In the last summer, David Rosenberg made the recession call – he’s 99% sure the US will slip into recession. Despite a very volatile second half of 2011, the recent data on unemployment, consumer confidence and housing sales all seemed to indicate the US economy is getting better.
But according to the leading economic indicator, shown below, the US economy is still pretty much under recession-watch territory. Since late 1960s, the indicator only missed once in predicting the onset of recession — the second half of 2010. In other words, at the current level of the index, there is a very high risk that the economy is likely to head down, not up. So will the indicator miss the target again, or we are indeed heading into another recession in 2012?
In the following video interview, the author of ECRI leading indicator explains to Bloomberg’s Tom Keen why he thinks the US is still not out of woods yet.
“The Greek tragedy morphed into an Italian comedy. Now, it has become a French farce”. Bank credit is set to slow down or contract.
Of course, the European Central Bank (ECB) could step in to create some of the credit that EU MFIs otherwise would be creating under normal circumstances. But the ECB fears that quantitative easing would somehow sully its Bundesbankian reputation. How ironic that the ECB, a central bank ostensibly sympathetic to an Austrian approach to monetary policy, would not try to maintain a normal amount of credit creation when MFIs were unable to do so. Europeans, get ready to join your Japanese brethren for a lost decade. It did not have to happen for the Japanese and it does not have to happen for the Europeans. But given the intransigence of Japanese and European central bankers (with the exception of British central bankers), it will.
Here I included two pieces to address the question whether China will have “hard landing” or not. Hard landing is a fancy phrase to describe the situation when government tries control high inflation, it slams on the brake to dramatically slow down the economy, often leading to the outright recession. In China’s case, a hard landing, along with rising interest rate, may trigger the burst of the housing bubble.
The first piece is by Stephen Roach, former Chief economist, and Asian Chairman at Morgan Stanley, now a professor at Yale University. The second piece is a recent interview of Jim O’Neill, Chairman of Goldman Sachs’ Asset Management (or GSAM). Both are leading authorities on Chinese economy.
China’s economy is slowing. This is no surprise for an export-led economy dependent on faltering global demand. But China’s looming slowdown is likely to be both manageable and welcome. Fears of a hard landing are overblown.
To be sure, the economic data have softened. Purchasing managers’ indices are now threatening the “50” threshold, which has long been associated with the break-even point between expansion and contraction. Similar downtrends are evident in a broad array of leading indicators, ranging from consumer expectations, money supply, and the stock market, to steel production, industrial product sales, and newly started construction.
But this is not 2008. Back then, global commerce was collapsing, presaging a 10.7% drop in the volume of world trade in 2009 – the sharpest annual contraction since the 1930s. In response, China’s export performance swung from 26% annual growth in July 2008 to a 27% contraction by February 2009. Sequential GDP growth slowed to a low single-digit pace – a virtual standstill by Chinese standards. And more than 20 million migrant workers reportedly lost their jobs in export-led Guangdong province. By late 2008, China was in the throes of the functional equivalent of a full-blown recession.
Thanks to a massive fiscal stimulus, China veered away from the abyss in early 2009. But it paid a price for this bank-funded investment boom. Local governments’ indebtedness soared, and fixed investment surged toward an unprecedented 50% of GDP. Fears surfaced of another banking crisis, the imminent collapse of a monstrous property bubble, and runaway inflation. Add a wrenching European crisis to the equation, and a replay of 2008 no longer seemed far-fetched.
While there is a kernel of truth to each of these China-specific concerns, they do not by themselves imply a hard landing. Nonperforming loans will undoubtedly increase in response to the banking sector’s exposure to some $1.7 trillion of local-government debt, much of which was incurred during the stimulus of 2008-2009. But the feared deterioration in loan quality is exaggerated.
Jim O’Neill Interview (courtesy of CNBC): He thinks the chance for a hand landing is very slim.
Update 1 (Oct. 30, 2011):
Jim Chanos share his recent view on China – he continues to short China’s banking sector and real estate developers. He believes Chinese banking system just started to have cracks; there is more to come.
ECRI WLI index says there is a fair chance that double-dip is coming. Here is an analysis I borrowed from dshort.com.
(click to enlarge; graph courtesy of dshort.com)
According to dshort:
A significant decline in the WLI has been a leading indicator for six of the seven recessions since the 1960s. It lagged one recession (1981-1982) by nine weeks. The WLI did turned negative 17 times when no recession followed, but 14 of those declines were only slightly negative (-0.1 to -2.4) and most of them reversed after relatively brief periods.
Three of the false negatives were deeper declines. The Crash of 1987 took the Index negative for 68 weeks with a trough of -6.8. The Financial Crisis of 1998, which included the collapse of Long Term Capital Management, took the Index negative for 23 weeks with a trough of -4.5. The third significant false negative came near the bottom of the bear market of 2000-2002, about nine months after the brief recession of 2001. At the time, the WLI seemed to be signaling a double-dip recession, but the economy and market accelerated in tandem in the spring of 2003, and a recession was avoided.
The question, of course, is whether the latest WLI decline is a leading indicator of a recession or a false negative. The index has never dropped to the current level without the onset of a recession. The deepest decline without a near-term recession was in the Crash of 1987, when the index slipped to -6.8.