German investor confidence fell in July on worries over the United Kingdom’s vote to leave the European Union. Released today the ZEW Indicator of Economic Sentiment for Germany, which looks six months ahead ( in other words into early 2017), fell to -6.8 from 19.2 in June. That’s the lowest level since November 2012.
On the other hand, the International Monetary Fund, looking only at 2016, doesn’t see much danger from Brexit–in that time frame–outside of the United Kingdom itself.
The IMF cut its April projection for global growth in 2016 to 3.1% from 3.2%. It also cut its forecast for 2017 growth to 3.4% from April’s 3.5%. Growth in the United Kingdom is projected at 1.7% in 2016, down from a forecast of 1.9% growth back in April. U.K. economic growth is then projected to decline to 1.3% in 2017. That’s down from a forecast of 2.2% growth for the U.K. economy in the IMF’s April report.
The IMF forecasts are based on some very positive assumptions–that officials from the European Union and and the United Kingdom will be able to negotiate new trade agreements that don’t impose big new barriers to trade. If the talks break down, however, the United Kingdom will slip into recession, the IMF said, as banks leave London and consumer spending falls. That scenario would see global economic growth fall to 2.8% in 2017.
The fund left its projections for U.S. economic growth unchanged at 2.2% in 2016 and raised its forecast for growth in China in 2016 to 6.6% from the earlier forecast of 6.5%.
The Japanese economy will grow by just 0.3% in 2016, down from a forecast of 0.5% growth in April.
The IMF sees recessions in 2016 for Brazil, Russia, and Nigeria.
The pound is down 1.3% today as of 3:40 p.m. New York time. The U.S. dollar is up and crude is down with U.S. benchmark West Texas Intermediate falling 1.41% to $44.60.
Remarkably given all the worrying events in the world in the last week, the CBOE volatility index, the VIX, which measures how much traders are willing to pay to hedge risk in the Standard & Poor’s 500 faded at 12.44, the same as at yesterday’s close. That’s down from 25.76 on June 24, right after the Brexit vote and is closing in on the 2015 low of 11.95 in July 2015. From that low the VIX soared to 40.74 by August 24. The 52-week range on the VIX is 10.88 to 53.29.
By Wednesday we will know if China’s stock markets have been added to the MSCI Emerging Markets index. A “yes” decision by Morgan Stanley Capital International, the keeper of the index, would move billions of dollars that track the index into the purchase of Shanghai and Shenzhen shares. That would be a huge boost for mainland markets that have been stuck in a depressed and narrow trading range for all of 2016. The Shanghai Composite Index, for example, is down 19.95% for 2016 to date and down 44.25% for the last twelve-months.
I don’t expect any trader or speculator in China’s mainland stock markets to give up on the Shanghai or Shenzhen markets until we hear from Morgan Stanley in the next couple of days. The “right” decision could have an explosive effect on Chinese stocks. (So could the “wrong decision,” of course,with the explosion pointed in the downward direction.) It remains an open question whether Morgan Stanley will decide that China’s markets meet its guidelines for openness and liquidity.
This near term event has completely overshadowed some truly negative news out of China today and last week.
Today official Chinese government figures show that private sector investment is, well, I’d call it anemic except that would be unfair to anemia. Industrial production did indeed grow by 6% year over year in May, matching estimates from economists surveyed by Bloomberg. And retail sales were up 10%.
But the figures on fixed-asset investment–that’s money going into housing, factories, highways, airports and the like–were horrific. Fixed-asset investment rose by 9.6% in the first five months of 2016 That was the slowest rate of growth since 2000 and below the estimates of all 38 economists surveyed by Bloomberg.
Scratch the surface a little, though, and the report on fixed asset investment was even worse. Almost all the growth in this important category, which tells us a lot about how Chinese companies think the economy is likely to do in the near future, came from the government. Fixed-asset investment from the private sector slowed to 3.9% growth for the first five months of 2016. It’s only government spending that is keeping the figures for fixed-asset investment from signaling a shocking drop in China’s economic growth rate in the not so distant future.
The slowdown in private-sector fixed asset growth is certainly connected to the slowdown in China’s property sector. Property investment growth came in at 7% for the first five months of the year. But the drop in private sector fixed investment growth was even steeper than that and was fed by a collapse in investment by companies in the coal, and iron and steel sectors of the economy.
Ok, that was today’s news that the market chose to ignore.
Last Friday the market decided to look past an emphatic warning from the International Monetary Fund.
In a speech in China David Lipton, the No. 2 at the IMF, called on China to “immediately” address the huge level of debt run up by its corporate sector. China’s corporate debt now equals 145% of GDP (and China’s total debt now stands at 225% of GDP, according to the IMF.) Of that, the IMF estimates about $1.3 trillion is in loans to companies without enough income to pay the interest on their loans. The solution proposed by the Chinese government–debt for equity swaps–could sell make the situation worse, the IMF said in an April report, by enabling zombie companies to stay in business and thus delaying needed market reforms.
Before you throw yourself or your portfolio under a train, however, note that many analysts think China’s huge debt load is unlikely to set off a replay of the Global Financial Crisis. That’s because the borrowing is largely through banks and as such the central bank has the power to intervene very quickly. At least that’s the take on the situation from the Hong Kong office of Macquarie Capital in a report issued on June 8.
There wasn’t much in the economic data today to make the financial markets reconsider their belief in the return of Goldilocks. Global growth numbers supported the view that key world economies will turn in decent performances. But none were so strong as to suggest putting higher interest rates from the Federal Reserve back on the schedule.
Imports in China increased by 5.1% year over year in May. That’s not stunningly impressive growth but it does mark the first time that imports have moved up after 16 months of declines.
U.S. benchmark West Texas Intermediate and international benchmark Brent crude rose 1.59% and 1.94%, respectively, as of 3 p.m. New York time as U.S. oil inventories fell by 3.2 million barrels for the week. That kept the trend pointed in the right direction but the drop, reported by the Energy Information Administration today, was only slightly greater than the 3.1 million barrel decrease predicted by energy analysts surveyed by the Wall Street Journal. Again good news but not too much of it.
As of 3 p.m. the Standard & Poor’s 500 stock index was ahead 0.37% to 2119.87 as it continued to close in on the May 2015 all-time high of 2135. The dollar continued to weaken on the belief that the Federal Reserve won’t raise interest rates until September.
So strong is the current Goldilocks view that financial markets were willing to completely overlook any contrary data points.
For example, the World Bank slashed its 2016 global growth forecast today to 2.4% from its 2.9% forecast in January. The forecast for commodiy-exporting emerging markets dropped to a very small 0.4% growth rate for 2016. That is down from a forecast of 1.2% growth back in January. Commodity importing emerging markets will do much better on lower energy and other commodity prices. But even in that segment of the global economy, the World Bank lowered its 2016 forecast, dropping its expectations to 5.8% from the previous 5.9%.
Forecasts for developed economies took a hit as well with projections for the United States falling 0.8 percentage points to 1.9% growth in 2016. Projections for the EuroZone economy dropped to 1.6%.
Among individual emerging market economies, the forecast for China remained unchanged at 6.7% in 2016. (That comes after growth of 6.9% in 2015; the World Bank expects growth in China’s economy to drop to 6.3% by 2018.) Economic growth in India, at a projected 6.7%, stayed in line with January forecasts. The current recessions in Brazil and Russia were projected to be even deeper in 2016 than was forecast back in January.
Goldilocks will get a significant gut-check tomorrow, Thursday, June 9, with the release of the weekly numbers on initial claims for unemployment. If the number of new claims filed remains at the low level of the last few months, then some investors will question the weak May jobs number released last Friday and the consensus that the Fed has moved to the sidelines on interest rates until at least September. A much higher level of new claims will stoke fears that the U.S. economy might be headed to recession. A rising level of new claims frequently signals that the job market has stalled and that the economy might be headed toward a recession. Economists surveyed by Bloomberg are looking for the weakly number to rise slightly to 270,000 from the 267,000 of the prior week, but that would not be a big enough increase in new claims to set off alarm bells. Economists note that initial claims from oil producing states have stopped rising and are now declining–which makes an increase in initial claims on the national level less likely.
So much for the March pick up in China’s economy.
In April, data released this weekend say, China slipped back into the trend of slower growth.
Industrial production, for example, was up 6% in April year over year. Which was below the 6.5% projected by economists and down 6.8% from March.
Retail sales fore 10.1%, but that too missed economist estimates. Auto sales were a big factor with sales rising just 5.1% year over year against a 12.3% increase in March as government programs to encourage sales came to an end.
Fixed-asseet investment rose by 10.5% in January-April. Economists had expected growth of 11%.
The March gains were led by a big increase in new loans and a recovery in the housing market.
Housing continued to prop up the economy with new home sales rising 63.5% year over year in April. That was slightly below the 71% year over year jump recorded in March. The April strength is surprising given recent moves by the government to slow a gain in home prices in China’s largest cities.
But new loans climbed less than expected in April. Aggregate financing was 751 billion yuan in April, below the forecast of all 26 analysts surveyed by Bloomberg. The slowdown looks to be, at least in part, a result of a program to swap local government debt for cheaper municipal bonds. April saw 350 billion yuan of such swaps.
Working from the latest data Bloomberg calculates that China’s GDP grew by 6.88% year over year in April, down from a 7.11% growth in March.
Official numbers put China’s first quarter GDP growth at 6.7%–but it’s growth built on even more debt
Good news, right?
China’s GDP grew by 6.7% in the first quarter of 2016 from the first quarter of 2015. That hit the top of the government’s growth target of 6.5% to 7% for 2016. It also matched the median estimate from economists surveyed by Bloomberg.
Quite possibly not.
The growth hinged on another quarter’s worth of debt financing for an economy that’s already eyebrows deep in debt. Money supply climbed at a 13.4% rate in the quarter as the People’s Bank continued to pump cash into China’s economy. New loans by Chinese banks climbed to 1370 billion yuan in March. Aggregate growth in new financing was more than double the rate in the fourth quarter.
In other words debt keeps piling up.
You can see that reflected in the drivers for GDP growth in the first quarter. Home sales, a beneficiary of easy money, were up 71% in March 2016 from March 2015. Government spending grew by 20.1% in March, according to the Ministry of Finance, even though revenue grew by just 7.%. Fixed-asset investment jumped 10.7% year over year. About 30% of new non-financial credit went to local governments and their associated investment arms, in the first quarter. Local governments are the most indebted part of China’s financial structure.
China’s most recent five-year plan, released in December, stated the need for deleveraging China’s local government and corporate sectors. But there’s nothing in this quarter’s data that shows any deleveraging.
Official figures say that only 1.6% of loans from China’s commercial banks are non-performing. Nobody believes the official numbers, however. Private estimates say the bad debt percentage could be as high as 20%.
So the big question on today’s growth number (if you assume for the moment that it bears some connection to reality) is whether it is sustainable given the falling economic efficiency of piling new debt on top of old and without the tough-to-implement reforms that China’s economy needs.