Disclaimer — I do not presume to know what will happen to the global economy in 2016 and you should be very skeptical of those who think they do know.
Hardly a day passes now without turmoil in the world's financial markets. Oil prices have yet to find the bottom, which tells us that there's not much demand for the stuff. And yet, when we look at the data, we are told that oil (liquids) demand grew in 2015, and that it's expected to rise some more in 2016.
Perhaps supply has outstripped (still growing?) demand, but that certainly doesn't imply that crude oil should be trading at the ultra-low price of $28/barrel.
What the fuck?
For the first time since 2008, pundits are trotting out Irving Fisher's dreaded "debt-deflation" monster (Ambrose Evans-Pritchard, writing from Davos).
The global financial system has become dangerously unstable and faces an avalanche of bankruptcies that will test social and political stability, a leading monetary theorist has warned.
"The situation is worse than it was in 2007. Our macroeconomic ammunition to fight downturns is essentially all used up," said William White, the Swiss-based chairman of the OECD's review committee and former chief economist of the Bank for International Settlements...
Mr White said stimulus from quantitative easing and zero rates by the big central banks after the Lehman crisis leaked out across east Asia and emerging markets, stoking credit bubbles and a surge in dollar borrowing that was hard to control in a world of free capital flows.
The result is that these countries have now been drawn into the morass as well. Combined public and private debt has surged to all-time highs to 185% of GDP in emerging markets and to 265% of GDP in the OECD club, both up by 35 percentage points since the top of the last credit cycle in 2007.
"Emerging markets were part of the solution after the Lehman crisis. Now they are part of the problem too," Mr White said...
In retrospect, central banks should have let the benign deflation of this (temporary) phase of globalization run its course. By stoking debt bubbles, they have instead incubated what may prove to be a more malign variant, a classic 1930s-style "Fisherite" debt-deflation.
Mr White said the Fed is now in a horrible quandary as it tries to extract itself from QE and right the ship again. "It is a debt trap. Things are so bad that there is no right answer. If they raise rates it'll be nasty. If they don't raise rates, it just makes matters worse," he said.
There is no easy way out of this tangle. But Mr White said it would be a good start for governments to stop depending on central banks to do their dirty work. They should return to fiscal primacy - call it Keynesian, if you wish - and launch an investment blitz on infrastructure that pays for itself through higher growth.
In short, the solution to a debt crisis is more debt (fiscal stimulus). It pays for itself!
Markets are signalling that the shit has hit the fan, but economists see no reason for panic (Buttonwood, The Economist).
Market movements (and much commentary) suggest that the big concerns are the Chinese economy (and its effect on global output), and the possibility that the Federal Reserve might have tightened monetary policy too soon, given the recent weakish figures on the American economy.
But economists believe that China, while slowing, is hardly collapsing and that falling oil prices are generally a positive, rather than a negative, sign. While market movements suggest alarm about a possible recession, the OECD is predicting an acceleration in global growth (to 3.3%) this year...
In a note to clients, entitled “Let’s analyse our fears”, Torsten Slok of Deutsche Bank puts markets on the analyst’s couch before concluding that
The bottom line is that I see the recent turbulence out of China as temporary issues related to liberalizing their economy and not driven by a hard landing scenario playing out. And even if there is a harder landing in China I struggle to quantify the transmission channels to the US.
The fears I discuss with clients are temporary and will go away once we have the worst behind us in terms of oil price declines and dollar appreciation.
... So should we believe the markets or the economists? Writing in the FT last week, Larry Summers pointed out that
"markets understood the gravity of the 2008 crisis well before the Federal Reserve."
and worried that
"It is especially ominous when markets fail to rally on what should be good news."
As a colleague pointed out, it is tempting to believe the markets only when they are sending a message that coincides with your pre-existing views.
No kidding!
So having been warning for a while about the signs of a global slowdown (look at the sluggish growth of global trade, nothing to do with financial markets), I am inclined to think the markets are onto something.
Oil prices at $28/barrel are what economists regard as "good news" in this context since they provide stimulus to consumers.
So, what's going on? Here's what I think (remember the disclaimer at the top.)
I too think the global trade slowdown is telling us that the global economy is in really bad shape. And that's what oil prices are telling us too.
We've got widespread panic in the global financial markets, including some of the commodity markets (like those for oil). That may settle down a bit in the short term, but a corner has been turned.
In the end, if the markets think the global economy has gone to shit, that's the final verdict. Markets, not economists, are the final arbitrators of reality here. Economists generally are near "perfect" human beings in the sense that their views of the present and future perfectly reflect every hard-wired bias I've ever discussed on DOTE.
For example, based on bogus GDP data, economists believe China will avoid a "hard landing," yet here we are staring one in the face.
I always thought this artificial central bank stimulus nonsense of the last eight years would end badly, and here we are. I warned repeatedly in late 2015 that the global economy was either in recession, or about to go into recession. That this reality is only now being acknowledged by the markets simply reflects that fact that humans are always late to the party. They filter the bad news, and then they filter it some more, until one day the shit actually hits the fan. And then they panic. That seems to be where we are now.
Economic policy-makers (like Janet Yellen, etc.) also harbor a delusion which is unique to them—policy-makers think human economies (aggregate behavior) can be "managed" in some "scientific" way. That's ridiculous. Already, economist Ken Rogoff is calling for the Fed to think about negative interest rates. You know, when you've got a broken hammer, everything looks like a nail. I could say a lot more about this, but I'll leave it at that.
Buttonwood quotes George Magus, whose views reflect human resistance to reality. George is wondering whether we're in a global recession
Writing in Prospect magazine, George Magnus, a shrewd veteran observer, is less upbeat than that but still concludes
"... even if the equity markets are in a bad mood, that doesn’t mean we have to conflate this with another imminent global recession.
The most likely outcome, assuming that there is no rout in equity markets, is that we will muddle through a period of economic weakness."
Right now, there is indeed a rout in the equity markets, so that's a lot to assume. But I do agree that the most likely case is that world will "muddle through a period of economic weakness," perhaps for many, many years to come. And this time, central banks will not be able to ride to the rescue. That's the good news.
"Economists generally are near "perfect" human beings in the sense that their views of the present and future perfectly reflect every hard-wired bias I've ever discussed on DOTE."
Probably giving them too much credit by not including their views on the past as well. :-)
Posted by: Brian | 01/20/2016 at 12:36 PM