So far, the global economy appears to have dodged a bullet. Predictions of economic recession due to interest rate hikes by the world's major central banks have not materialized. But problems abound beneath the surface, and far below, and there are warnings that the current situation is not sustainable.
A man wearing a protective mask walks in front of an electronic bulletin board in the lobby of the Shanghai Stock Exchange Building, Friday, February 14, 2020, China. [AP Photo]
This was the theme of an editorial in The Economist published over the weekend. “The global economy is defying gravity. It won't last.” Referring to the Road Runner comic book character, some commentators are calling this a Wile E. Coyote moment.
He began by saying that even as wars intensified and the geopolitical situation darkened, “the world economy remained an irresistible source of vitality.''
According to the magazine, the US economy performed well at an annual rate of 4.9% in the fourth quarter, inflation was on the decline, the central bank may have stopped raising interest rates, and China is likely to benefit from the real estate crisis. It seems like it's coming from a small stimulus.
“But, unfortunately, this cheer will not last long. The foundations of today's growth look shaky. Looking ahead, threats abound.”
The editorial points to the sharpest spike in interest rates in decades, with the U.S. government now having to pay 5% on borrowings over 30 years, compared to just 1.2% during the COVID-19 pandemic recession. He pointed out. Germany's borrowing costs were negative not long ago, but now they are close to 3%, and even the Bank of Japan has all but given up on its promise to keep borrowing costs at 1%.
The editorial directly challenged Treasury Secretary Janet Yellen's recent comments that rising interest rates are a good thing because they reflect a healthy economy.
“In fact, they are a source of danger. Today's economic policy will fail, and the growth it fostered will fail, as interest rates are likely to continue to rise.”
The Economist, like others, says one reason the U.S. economy has fared better than expected is that consumers continue to spend the money they've accumulated during the pandemic, and there's still $1 trillion in “excess savings.” He claimed that it was because he remained.
Once that is gone, interest rates will start to bite, causing problems for the entire global economy as interest rates remain high for an extended period of time.
Corporate bankruptcies have begun to rise in the United States and Europe, and companies that have locked in low interest rates have ended up facing higher financing costs. Rising mortgage costs will impact house prices. Banks holding long-term securities (which have declined in value) will need to take steps to “fill the hole in their balance sheets caused by rising interest rates.”
The editorial deemed rising government debt to be a major problem, with the U.S. government deficit for the year ending in September expected to be about twice as large as expected in mid-2022.
“Such borrowing is shockingly reckless at a time of low unemployment. Overall, government debt for the wealthy is now higher as a percentage of GDP than at any time since the Napoleonic Wars.”
The Economist reports that rising debt is behind the decline in bond markets and rising interest rates (bond prices and interest rates are inversely related), as financial markets become increasingly incapable of continuing to fund government debt. clarifies his opinion. .
The opposite position, advocated by Yellen and others, is that rising interest rates are a sign of economic strength.
Some important evidence on this issue emerged last week as the market reacted to the U.S. Treasury's decision to cut new debt issuance more than market expectations and restructure debt issuance in the market's short-term direction. Ta.
As The Wall Street Journal reported, the Treasury Department's decision “came as a pleasant surprise to investors.”
The yield on the 10-year Treasury briefly rose above 5% on October 23, before falling to 4.557% by the end of the week. The S&P 500 index rose 5.9% for the week, with lower yields “largely reflecting economic comfort” a key driver of U.S. borrowing costs. ”
Under previous “normal” circumstances, the Treasury's move would have had little impact. The fact that these policies have actually been implemented and the effects they have produced has led to liquidity problems in the world's most important financial markets, as growing government debt becomes increasingly difficult to digest. shows that it is increasing.
Following the Treasury Department's move and the US Federal Reserve's decision on the same day to hold off on raising interest rates, the Wall Street Journal (WSJ) reported that “a sense of relief was palpable across Wall Street.''
How long it lasts is another matter. Sonal Desai, chief investment officer at Franklin Templeton Fixed Income, told the Journal that the rally was “overdone.”
“The Treasury has the backing of the market, [but] I can’t do that,” she said. “The size of the budget deficit means there are absolute limits to what the Treasury can do.”
Rising US debt amid tight liquidity is by no means the only cause of the turmoil.
There is an ongoing problem with so-called basis trading, where investors use large amounts of borrowed money to sell bond futures and buy bonds, profiting from tiny differences in price. The Fed raised “financial stability vulnerabilities.”
Life insurance companies, once seen as pillars of financial health, are also being drawn into the vortex of financial markets.
Last week, the International Monetary Fund (IMF) urged financial regulators to closely monitor the activities of private equity funds such as Apollo and Blackstone Carlyle, citing potential “systemic risks” and “epidemics.” ” warned of the dangers of and other parts of the financial system.
The IMF's move comes after private equity investor JC Flowers warned last month that the increasing number of life insurance companies investing in private equity groups posed risks. There was also the possibility that multiple companies could be “zapped.”
The role of insurance companies is crucial. It should be remembered that in 2008, financial authorities were prepared to allow investment bank Lehman Brothers to fail, but stepped in to rescue the system when insurance giant AIG was threatened.
Adding to the ever-present and deepening financial risks are the threats of war and geopolitical tensions to global economic stability. Two leading figures in the financial capital world issued a warning on this point over the weekend.
JPMorgan Chairman Jamie Dimon said that in addition to the Ukraine war, Israel's war against Hamas was “very scary and unpredictable.”
The US still had a “strong” economy. “But these geopolitical problems are very serious, perhaps the most serious since 1938.”
Larry Fink, CEO of BlackRock, the world's largest asset manager, said geopolitical risk is a key factor in shaping life amid heightened uncertainty.
Rising fear led to lower spending, which “increased the probability that Europe would fall into recession, and the United States also became more likely to fall into recession.”
Inflation will remain high for an extended period of time, Fink said, which will require the Federal Reserve to raise interest rates further, “which will ultimately lead to a recession.”
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