The New York Times reported that the US Commerce Department has revised downward the country’s first quarter Gross Domestic Product (GDP) from a paltry plus 0.2% to a minus 0.7%. Downward revisions have become too common in recent years and bring into question the science behind the government’s numbers.
In an attempt to soften the bad news the government and some economists blame the winter weather and other one-time factors for the decline. However, given history and the trajectory of the GDP figures in recent quarters these explanations are not credible.
Some of the causes of the economic slowdown are obvious. The significantly increased value of the US dollar hurts exports by American companies. In addition, the energy market has become an important part of the US economy with the increased oil and gas production. Depressed prices have curtailed exploration and other activities in this market.
Digging deeper into the figures indicate more systemic reasons behind the slowdown. For example the Times reported that while personal consumption, a key ingredient in the US economy, increased by nearly 4.5 half percent in late 2014, it has since dropped down to less than 2%. GDP growth was near 5% in mid-2014, but has gone negative in last quarter. Continue reading
The Wall Street Journal reported on Monday that bond rating service, Fitch Ratings, downgraded Japan’s credit rating by a notch from A-plus to A. According to Fitch, the downgrade was made due Japan’s deteriorating financial condition. This is highlighted by the fact that Japan’s debt to GDP ratio is now over 200% and projected to grow next year to over 240%. This would be the highest debt to GDP ratio for any foreign bonds rated by Fitch.
Japan’s sovereign finances are an example of the race to the bottom. Countries throughout the world have used public spending and low interest rate policies in an effort to stimulate growth. However, Japan has been in a 30 year period of stagnation, the poster child for the failure of these governmental interventions. It is likely that these interventions they inhibited real economic growth and recovery, leading not only to long-term problems in Japan, but also in other economies worldwide.
Under normal times Japan’s economic situation would cause substantial turmoil in financial markets. But these are not normal times. While Japan’s economic policies have failed and resulted in its significant sovereign debt, other countries are also running up debt to unprecedented levels. As a result the bond markets have not decided who to punish for imprudent economic policies. This equivocation has given countries like Japan some breathing space. However, economic markets always revert to the mean. Ultimately countries with bad finances will be punished by the markets. When this occurs it will likely come quickly and with little warning causing significant economic turmoil worldwide, a repeat of the economic turmoil that occurred in 2008.
This Blog has often referred to the real and potential problems associated with the growing debt in the United States and Western Europe. However, the unsustainable growth of debt is a worldwide phenomenon that includes the fastest-growing major economy, China.
The Wall Street Journal reported on China’s growing debt. According to the International Monetary Fund, China’s debt is growing quicker than that of Japan, who has a debt to GDP ratio of over 200%. It is also growing faster than the debt of the United States and South Korea.
A significant portion of China’s debt is being created by local governments who borrow to finance projects in their areas. The Journal reports that these local governments have accounted for 25% of China’s total debt since 2008 and in 2013 reached 36% of GDP, double the rate of five years earlier. At this rate it is estimated that local borrowing will increase to 52% of GDP by 2019.
Incredibly, there are approximately 8,000 local quasi-government finance organizations throughout China. This huge number and the large amount of debt lend themselves towards corruption and inefficient usage of the debt. Also, since these finance organizations are related to the government, they are able to sell bonds with high risk at subsidize rates as lenders incorrectly believe that default is not possible.
This lose money policy in China lends itself to financing ventures that do not make economic sense, thereby increasing the likelihood of defaults. This is eerily reminiscent of the lose money policies of the West and the United States in particular that led to the economic meltdown of 2008. It is likely that China’s flawed financing practices will lead to similar results in that country. Given the size of the Chinese economy, that will lead to contagion in economies worldwide.
The Bureau of Economic Analysis released third quarter GDP figures late last month indicating that the US economy grew at a torrid pace of 5% (annualized). This is a remarkable growth rate that would indicate the strongest GDP growth in a decade.
It is often difficult to properly interpret economic figures published by the government since not only are they complex and based on many variables, but also due to political pressures often exerted on governmental agencies to gin figures.
This Blog is concerned about the reliability of the current figures given the inaction of the Federal Reserve. Specifically, if the GDP actually grew at a 5% annualized rate during the third quarter, it is reasonable to have expected the Fed should to have started raising interest rates in order to forestall an overheating of the economy. The fact the Fed continues to leave rates at historically low amounts indicates that it is either not doing its job properly or it does not believe the GDP growth figures to be reliable.
Tony Sagami wrote an article titled Connecting the Dots for mauldineconomics.com that raises specific concerns relating to Q3’s published GDP growth figures that includes: Continue reading