. The case for owning gold is clear enough, but when should we look to sell?

His conclusion is not yet:

The reason I own gold is because I’m worried about the long-term solvency of developed market governments. I know that Milton Friedman popularised the idea that inflation is “always and everywhere a monetary phenomenon” but if you look back through time at inflationary crises – from ancient Rome, to Ming China, to revolutionary France and America or to Weimar Germany – you’ll find that uncontrolled inflations are caused by overleveraged governments which resorted to printing as the easiest way to avoid explicit default (whereas inflation is merely an implicit default). It’s all very well for economists to point out that the cure for runaway inflation is simply a contraction of the money supply. It’s just that when you look at inflationary episodes you find that such monetary contractions haven’t been politically viable courses of action.

Ultimately, the time to sell gold will only come, Dylan says, when heavily indebted governments face up to their problems and start taking their fiscal medicine:

The political winds in countries with central banks are a long way from blowing in the direction of fiscal rectitude. And while it’s true that more people are at least talking about it, talk is very cheap and no one is yet close to walking the walk. Such steps remain politically unpopular because we haven’t had our crisis yet. Given the clear unsustainability of government finances and the explosive path government leverage is on, a government funding crisis is both inevitable and necessary. and DubaiGreece are merely the first claps of thunder in what is going to be a long emergency.

Although that won’t happen any time soon:

But governments aren’t ready to take that step at the moment (the chart above shows just how painful the required measures could be). Indeed, the pressing fear among policy makers today remains that stimulus might be removed too soon. In the UK, policy makers refused to “risk the recovery we’ve fought so hard for” to quote PM Gordon Brown (“fought so hard for”!). In the US, lawmakers have just expanded the most inefficient health care system on the planet (according to ft.com there are five times as many CT scans per head in the US as there are in Germany, and five times as many coronary bypasses as in France). It has been promised that the increase will be deficit-neutral (which I doubt) but even if it is, current period deficits aren’t the correct way to look at health and pension obligations which should be examined on an actuarial basis (and if expanding the program is so difficult, wait until they try contracting it!).

But it will happen some day:

Eventually, there will be a crisis of such magnitude that the political winds change direction, and become blustering gales forcing us onto the course of fiscal sustainability. Until it does, the temptation to inflate will remain, as will economists with spurious mathematical rationalisations as to why such inflation will make everything OK (witness the IMF’s recent recommendation that inflation targets be raised to 4%). Until it does, the outlook will remain favorable for gold. But eventually, majority opinion will accept the painful contractionary medicine because it will have to. That will be the time to sell gold.

Related links:
‘Japan’s brewing fiasco’ – FT Alphaville
‘Some useful things I’ve learned about Germany’s hyperinflation’ – FT Alphaville

Lipsky Says ‘Acute’ Debt Challenges Face Advanced Economies

March 22 (Bloomberg) -- Advanced economies face “acute” challenges in tackling high public debt, and unwinding existing stimulus measures will not come close to bringing deficits back to prudent levels, said John Lipsky, first deputy managing director of the International Monetary Fund.

All G7 countries, except Canada and Germany, will have debt-to-GDP ratios close to or exceeding 100 percent by 2014, Lipsky said in a speech yesterday at the China Development Forum in Beijing. Already this year, the average ratio in advanced economies is expected to reach the levels seen in 1950, after World War II, he said. The government debt ratio in some emerging-market nations has also reached a “worrisome level,” he said.

“This surge in government debt is occurring at a time when pressure from rising health and pension spending is building up,” Lipsky said. Stimulus measures account for about one-tenth of the projected debt increase, and rolling them back won’t be enough to bring deficits and debt ratios back to prudent levels.

Rising public debt could lead governments to seek to eliminate it through inflation or even default if they fail to carry out fiscal measures in time, Mohamed A. El-Erian, co-chief investment officer at Pacific Investment Management Co. warned earlier this month. Nassim Nicholas Taleb, author of “The Black Swan,” a book arguing that unforeseen events can roil markets, said March 12 he is concerned about hyperinflation as governments around the world take on more debt and print money.

Budget Deficit

The U.S. budget deficit widened to a record in February as the government spent more to help revive the economy. The gap grew to $221 billion after a shortfall of $194 billion in February 2009, the Treasury Department said on March 10. The figures indicate the deficit this year will probably surpass the record $1.4 trillion in the fiscal year that ended in September.

Maintaining public debt at its post-crisis levels could cut potential growth in advanced economies by as much as half a percentage point annually, compared with pre-crisis performance, Lipsky said. The Washington-based IMF, which rescued countries including Pakistan and Iceland during the recession, expects global growth of about 4 percent this year, and a somewhat faster pace in 2011, reflecting expansionary fiscal and monetary policies, he said.

‘Bulging Fiscal Deficits’

“When we look at the picture right now, recovery has been encouraging in both developed and emerging economies, and inflation has remained fairly contained,” said David Cohen, a Singapore-based economist at Action Economics. “The biggest cloud over the outlook would be bulging fiscal deficits. The concern is that the situation in Greece is a dress-rehearsal for problems in bigger economies.”

Greece is racing to cut its borrowing costs as 20 billion euros ($27 billion) of debt comes due in the next two months. In the U.S., President Barack Obama on Feb. 12 signed a bill into law that raised the federal debt limit by $1.9 trillion to $14.3 trillion and placed new curbs on spending in an attempt to prevent this year’s record deficit from becoming worse.

Inflation is “clearly not the answer” as a moderate increase in inflation would have a limited effect, while accelerating inflation would impose major economic costs and create significant risks to a sustained expansion, Lipsky said. Instead, growth-enhancing reforms such as liberalization of goods and labor markets, as well as the removal of tax distortions should be pursued vigorously.

Pension, Tax Reforms

The bulk of the needed debt reduction should be focused on reforms of pension and health entitlements, containment of other primary spending and increased tax revenues and improving both tax policy and tax administration measures, Lipsky said.

For most advanced economies, maintaining fiscal stimulus in 2010 remains appropriate, the IMF official said. Still, fiscal consolidation should begin in 2011 if the recovery occurs at the projected pace. Some actions should be undertaken now by all countries that will need fiscal adjustment, he said.

Lipsky said it was “fully appropriate” for China to maintain its fiscal stimulus through this year, while seeking to rein in its rapid loan growth. He said fiscal consolidation would be appropriate in the U.S., where a higher public savings rate will be required to ensure long-term fiscal sustainability.

Corporate bonds: The rot sets in as gold shines

Posted by Gwen Robinson on Feb 12 09:29. 4 comments.

It’s happening… corporate bond markets are already in the grip of that “massive case of indigestion” that commentators were warning about last month. But the mounting risk aversion to sovereign debt, More…

It’s happening… corporate bond markets are already in the grip of that “massive case of indigestion” that commentators were warning about last month. But the mounting risk aversion to sovereign debt, amid contagion fears over the Greek debt crisis, could be providing a (very mild) panacea.

From Bloomberg on Thursday:

Investment-grade debt sales are drying up and returns on high-yield bonds have turned negative for the year as investors wait to see whether European leaders can contain Greece’s budget crisis.

Borrowers in the US and Europe sold $5.96 billion of high-grade securities this week, the least this year and about 90 percent less than the average $52.9 billion, according to data compiled by Bloomberg. Speculative-grade, or junk, bonds in the US have lost 0.09 percent in 2010 after gaining 1.52 percent in January, Bank of America Merrill Lynch index data show.

While relative borrowing costs in the US remained steady [on Wednesday] and prices to insure against defaults fell, Huntsville, Alabama-based telephone service provider ITC Deltacom Inc canceled a $325 million bond sale, citing “current market conditions.”

But fears over the “Greek factor” in sovereign debt has this week helped narrow the extra yield investors demand to own corporate bonds instead of Treasuries. As Bloomberg reports, that spread narrowed 1bp to 170bps on Wednesday – having widened from this year’s low of 160bps on Jan 14, after narrowing from 443bps a year ago.

Meanwhile, as the FT reported on Wednesday:

European bond investors believe that the worst is still to come for sovereign debt and are more gloomy about the sector than any other fixed income category, according to a survey to be released by Fitch Ratings on Tuesday.

Of 63 of Europe’s top 100 fixed income fund managers surveyed, 70 per cent expect fundamental credit conditions to deteriorate for sovereign debt and 55 per cent forecast that spreads will widen further.

In fact, notes the FT report, the expected performance of sovereign credit “stands in stark contrast to just about every other debt instrument where investors foresee strong improvements in categories such as emerging markets corporate debt and investment grade corporate bonds”.

But in the view of CLSA’s Christopher Wood, investors should be piling into gold, gold, gold – oh and Asian assets or currencies. In his weekly investor newsletter Greed&Fear, Wood says:

A sovereign debt crisis in the West is coming sooner or later though it is probably not right now. This is why the recent correction in gold is an opportunity to buy more bullion and more gold mining shares.

Gold, in Woods’ view, remains the best hedge against the “almost inevitable Western currency debasement which will be the consequence of the increasingly untenable welfare states and related social security systems”.

The next best hedge, he adds, is Asian currencies and Asian assets. While many would broadly agree with his point about gold and even Asian currencies, some may question his confidence in Hong Kong property. However, he reasons, the recent correction is a buying opportunity in relevant stocks while the continuing supply crunch is a “reason to remain fundamentally bullish on Hong Kong residential property”.

As we noted recently, when it comes to Hong Kong (and mainland China) property prices, it really depends on who you want to believe.

Related links:
For corporate bonds, a week is an eternity – FTAlphaville
China: “It’s simply because people are rich now” – FTAlphaville
Faber lashes out, again- FTAlphaville
Gold backwardisation fears revisited – Oh! Oh! – FTAlphaville

Bond on bonds – disaster ahead

Posted by FT Alphaville on Feb 11 19:05. 16 comments.

By the FT’s Chris Flood

Government bond markets are facing a decade of “disastrous returns”, according to Tim Bond, head of asset allocation at Barclays Capital.

Bond reckons unfavourable demographic trends mean long term-yields in the US and UK will double from current levels over the next ten years, More…

By the FT’s Chris Flood

Government bond markets are facing a decade of “disastrous returns”, according to Tim Bond, head of asset allocation at Barclays Capital.

Bond reckons unfavourable demographic trends mean long term-yields in the US and UK will double from current levels over the next ten years, moving up to around 10 per cent by 2020.

In its 2010 Equity Gilt Study, Barclays said its analysis of the interaction between demographic trends and bond yields suggest the era of low and stable long-term interest rates is over.

Effectively, the models are suggesting that the shrinkage in the high savings population cohorts and an expansion in the retired population will alter supply demand dynamics in the debt capital markets in a profoundly negative manner.

Ageing populations will lead to an explosion in government debt over the long run:

The unfavourable shift in dependency ratios, combined with sharply increased spending on pensions and healthcare is likely to cause a sustained deterioration in primary fiscal balances and a continuous increase in government debt to GDP ratios.

IMF and OECD projections suggest that the effects of ageing alone will increase debt ratios by 50 percentage points of GDP over the next 20 years:

For the advanced G20 economies, the government debt/GDP ratio is projected to rise from 100% in 2010 to 150% in 2030. Over the subsequent 20 years, debt ratios for these countries are anticipated to rise further, increasing to 275% of GDP by 2050.

And of course the deterioration in government finances — as a result of the credit crisis — has worsened the starting point for the future path of rising indebtedness due to demographic factors:

The deterioration in budget deficits has also provided a notable setback to many countries’ strategies for dealing with the long-run effects of aging. Although fiscal discipline has been weak in the US and UK over the past decade, the larger European economies had certainly been following fiscal policies designed to reduce deficits in the short run and thus clear the decks for the anticipated increase in borrowing over the long run. This strategy has now been de-railed by the widening of deficits stemming from the credit crisis.

Mr Bond says it is difficult to avoid the conclusion that national savings within the advanced economies will be insufficient to meet domestic requirements:

The common assumption that future savings flows from the large developing economies will be a ready source of finance for the ageing advanced economies is most probably flawed. The projected trajectory for old age dependency ratios in countries like Brazil, China or Russia are as severe as in the US. It is highly implausible to believe that Africa, the Middle East and India will be capable of funding the rest of the world’s growing population of retirees.

Because the rise in old age dependency ratios is common to virtually all significant economies, the idea that a redistribution of global savings flows from surplus to deficit nations might mitigate the impact of ageing on bond markets is a false comfort.

Barclays also says the risk premia embedded in nominal bond yields is likely to rise, as history shows that higher inflation – sometimes hyperinflation – can be the end result of unsustainably high debt/GDP ratios.

Although such an outcome is by no means an historical inevitability, it is certainly the case that high debt ratios increase the temptation for policymakers to engineer higher inflation as a soft option for containing debt/GDP ratios.

Pragmatically, we can take the view that when investors focus on the nearubiquitous trend for substantial increases in debt burdens, they will demand a higher longterm inflation risk premium.

Mr Bond admits that a decade of rising bond yields as forecast by Barclays demographic models appears unlikely from our present, deleveraging, post-crisis perspective, and notes that past few years have been characterised more by an abundance of savings relative to productive investment opportunities.

However, it is likely that this phase represents a high-water mark, to be followed by an inexorable turn in the demographic tide. Over the next two decades, the boomer generation will age into retirement and run down their accumulated savings. An era of capital abundance will gradually turn into an era of capital scarcity. Government debt burdens will rise sharply, with the risk premium demanded for financing these debts increasing as private sector net savings flows dwindle. Given the broad international context for these trends, with similar developments afflicting almost all the world’s major economies, the means by which the government debt burdens are eventually curtailed is unclear. As a result, government bond yields are likely to require a significant rise in risk premia to cover the eventuality of default, either outright or through inflation.

Is this the big one?

Posted by Tracy Alloway on Feb 01 08:50. 5 comments.

Two big investment banks, UBS and JPMorgan, are on Monday asking themselves whether the current bear is “the big one” in terms of market corrections, or just a minor hiccup.

There’s a host of things that could be making markets nervous — the sovereign situation in Europe, More…

Two big investment banks, UBS and JPMorgan, are on Monday asking themselves whether the current bear is “the big one” in terms of market corrections, or just a minor hiccup.

There’s a host of things that could be making markets nervous — the sovereign situation in Europe, financial reform for US banks, and expected monetary tightening in the US, UK and China.

Despite the jitters though, both UBS and JPM aren’t worried — just yet. Their strategy teams think this is a small correction along a recovery-driven rally that has much further to go.

Here’s what UBS’ (European) equity strategy team, led by Nick Nelson and Karen Olney, say:

We do not believe that this is the end of the bull market
Three disparate catalysts have triggered the current correction: Chinese monetary policy, US bank reforms and Greek fiscal concerns. Although risks have risen, we believe that each of these individual events will most likely turn out to be manageable and, in themselves, will not d.e-rail the global economic recovery.

Equity market fundamentals are still intact…
Falling equity prices and rising earnings have left European equities as cheap as they have been since the July 2009 correction (12m forward P/E of 11.5x now versus 11.0x at the low of last summer). And this is on year 1 of recovery – longer-term measures, such as a Shiller P/E, suggest significant upside. European equities also look attractive relative to other European a.sset classes (2010E dividend yield of 4.0% versus a 3.2% 10-year German bond yield).

…but big changes within the market
Cyclicals’ performance relative to defensives was rolling over before the current correction. We continue to favour a barbell approach at a sector level and would argue that we are past the sweet spot for cyclical outperformance, even with our forecast for a global economic recovery back to trend.

And JPM’s European strategists Mislav Matejka and Emmanuel Cau:

The last week’s trading is showing how rapidly the sentiment is changing and how fragile the investor confidence was to begin with. In Q4 the general desire was to add further to market exposure, but majority didn’t want to chase into the year end, deciding to wait for a pullback, for better entry levels. It is interesting that now that correction is unfolding, instead of looking at this as the long awaited opportunity to add into, the overall sentiment today is that it is better to wait, that there is too much uncertainty and too many moving parts to consider. However,if it weren’t for this poor news flow in the first place, the stocks wouldn’tbe trading at levels of last October again.

The question is whether what we are witnessing over the past fewdays is a game changer? Is “buying the dips” going to fail as a winning strategy this time?Acknowledging the potential for markets to create their own future outcomes, we point out the following:

In the background, the reporting season is so far delivering good results. Out of 197 S&P500 companies that reported to date, 77% have beaten on EPS line, with average beat of 16%. Perhaps more interestingly, while in Q2 ‘09 45% of non-financial companies beat on revenues, and in Q3 58%, in Q4 so far the proportion stands at 71%. For the majority of corporatesthat have reported, the analysts are having to raise their ‘10 estimates, which ultimately means that every percent the market falls, it becomes a percent cheaper.

Second, credit cycle is showing further signs of turning, as evidenced in the results of most banks. This is one of the key conditions for the sustainability of recovery.

Third,despite the latest few prints which were higher than expected, the 4-week run-rate of jobless claims is consistent with outright positive payrolls right now.

Fourth, while Greek debt situation remains precarious (不穩的;危險的), and the market is starting to entertain contagion risk, we note that in the case of Romania, Latvia and Hungary the announcement of a financial assistance program managed to stabilisemarkets relatively swiftly. The worst outcome for all parties concerned is the default, but JPM believes solvency is not the issue, rather the lack of credibility which can/will lead to liquidity risk, ultimately calling for outside assistance.

Fifth, The start of the Chinese policy tightening, while detrimental to the market sentiment and raising the potential for policy mistake, could ultimately be seen as a positive, as a sign that growth recovery appears robust enough to allow policymakers to refocus on asset bubble concerns.

Sixth, the recent turn in the currency trends, with some Euro weakness, should remove one of the headwinds for European exporters.

Lastly, while we are cognisant that the market can drive valuations to much lower levels than would be at first deemed reasonable, it is perhaps worth mentioning that stocks trade on 11.5x this year’s earnings, in addition to the EPS integer moving up.

We advise adding to positions on weakness and would revisit this view if jobless claims were to move back towards 500k, if Greek default becomes a reality or if manufacturing leading indicators roll over.

So, investment banks are advising clients not to worry.

Contrarian indicator or what?

Related links:
JPM equity strategy presentation – The Long Room
Teun’s tightening tactics – FT Alphaville

Teun’s tightening tactics

Posted by Tracy Alloway on Jan 25 14:08. 2 comments.

Teun Draaisma’s latest is a veritable treatise of tightening threats.

In it, Morgan Stanley’s chief European strategist warns of the impending switch from stimulus-overload to stimulus-withdrawal — something he’s mentioned before but, More…

Teun Draaisma’s latest is a veritable treatise of tightening threats.

In it, Morgan Stanley’s chief European strategist warns of the impending switch from stimulus-overload to stimulus-withdrawal — something he’s mentioned before but, we guess, is imminently more imminent this time around:

Sell into strength, as authorities have switched from “all out stimulus” to “let’s start some stimulus withdrawal”. Tightening measures are coming in thick and fast around the world. We always thought that the start of tightening was not the first Fed rate hike, but could be many other things including higher taxes, less spending, more regulation, Chinese/Asian tightening, or Fed language change. Recent initiatives include Obama’s banking initiatives, and several Asian tightening measures. In the next few months this theme is set to intensify, and we expect positive payrolls, a Fed language change, and the start of QE withdrawal. This willingness of authorities to move away from crisis mode is an important change and means that the tightening phase in the broad sense of the word has now started. Thus, indeed, 2010 is shaping up to be like 1994 and 2004, as we expected. The start of tightening is hardly ever the end of the growth cycle, and normally the accompanying dip needs to be bought, but it typically is a serious double-digit dip lasting 2 quarters or more. The sector rotation has of course already started in October-2009 and is set to continue. As a result we move 2% from equities to bonds in our asset allocation, going to +5% cash, -2% UW equities, -3% UW bonds. We think short-term strength is quite possible, and we have not quite gotten an outright sell signal on our MTIs either, but the 6 month risk-reward of being long is worsening, and we recommend to sell into strength. Our 12 month MSCI Europe target of 1030 implies 6% downside.

The idea then is to get out of the cheap things — the kind of stuff we saw rally in the dash for trash — and switch into `strength,’ that is, high-quality, reliable-growth stocks, plus bonds and cash.

You can see the reasoning in the below charts.

We are, Draaisma says, on the verge of saying goodbye to the sweet spot, that happy place where recovering economic growth coincides with very loose fiscal and monetary policies, and about to enter that world of correction-inducing tightening:

Related links:
The defining feature of 2010 will be… – FT Alphaville
You are now leaving the Twilight Zone – FT Alphaville
Six months of the sweet spot, DB says – FT Alphaville

Sovereign debt crises 2010, an RBS sapling

Posted by Tracy Alloway on Jan 04 16:44. 3 comments.

What is the `Tree of Truth’?

According to RBS, it is a Binary Recursive Tree Approach aimed at selecting explanatory variables and critical threshold levels that best discriminate between sovereign debt crisis and non-sovereign debt crisis states. More…

What is the `Tree of Truth’?

According to RBS, it is a Binary Recursive Tree Approach aimed at selecting explanatory variables and critical threshold levels that best discriminate between sovereign debt crisis and non-sovereign debt crisis states.

In basic terms it’s a flow chart, showing which countries in Central Eastern Europe, the Middle East and Africa, the bank (using criteria from a 2005 IMF working paper by Nouriel Roubini and Paulo Manasse) thinks are potentially vulnerable to a sovereign debt crisis.

And RBS has just updated its Tree of Truth chart for 2010.

The result is below, click to enlarge.

If you want to compare and contrast with the 2009 version, created in June, the chart is here.

We can tell you that the model identified 14 economies at risk in 2010, compared with 13 for 2009. In the words of RBS’s CEEMEA specialists Tim Ash, Imran Ahmad and David Petit-Colin, that means that “… despite the general improvement in global sentiment, the analysis suggests a more lasting impact from problems faced by the global economy over the past year or so.”

Specifically, Hungary, having dropped off the list of vulnerable credits in CEEMEA in 2009, re-enters in 2010, along with Romania. Having added some new states to the model mix for 2010, RBS also identifies Bahrain, Iceland, Lebanon and the UAE as crisis-prone this year.

The majority of at-risk states are still, however, within emerging Europe.

Here are some select excerpts:

* The results are broadly in line with current market risk perceptions as in recent years Emerging Europe has generally suffered from wide current account deficits and excessive foreign borrowing and hence large external financing requirements/relative to FX reserve positions. Rigid exchange rate regimes, predominant through the region, add an extra vulnerability, suggesting a very hard landing for these economies, with pass thru to banking sectors via rising [nonperforming loans].

* None of the major EM economies in Asia and Latin America surveyed appear vulnerable to crisis as per the IMF definition/methodology. The latter two regions’ much better external financing positions, particularly reflect the maintenance of current account surpluses and relatively light external debt burden while the accumulation of healthy stocks of FX reserves during the “good years” provide an added degree of insulation.

* The analysis clearly has its limits as it only reveals “ability to pay”. As recent debt crises (e.g. Argentina and Ecuador) in Latin America and perhaps even Dubai in CEEMEA, in particular, have shown, “willingness to pay” is also critically important, but difficult to model. Countries could perhaps use the “cover” of the global crisis to manage their external liabilities lower by restructuring liabilities.

Full paper in the usual place.

(H/T the FT’s Chris Flood)

Related links:
`Rules of Thumb’ for Sovereign Debt Crises - IMF working paper
Moody’s sees sovereign states a suffering – FT Alphaville

[Outlook 2010] Saxo's outrageous predictions for 2010

Posted by Izabella Kaminska on Dec 17 09:50.

Every year Saxo Bank comes out with a list of 10 outrageous predictions for the year ahead.

Previous predictions from the bank have included Ron Paul being elected US president, crude crashing to $25 per barrel and Chinese growth hitting zero.

Without further ado then, we present Saxo’s latest outrageous predictions for 2010:

1)Bunds yields will fall to 2.25%
Deflationary forces and excessive monetary policy will lower the yield on Bunds and other sovereign fixed income when the government fixed income traders refuse to buy into the “growth story” that is being told by the stock market. We believe that the German 10-Year Government Bond could be forced from 122.6 to 133.3 by the end of 2010 in a general flight to quality.

2) VIX will fall to 14
The markets are showing the same kind of complacency towards risk as they were in 2005-06. Although the VIX has been trading lower since October 2008, this could bring the VIX down from 22.32 to 14 as trading ranges narrow and implied options volatility declines.

3) CNY (China Yuan Renminbi) will be devalued by 5% vs. USD The efforts of Chinese authorities to stem the credit growth and avoid bad loans, combined with the creation of several growth bubbles could ultimately reveal the Chinese investment-driven growth as being deficient. The massive, Chinese spare capacity and the economic backdrop could be a deciding factor in devaluing the CNY vs. the USD.

4) Gold will fall to $870 in 2010 but will rise to $1500 in 2014
A general strengthening of the USD could break the back of the recent speculative element in gold. Although we are long term bullish on gold (believing it will reach $1500 within five years), this trade seems to have become too easy and too widespread to pay out in the shorter term. A serious correction towards the $870 level could shake out the speculative community while keeping the metal in a longer term uptrend.

5) USDJPY to reach 110
Although the downturn in the USD is rooted in irresponsible fiscal and monetary policies, we believe that the USD could snap back at some point in 2010 because the USD carry trade has been too easy and too obvious for too long. At the same time, the JPY is not reflecting economic reality in Japan, which is struggling with a huge debt burden and ageing population.

6)Angry American public to form third party in the US
The anti-incumbent mood is approaching 1994 and 2006 levels as a result of bail-outs and general disapproval of both the big parties. A demand for real change among American voters could propel a third new party to become a deciding factor in the 2010 elections.

7) The US Social Security Trust Fund will go bust
This is not so much an outrageous claim as an actuarial and mathematical certainty. The outrageous part is that social security taxes and contributions have been squandered for so long. 2010 will be the first year where outlays for the non-existing trust fund will have to be part-financed by the federal government’s General Fund. I.e. the budget trick, in reality a “fund” without funds, will be visible for the first time. Part of the social security outlays will have to be financed by higher taxes, more borrowing or more printing.

8)The price of sugar will drop one third
Despite a recent spike in prices caused by Indian drought and above average rainfall in Brazil, the forward curve already indicates considerable downside beyond 2011 so a return to more normal weather conditions in 2010 would make sugar one of the less inspiring commodities. Furthermore, the higher price of ethanol (which is correlated to the demand for sugar) has made both Brazil and the US lower the ethanol content of gasoline by five percentage points, consequently lowering the demand for sugar.

9) TSE Small Index will rise by 50%
Small cap firms have been underperforming the Nikkei, but their fundamentals indicate this is a “bargain index” compared with its large-cap peer. With a price/book ratio of only 0.77 and only about 12% of the index consisting of financials, we know no other index this cheap. Positive GDP figures in 2010 could very well make this index a surprise to the upside.

10) US trade balance will turn positive for first time in 34 years
Last time the US trade balance was positive was briefly in 1975 after a large drop in the USD following the aftermath of the oil crisis. The USD has now become cheap enough again to stimulate US exports and punish imports. The trade balance has already improved somewhat but change takes time and once it has momentum we would not rule out a positive US trade balance for one or more months of 2010.

To compare and contrast with how they fared before click here.

Article Series - Outlook 2010

1. The deluge begins
2. Deutsche Bank ponders all things sovereign
3. Goldman sees 2010 as 'exciting, with risks!'
4. Goldman Sachs up 12-mth gold forecast to $1350/toz
5. JPM targets 20% gain for Euro equities
6. Thundering Herd bullish on Euro equities
7. How will analysts fare?
8. Moody's sees sovereign states a-suffering
9. 10 surprises from UBS
10. Chasing the rally into the New Year
11. Saxo's outrageous predictions for 2010
12. Ten tweets from Wilmot

The world economy - The Great Stabilisation

Dec 17th 2009

From The Economist print edition

The recession was less calamitous than many feared. Its aftermath will be more dangerous than many expect

IT HAS become known as the “Great Recession”, the year in which the global economy suffered its deepest slump since the second world war. But an equally apt name would be the “Great Stabilisation”. For 2009 was extraordinary not just for how output fell, but for how a catastrophe was averted.

Twelve months ago, the panic sown by the bankruptcy of Lehman Brothers had pushed financial markets close to collapse. Global economic activity, from industrial production to foreign trade, was falling faster than in the early 1930s. This time, though, the decline was stemmed within months. Big emerging economies accelerated first and fastest. China’s output, which stalled but never fell, was growing by an annualised rate of some 17% in the second quarter. By mid-year the world’s big, rich economies (with the exception of Britain and Spain) had started to expand again. Only a few laggards, such as Latvia and Ireland, are now likely still to be in recession.

There has been a lot of collateral damage. Average unemployment across the OECD is almost 9%. In America, where the recession began much earlier, the jobless rate has doubled to 10%. In some places years of progress in poverty reduction have been undone as the poorest have been hit by the double whammy of weak economies and still-high food prices. But thanks to the resilience of big, populous economies such as China, India and Indonesia, the emerging world overall fared no worse in this downturn than in the 1991 recession. For many people on the planet, the Great Recession was not all that great.

That outcome was not inevitable. It was the result of the biggest, broadest and fastest government response in history. Teetering banks were wrapped in a multi-trillion-dollar cocoon of public cash and guarantees. Central banks slashed interest rates; the big ones dramatically expanded their balance-sheets. Governments worldwide embraced fiscal stimulus with gusto. This extraordinary activism helped to stem panic, prop up the financial system and counter the collapse in private demand. Despite claims to the contrary, the Great Recession could have been a Depression without it.

Stable but frail

So much for the good news. The bad news is that today’s stability, however welcome, is worryingly fragile, both because global demand is still dependent on government support and because public largesse has papered over old problems while creating new sources of volatility. Property prices are still falling in more places than they are rising, and, as this week’s nationalisation of Austria’s Hypo Group shows, banking stresses still persist. Apparent signs of success, such as American megabanks repaying public capital early (see article), make it easy to forget that the recovery still depends on government support. Strip out the temporary effects of firms’ restocking, and much of the rebound in global demand is thanks to the public purse, from the officially induced investment surge in China to stimulus-prompted spending in America. That is revving recovery in big emerging economies, while only staving off a relapse into recession in much of the rich world.

This divergence will persist. Demand in the rich world will remain weak, especially in countries with over-indebted households and broken banking systems. For all the talk of deleveraging, American households’ debt, relative to their income, is only slightly below its peak and some 30% above its level a decade ago. British and Spanish households have adjusted even less, so the odds of prolonged weakness in private spending are even greater. And as their public-debt burden rises, rich-world governments will find it increasingly difficult to borrow still more to compensate. The contrast with better-run emerging economies will sharpen. Investors are already worried about Greece defaulting (see article), but other members of the euro zone are also at risk. Even Britain and America could face sharply higher borrowing costs.

Big emerging economies face the opposite problem: the spectre of asset bubbles and other distortions as governments choose, or are forced, to keep financial conditions too loose for too long. China is a worry, thanks to the scale and composition of its stimulus. Liquidity is alarmingly abundant and the government’s refusal to allow the yuan to appreciate is hampering the economy’s shift towards consumption (see article). But loose monetary policy in the rich world makes it hard for emerging economies to tighten even if they want to, since that would suck in even more speculative foreign capital.

Walking a fine line

Whether the world economy moves smoothly from the Great Stabilisation to a sustainable recovery depends on how well these divergent challenges are met. Some of the remedies are obvious. A stronger yuan would accelerate the rebalancing of China’s economy while reducing the pressure on other emerging markets. Credible plans for medium-term fiscal cuts would reduce the risk of rising long-term interest rates in the rich world. But there are genuine trade-offs. Fiscal tightening now could kill the rich world’s recovery. And the monetary stance that makes sense for America’s domestic economy will add to the problems facing the emerging world.

That is why policymakers face huge technical difficulties in getting the exit strategies right. Worse, they must do so against a darkening political backdrop. As Britain’s tax on bank bonuses shows, fiscal policy in the rich world risks being driven by rising public fury at bankers and bail-outs. In America the independence of the Federal Reserve is under threat from Congress. And the politics of high unemployment means trade spats are becoming a bigger risk, especially with China.

Add all this up, and what do you get? Pessimists expect all kinds of shocks in 2010, from sovereign-debt crises (a Greek default?) to reckless protectionism (American tariffs against China’s “unfair” currency, say). More likely is a plethora of lesser problems, from sudden surges in bond yields (Britain before the election), to short-sighted fiscal decisions (a financial-transactions tax) to strikes over pay cuts (British Airways is a portent, see article). Small beer compared with the cataclysm of a year ago—but enough to temper the holiday cheer.