By Christian Takushi MA UZH, 10 Oct 2015 – Switzerland.
As West loses Middle East initiative, new risks drive oil prices higher and Economic prospects lower. Credibility of FED and Pres. Obama at multi-year lows. Rising recession risks to overlap with risk of US government shutdown. QE4 becoming more likely. Stocks and USD likely victims.
Geopolitics dominating Q4
Against the backdrop of accelerating geopolitical events – Washington now losing control of what it started in the Middle East in 2003 – more and more economists are downgrading Economic Growth estimates. The decisive move by Russia to re-enter the Middle East and prevent the Syrian regime from being toppled by neither IS nor the West has stunned the world. The scenario we pictured last year is beginning to gather pace and shape. Oil prices are not up because of a rebound in Emerging Economies, but the escalating proxy wars in the Middle East (Shia, Sunni, USA, Russia, Turkey, China and Pakistan etc).
The resolute action by Russia has stunned Western capitals and media. As I wrote this week, people in Asia-Africa-Latin America are growing critical of Western interventions in the Middle East and more open to give Russia a chance. Unreported by our media a significant number of the so called moderate fighters the West was training & arming to fight the Syrian government were radicalized shiites, former terrorists or Islamist sympathizers that have in combat joined the IS.
As many Muslim and Arab analysts warned us, it is utterly impossible to differentiate between moderate and radicalized Islamist fighters. The only reliably constant force in the Iraqui-Syrian battle ground were the Kurdish fighters. But Washington gave green light to Turkey to bomb and attack them this summer. In a desperate change of course, Washington said this week the strategy of training moderate fighters has failed and the USA now wants to support Kurdish fighters.
Seldom since the Vietnam war has a US administration lost so much credibility. And seldom has the FED also lost so much credibility in a matter of months. Just as we need a trustworthy leadership the most, they are tossing away the little credit they still enjoyed.
Economics driven by Geopolitics and policy makers
Over the past few days more economists are joining the IMF and are downgrading their GDP forecasts for the US and World economy. And more respected thought-leaders like David Rubinstein are mentioning the word “recession”. As a result Goldman Sachs is saying the FED rate hike will be next year. This is bad news for thousands of investors who were talked into SELLING THE EURO to buy the USD. The Euro is strengthening. Just as we have been expecting since June. There is a chance triggered USD stop-losses may overlap with US government shutdown risks.
We haven’t changed our economic forecast since early summer. We stick to our forecast of weaker (and possibly much weaker) economic activity in Q4 2015. I still see the likelihood of a recession during Q4 2015 and Q1 2016. And, a QE4 may be necessary, because the FED is in the trap and cannot cut rates. Investors and businesses are demanding yet more government stimulus, and policy makers are nodding. This expectation of yet more stimulus is supporting Western stocks.
We can’t point fingers only at the FED, the US administration and Wall Street. The growing vulnerability of our World Financial System is systemic. Retirees, consumers, employees and shareholders are all part of the problem too. They demand no asset price correction, no economic contraction, no pain. Something that used to be healthy and to be expected every 5 to 7 years is no longer accepted by fast aging majorities. With older generations dominating the popular vote, a “hijacked” democracy is showing her ugliest side. Thus, popularity-seeking policy makers go back to doing whatever it takes to prevent the healthy correction that equilibrium-seeking down-swings bring along.
We are throwing our precious resources, money and time at the futile effort of avoiding a recession and propping up CPI. The World Economy – but in particular the US economy – has been artificially supported by FED-inflated stock prices, FED-Inflated Government Bonds, FED-inflated high yield bonds etc. Yet we are told to seek inflation only within a government-sanctioned CPI. This is a flawed concept. Our policies have reinforced the Demographics-driven shift of inflation from consumer goods to assets.
Big potential for the Economy held back
Despite all geopolitical and systemic risks, the overhaul of outdated targets would liberate amazing positive forces for the world economy. Policy makers and universities need simply to be pragmatic and move away from their dogmatic 2% CPI targets, dogmatic 3% US Potential Growth and dogmatic maximization of Real GDP. The backwards-looking targets of FED-ECB-BOJ fit the past rather than the future. They fit a post-WW2 World that no longer exists. A –1% to +1% CPI target, a 2% US Potential Growth target and the striving for Nominal GDP per capita and real Net Wealth per capita could soon lead to positive interest rates, savings, investments and more balanced growth.
Beijing and other governments are overstating economic growth – FED holds on to excessive Growth and CPI targets to keep extraordinary “free hand”
All over the world governments – including the IMF as it relies on official government data – are overstating Economic Growth as officials are rewarded for economic performance of their provinces and nations. But monetary leaders and policy makers are also overstating estimates. Given the systemic global risks and in the absence of external audits and independent agencies calculating data, it is understandable. Economic growth has been said to be close to 3.5% for a good part of the year. In fact it was stuck between to 2.5% and 3% for most of 2015. Governments have learnt from corporate leaders to manage expectations. It works. There are several smart ways how institutions take advantage of the collective reliance on the market and herd behavior. Very few market agents do their own calculation and questions government data. At the onset of 2015 and during its first half growth was overstated, that led companies to order & consume more. It subtly supports economic growth. Had the IMF said in December that 2015 may see growth of 2.5% only, expectations and behavior may gravitated downwards earlier and probably faster. Yes, if most people focus on what IMF and Central banks say, such an estimate – to some extent – works like a self-fulfilling prophecy”. Yet, we cannot blame government officials as they try all tools at hand to prop up growth and growth expectations. The interests of investors and corporate leaders – from New York to Beijing – are well aligned with the interests of policy makers: they all want to see higher GDP numbers and higher asset prices. So, few economists at major banks or corporations may be allowed to take the “rosy” official data apart. Or any data that would take away the sense of emergency – such a state would mean central banks will not be able to enjoy extraordinary powers and freedom to continue QE at will. That is why few economists question the FED’s strange CPI target of 2%. A figure that was appropriate for the past decade. Would the FED acknowledge the changed realities in the World economy and a more realistic U.S. Potential Growth target of 2.5% and a CPI target of 1%, it would have had to normalize interest rates long ago. Adjusting for immigration and population growth, the current U.S. Potential Growth may be just slightly above 2% per capita YoY, real.
Even Real GDP should no longer be the target; with so much paper money printed in the past 15 years, the U.S. government should target Net Wealth per capita. This is the only monetary target civilians really care about. GDP is very elusive and extremely easy to be manipulated. Governments’ ability to translate GDP growth into Net Wealth per capita is very different anyway. Israel and Taiwan are good at that while many large nations are extremely weak at at that (Brazil, Argentina, Russia etc). Are the first 9 deciles able to grow their net financial wealth? Or are we simply consuming on credit or buying up competitors on credit? Sadly, even a large number of economists have neither been trained to test and question government data nor to build their own methodologies and estimates. In recent months officials they are “quietly” downgrading the growth estimates, with hardly anyone really paying attention or questioning the pattern of expectation-guidance. As the year end draws closer, the estimate will be quietly corrected downwards once more to reduce the gap to reality and to make sure the 2016 forecast looks firm or higher compared to the last estimate for 2015. The forecast for 2016 will be given market attention, with most of the market simply happy to see 2016 will be steady or firm compared to 2015. The Chinese and World Economy are indeed weaker than the numbers are suggesting. Transportation, logistics and shipping data and other observations suggest World growth is currently hovering at a 2.2% annual rate. The IMF estimate pf 3.6% for 2016 is also meant to support growth. The degree of market manipulation may be seen as unethical by some, but given the shaky state of the world and the lack interest by market participants & financial media, many pragmatic people are seeing this as an evil most are happy to live with. Policy makers cannot be accused of “deceiving” the market if that market is cooperating along and very comfortable in her illusion. Markets will remains so as long as asset prices are being supported.
Some investment thoughts – for institutional & qualified investors only
The Swiss Franc and the Euro are both strengthening vs the USD. And maybe the time has come for institutional investors to start searching for value in the commodity and emerging market realm. The 60% sell-off at Glencore has opened opportunities in markets. High risks possible in Brazil in coming months. Only investors with ample risk capacity and experience in active trading should consider taking new risks though.
Yesterday WSJ–Dow Jones News’ Laurence Fletcher quoted our view that opportunities in commodities and Indonesia-Colombia-Russia-Peru are beginning to open.