Reality Checks

May 13, 2009

Several developments have grabbed the attention of investors, who had become previously comfortable with the notion that the global recession is becoming less intense.  Substantial and widespread weakness persists.

  • U.S. retail sales fell 0.4% last month on top of a 1.3% plunge in March, a two-month annualized 9.7% rate of decline.  That is almost as great as the 10.1% decrease between April 2008 and April 2009.
  • Industrial production in the euro area dropped 20.1% in the year to March and by annualized rates of 23.4% in 4Q08 and 28.1% in 1Q09.  Three of the four largest economies in the group posted on-year production declines that were larger than the Euroland average, while French output dropped 15.9%.
  • Japanese exports continued to reflect on-year declines of more than 40% well into April.
  • Chinese exports fell over 20% in the year to April.  Chinese industrial output growth of 7.3% in the year to April and 5.7% y/y in January-April remained far below gains of 15.7% in the year to April 2008 and 16.1% in January-April of 2008 from a year earlier.
  • British industrial production dropped at more than a 20% annualized rate in the first quarter of 2009, more than its 12.1% decline between 1Q08 and 1Q09.  Industrial production in Sweden and Hungary continue to post on-year declines of about 20%.
  • The jobless rate is 8.0% or higher already in the United States, Canada, and Euroland.  Spanish unemployment climbed from 9.5% in March 2008 to 13.9% at the end of that year and 17.4% in March 2009.

The emergence of some improving statistics doesn’t necessarily herald the imminent end of the global recession.  Business cycles do not follow linear paths, and several inflection points can occur between a period of recession and one of expansion.  After learning that U.S. real GDP had contracted 6.3% in 1931, 30% less than the 9.0% drop in 1930, some people thought they detected some light at the end of the tunnel, but GDP then plunged 13.3% in 1932.  And what is one to make of the four-quarter U.S. growth sequence of minus 2.1% in 3Q73, then plus 3.9% in 4Q73, minus 3.4% in 1Q74 and plus 1.2% in 2Q74?  Was that recession slowing or intensifying?  The second answer choice turned out to be correct, as a three-quarter sequence of 3.4% annualized contraction ensued.

Markets likewise do not follow the most direct routes between two points.  It is widely know that Japan’s Nikkei-225 peaked at 38916 at end-1989 and is 76% lower now.  The Nikkei fell 10.8% from October 9, 2007 to the end of that year and another 42.1% in 2008.  The Nikkei also happened to have experienced several bull runs during the last 20 years.  Gains of 47.8% between August 1992 and September 1993 and of 56.5% between July 1995 and June 1996 each far exceeded the 30% net recovery of the DJIA since March 9.  Bull rallies reflect the extraordinary uncertainty surrounding global economic prospects, the highly elastic response of market behavior to small changes in economic data, and the feedback from rallying financial markets back into real economic demand and expectations.  It’s possible that the global recession will end sooner and be followed by a brisker-than-assumed recovery.  But that is one of many plausible outcomes and, in my view, not the likeliest possibility.

Markets tear around chasing their elusive tails because of the emphasis on incremental analysis whenever new, inherently mixed data are released.  An alternative search for a durable recovery would focus not on data but on whether underlying causes of the global recession are being rectified.  Is interbank lending reviving?  Can foreclosures be dammed up in the face of very high and possibly rising unemployment?  Are the big net saver nations like China, Japan and Germany adopting different economic models to achieve more balanced growth?   Are deflationary risks receding or still cresting?  What are the implications for innovation and productivity of proposed tighter government regulation of the financial sector and other industries?  Where will oil prices settle, having advanced 30.7% from a February low of $33.87 to a recent high of $60.08?  Aside from possible significant further increases in commodity prices and long-term interest rates, what other developments might interfere with the nascent emergence of a sustained global economic recovery?  Aging populations and  political difficulties reversing monetary and fiscal support are two impediments that come to mind.

Copyright 2009 Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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