Daily Picks Wednesday: 10 Years After Lehman, Four Big Risks
July 4, 2018
7 Min read
10 Years After Lehman, Four Big Risks
- There are four main areas of worry that, taken together, suggest the global economy may be in a more fragile place than it was even at the eve of Lehman’s demise a decade ago.
- There is a record level of indebtedness in the global economy with deterioration in average quality, a full $70 trillion above pre-Lehman levels.
- There are only 11 sovereigns and only two U.S. firms left with a AAA rating, and there is a continuing decline in the average credit quality of outstanding loans and bonds.
- Servicing and rolling over this debt is likely to become much more expensive as monetary policy normalises after years of quantitative easing.
- America’s public debt-to-GDP ratio has risen to over 105% of GDP from around 65% of GDP in 2008, with projections of a continued rise.
- In the euro zone debt is now 20% higher, rising 60% in Spain; and Italy’s public debt, already high in 2008, has now breached 130% of GDP, a full 30% higher than its 2008 level.
- There is far less room for governments to use increases in public spending and the so-called counter-cyclical policies that were crucial to avoiding a repeat of the great depression following Lehman’s demise.
- Quantitative easing has left central banks with a record $15 trillion of assets on their balance sheets, and interest rates still close to record lows, there is limited room for a robust monetary policy response to another shock.
- The last three recessions saw the U.S. Federal Reserve cut interest rates by 5%, while pre-Lehman European Central Bank and Bank of England maintained interest rates of 4% and 5% respectively.
- It is quite possible that monetary policy, as we saw with the taper tantrum in 2013, may become the source of instability as QE is wound down and interest rates normalise.
- The electorate is more dissatisfied after what amounts to an almost lost post-crisis decade in which few saw an increase in their real wages, with many more experiencing economic and other forms of insecurity which has led to an increase in populism of both the far right and far left. A major change as the political centre was strong in 2008.
- Political systems in most European economies have fragmented with an increase of small and even fringe political parties now represented in parliaments, as governing majorities become ever harder to cobble together.
- The Trump administration has actively taken a wrecking ball to global international cooperation.
- The sensible political centre in the European Union is diminished, with populists in both core and periphery economies leaving little room for sensible euro zone-wide and pan-EU policies.
- The rising East-West divides, particularly on immigration; and the new Italian government are just the most obvious examples of a deeper malaise in EU politics.
- The combination of shrunken fiscal and monetary policy space, a record build-up of debt, the diminishing of the political centre, dismantling of the post war liberal world order and a nascent trade war means that things may be more fragile on every other count.
Trump Tackles Problems in the Rearview Mirror
- In the 1980s and early 1990s, U.S. crime soared. But since then, crime of all types has plunged.
- Trump has repeatedly attacked U.S. allies Japan and Germany. These broadsides seem right out of 1987. At that time, industrial competition from countries like Germany and Japan was slamming American corporations, causing panic that the U.S. was losing its industrial dominance.
- But three decades make a big difference. Today, Japanese and German companies are huge sources of investment in the U.S. Most Japanese- and German-brand cars sold in the U.S. are now made in domestic factories.
- The U.S. still runs a trade deficit with these countries, but this is mainly caused by other factors, such as the dollar’s status as the world’s reserve currency, which encourages other countries to lend to the U.S., as well as the low level of U.S. savings. Meanwhile, the size of the deficit has shrunk somewhat.
- About half of the deficit that remains might be a statistical illusion created by U.S. corporations shifting profits to overseas subsidiaries.
- Despite Trump’s claims that the border is out of control, illegal immigration to the U.S. is much lower than in the 2000s, and has actually been net negative since the financial crisis — meaning more unauthorised immigrants have been leaving (or dying) than have been coming in.
- The world is a fast-changing place. New problems crop up as old ones fade away. It’s difficult to keep up with changing trends, but for the leaders of the country it’s a necessary job. Trump needs to stop focusing on old problems, and face the new ones.
- The U.S. has a number of more new and more pressing problems such as high costs for healthcare, education and construction.
Over 40 countries object at WTO to U.S. car tariff plan
- Japan, which along with Russia had initiated the discussion at the WTO Council on Trade in Goods, warned that such measures could trigger a spiral of counter-measures and result in the collapse of the rules-based multilateral trading system.
- Over 40 WTO members, including the 28 countries of the European Union – warned that the U.S. action could seriously disrupt the world market and threaten the WTO system, given the importance of cars to world trade.
- Import tariffs on cars and car parts would harm its own automotive industry and likely lead to counter-measures by its trading partners on $294 billion of U.S. exports.
- China, Canada, Switzerland, Norway, Turkey, Costa Rica, Hong Kong, Venezuela, Singapore, Brazil, South Korea, Mexico, Qatar, Thailand and India all echoed the same concerns and said they doubted the U.S. tariffs were in line with WTO rules.
Exclusive: China presses Europe for anti-U.S. alliance on trade
- In meetings in Brussels, Berlin and Beijing, senior Chinese officials have proposed an alliance between the two economic powers and offered to open more of the Chinese market in a gesture of goodwill.
- One proposal has been for China and the European Union to launch joint action against the United States at the World Trade Organisation.
- The European Union, the world’s largest trading bloc, has rejected the idea of allying with Beijing against Washington.
- Instead EU officials expect the commitment of both sides to the multilateral trading system and promises to set up a working group on modernising the WTO.
UK companies prepare EU bases in the lead-up to Brexit
- Polydron, a UK-based maker of educational toys where which manufactures in India and China and sells to customers worldwide, including 105 in the 27 other EU countries.
- The bloc’s toy safety regime makes Polydron, as the importer into the bloc, responsible for checking that its products meet European standards.
- But if Britain leaves the EU’s single market, each of Polydron’s EU customers would become an importer instead.
- Concerns point to a dilemma for many UK businesses in heavily regulated sectors, which are keen to keep at least a foothold in the single market and warn of the costs of leaving the EU’s regulatory regime.
- Some companies, tired of the uncertainty, are beginning to move their business into the EU.
- Big businesses such as Airbus have voiced concerns at the risk of tariffs and customs hold ups but for many other businesses the single market is more relevant as regulation compliance is a big issue.
- Business associations that used to complain of the complexity of EU regulations are now asking to remain bound by them.
UK economy picks up speed, raising chance of rate rise
- IHS Markit/CIPS services Purchasing Managers’ Index (PMI) rose to 55.1 in June, easily beating economists’ average forecasts in a Reuters poll of 54.0, unchanged from May’s reading.
- June surveys this week for the smaller manufacturing and construction sectors also beat expectations.
- In May, the BoE postponed a widely-expected rate hike after the economy slowed more than forecast in the three months to March.
- High inflation and continuing deep uncertainty about the terms Britain’s departure from the European Union in March 2019 have acted as underlying drags on growth.
- “These PMIs - the last before the Monetary Policy Committee finalise their August 2 decision - are consistent with a robust second-quarter rebound, and keep our call for an August hike on track,” - Morgan Stanley economist