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Why the gloomsayers are overdoing it

When national leaders talk up how good things are, it is often taken as a sign that they are about to turn very bad.

So when Barack Obama and Malcolm Turnbull each delivered upbeat speeches in the past week, more than a few pessimists probably took them as vindication of their bleak outlook.

After all, there seems to be plenty to be worried about.

The new year has begun in a flood a red ink on global sharemarkets as China growth fears, weak commodity prices, terrorist attacks and natural disasters have all weighed heavily on investor sentiment.

For those determined in their gloom, the latest update on the Chinese economy suggested additional reason for pessimism. The world’s second largest economy expanded at an annual rate of 6.9 per cent in the last three months of 2015, its the slowest pace in 25 years.

Taken together with the decision by the International Monetary Fund to trim its global growth forecasts for 2016 and 2017 by 0.2 of a percentage point each to 3.4 per cent 3.6 per cent respectively, and the bearish mood would seem to be well founded.

But in striking discordantly upbeat messages about the outlook, Messers Obama and Turnbull are not just handing around warm cups of cocoa.

There are concrete reasons to think the gloom is overblown.

Although a sudden upsurge in economic activity appears as likely as a return by Tony Abbott to the Lodge, there are several pointers – local and international – that suggest optimism is not misplaced.

Most importantly, the US economy – still overwhelmingly the largest in the world – appears well established on a growth path.

If the US Federal Reserve’s much-anticipated interest rate increase late last year did not confirm it, a streak of sustained jobs growth that has seen the unemployment rate halve from 10 to 5 per cent ought to allay doubts.

Yes, many jobs have been part-time or casual, and wage growth is weak. And there are headwinds from the weak oil price, which has kicked the stuffing out of the shale gas industry, and the increasing US dollar, which will weigh on export competitiveness.

But cheaper petrol has also boosted real household income, and the American consumer is back shopping and spending, which in turn is encouraging businesses to hire and invest.

As has been widely recognised for some time now, China is engaged is engaged in a highly challenging phase in its economic and political development.

The investment-led growth model that has powered its expansion for the last 25 years has run its course, and left a massive overhang of excess capacity and troubling debt.

If this was not challenge enough, the central government’s reluctance to loosen its control over the economy is coming back to bite it. As The Economist notes, its current situation of a slowing economy, a semi-fixed currency and increasingly porous capital controls is a volatile combination – if the government loosens monetary policy to boost consumption, it will weaken the currency and encourage even more capital to flow offshore.

Still, the Chinese government has plenty of ammunition if recession threatens – $US3 trillion of foreign exchange reserves and ample room to trim interest rates and devalue the yen.

The gloom about Australia’s prospects is also overstated.

The fall in commodity prices has been steep, but so was their rise. As Rod Sims recently pointed out in The Australian Financial Review, the current dominant market narrative of a “collapse” in commodity prices is underpinned by a short-term view. From a historical perspective, they are more accurately depicted as returning toward their long-term average.

Pessimists also point to soft wages growth and a weakening housing market as causes for concern.

But the country is generating sufficient jobs to edge the unemployment rate lower – it fell to 5.8 per cent in December – setting a firmer base under pay rates and raising the prospect of an eventual consumption-boosting lift in household incomes as spare capacity shrinks.

And although capital gains in housing have slowed as some of the heat has gone out of the property market, sentiment toward buying shows signs of picking up.

On the question of whether now was a good time to buy a dwelling, the Westpac-Melbourne Institute Consumer Sentiment Index found a sharp improvement in mood. The index jumped almost 14 per cent this month to 113 points – the highest reading since May last year and only a little below the level of a year ago.

Westpac chief economist Bill Evans says the reading should be treated with some caution, but nevertheless “ma be signalling some improving optimism in the housing market”.

This interpretation is supported by a jump in house price expectations following a plunge in the second half of 2015.

Late last year, Reserve Bank of Australia Governor Glenn Stevens estimated the economy was “roughly half way” through the decline of resources investment, and a rebalancing in the sources of growth was underway – a process that will be greatly aided by the falling currency.

Economic commentary often exudes an unjustified air of certainty.

But the sharemarket’s current bloodletting, but a focus on this has tended to blot out some of the more positive big picture developments occurring.

This is one of those seemingly rare occasions when it may pay to heed the message of political leaders.

 

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