The Australian share market took a $30 billion hit yesterday. Why? Because we play follow the US leader. The Dow falls a couple of hundred points and we hit the skids the very next day…BHP’s woes in Brazil didn’t help either.
The Dow was down a little overnight, so expect our market to be directionless today.
The Aussie dollar lost some ground last night on continued talk of a US interest rate rise.
If you believe the futures market, the Fed is almost certain to raise rates a whole 0.25% in December. Janet can’t keep crying wolf — something had to give.
My guess is the rate rise will be ‘one and done’. It’ll be a cold day in Hell before Janet moves the interest rate dial up again.
And the RBA is almost certain to cut interest rates in 2016. No surprises there either. The global economy is soft and getting softer.
That is at least my take on the numbers. But others have a different perspective.
My inbox overfloweth with questions along the lines of ‘what if you are wrong?’; ‘perhaps your call is too early and more QE is on the way to keep markets afloat’ and ‘what are your thoughts on the recent Age article “Global Recession? We are nowhere near!”’
The first thing you acknowledge in the forecasting game is you have a 50/50 chance of being somewhat correct.
My guess is no-one — least of all the Fed — knows how this is going to play out. And I don’t mean just next month or next year, but in the years to come.
Central bankers have substantially altered the economy’s ecosystem — like the geniuses that introduced 100 cane toads into Northern Australia in 1935 to eradicate the cane beetle. But they forgot a few small details. The cane toad couldn’t leap to the heights the cane beetle could fly to. And there were no natural predators to keep cane toads in check. Now there are over 200 million cane toads steadily moving into the southern states.
When you tinker with an economy there are always going to be reactions. Some reactions take longer than others to become apparent.
Pushing up asset prices with QE, low interest rates and direct market intervention is an obvious reaction to the central bankers’ stimulus policies. However, the less obvious reaction is what it is doing to the broader economy.
Cheap money fuelled a debt binge after 2009 that was used in part to build more factories, more oil rigs, more ships and more share buy-back schemes.
What we have is far too much capacity, artificially inflated share values, and savers being forced risk capital in the chase for yield.
In order to improve export capabilities — to pay back their debts — every country is attempting to lower their currency against the US dollar.
The sluggish economic activity combined with the fun and games in the currency market gives us a mixed picture of global inflation.
This chart is the inflation rate of the main industrialised and emerging countries in 2015.
The collapse of the Russian ruble has sent the cost of imported goods up. The inflation rate followed.
In the western economies inflation is barely visible…there’s no price pressure because of excess capacity and a reluctant consumer — due to being retired, indebted or no wage raise.
We know policy makers want inflation. They need inflation. Without inflation tax revenues have no prospect of increasing, and without increased tax revenues budgets are awash with red ink.
Where do we go from here?
Another GFC, more or less QE, higher or lower asset values, higher or lower interest rates, stronger or weaker US dollar, rising or falling gold price, higher inflation or deflation, a recovery or further slump in commodities?
One of the worst forecasting firms in the business is the IMF. As an institution that is supposedly tapped into the who’s who of the global economy, they consistently get it wrong.
Report after report starts with ‘sorry folks got a little carried away last time — just a tad optimistic — but this time we promise our growth forecasts are on the money.’
This time even the IMF is not too confident about what the future holds. This is the latest from the IMF World Economic Outlook (WEO): Adjusting to Lower Commodity Prices, October 2015, Table of Contents:
‘Global growth for 2015 is projected at 3.1 percent, 0.3 percentage point lower than in 2014, and 0.2 percentage point below the forecasts in the July 2015 World Economic Outlook (WEO) Update. Prospects across the main countries and regions remain uneven. Relative to last year, the recovery in advanced economies is expected to pick up slightly, while activity in emerging market and developing economies is projected to slow for the fifth year in a row, primarily reflecting weaker prospects for some large emerging market economies and oil-exporting countries. In an environment of declining commodity prices, reduced capital flows to emerging markets and pressure on their currencies, and increasing financial market volatility, downside risks to the outlook have risen, particularly for emerging market and developing economies.’
Pressure on currencies and commodities in emerging and developing markets is a direct result of the stimulus policies in the developed economies.
The global economic ecosystem is interlinked — what happens in the US, Europe et al impacts other sectors of the global economy.
Those emerging and developing economies will fight like crazy to generate export dollars. This is deflationary. If they do not generate sufficient US dollars (to pay debts denominated in US dollars) then we will see defaults. Defaults are deflationary — investors losing capital are a little more hesitant to spend.
A stronger US dollar is not good for US markets. Around 40% of US profits are generated offshore. A higher dollar will have a negative impact on earnings, which in turn should filter through to lower share values…again this is deflationary, as the social mood turns cautious.
The Fed and other central bankers may reach for the cure-all QE. However I don’t think the Fed can keep the market’s winter chills at bay permanently by simply prescribing a greater dose of QE. Because if that’s the case, then we’ll never have another serious market meltdown…ever. That’s a big call.
It’s dangerous thinking. Life has a way of reminding us that it is not always that predictable. If markets do get a serious case of the sweats, more QE is almost assured. But will it work again?
That isn’t a one-dimensional question. It will depend on the reason behind the market fall, the extent of the fall, the level of panic, the amount of QE applied, and a whole host of other variables.
Who knows? Maybe QE could be toxic to the markets next time…a case of too much medicine.
Is a recovery just around the corner? I don’t think so.
We’ve had seven years of central bank stimulus efforts, and they’ve had very little economic bang for their buck — other than selective asset price inflation.
If you want a simplistic explanation about genuine recovery it’s in these two headlines:
The International Business Times on 10 November 2015: ‘Australian cruise industry shows strong growth’
BIMCO (the world’s largest international shipping association) on 8 October 2015: ‘Container shipping: Low Demand on High Volume Trades Weighs down as Supply Rises’
Retiring Baby boomers prefer cruise ships over container ships.
Yesterday’s generation of credit based consumers is today’s generation of high seas travellers. Over-indebted businesses who believed tomorrow was going to be the same as yesterday are going to be sadly disappointed.
We are going to see a lot of cheap goods hitting our shores in the not too distant future, as the producers all scramble to generate a dollar to keep the bank from foreclosing.
Recovery? I think not.
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