Merrill Lynch’s survey of global fund managers for August shows an extraordinarily rapid turnaround in their perceptions of inflation. Forty-nine per cent of those surveyed by the investment bank now say that inflation will be lower a year later, compared with 59% last June who said it would be higher in 12 months’ time. That’s a rather rapid about-face by the inflation hawks. Clearly, the recent pummelling received by oil and commodities has done much to dramatically change their views on inflation.
So is it time to bring out the champagne then and celebrate the slaying of the inflation dragon? Well, nobody’s celebrating. Stock markets have been falling despite the pullback in oil prices. Why inflation is coming down is not because of more oil or metals being supplied, but because demand is falling.
As North American economist for Merrill Lynch David Rosenberg put it, “It’s something to get an oil price decline that’s predicated on a new oil supply. I would keep that as a de facto exogenous tax cut; but when you’re getting oil price declines because of recessionary pressures cutting into energy demand, it’s no different than what happened in late 2000. That was the last time we had oil peel off as much as it is right now. I think it would have been a bit of a mistake for the economists at the end of 2000 to say, ‘Ah-ha, oil is coming down; I’m going to raise my 2001 gross domestic product (GDP) forecast’.” Those who used to be worried about inflation earlier are now worried about a recession. Forty-eight per cent of Merrill Lynch’s respondents in the August fund manager survey, for instance, now say that the world will be in a recession in the next 12 months, while the number of fund managers who believed that in June was a considerably lower 34%.
There seem to be lots of reasons to believe that. The European economy has shrunk in the second quarter compared with the first, with France, Germany and Italy all showing negative growth. In Japan, GDP in the second quarter contracted by 0.6%, compared with the first quarter. The UK economy grew by a measly 0.2% in Q2. The only bulwark against a recession in the advanced economies was the US, with an annualized GDP growth of 1.9% in Q2 and that’s solely because of all those economic stimulus cheques being spent.
Given these boisterous headwinds, it’s a matter of time before Asian growth, too, starts to falter. Moody’s economist Matt Robinson points out that countries such as South Korea and Taiwan have started recording trade deficits after years of trade surpluses. Singapore’s exports are expected to fall for the first time this year after 2001.
So far, however, exports have held up pretty well for both India and China. India’s June exports rose 23.5% year-on-year, while China’s July exports grew by a scorching 26.9%. This robust export growth has been surprising and experts have been scrambling to provide some explanation. One theory is that the depreciation of the Asian currencies against the euro fuelled exports to Europe. Another is that while export growth has been high in nominal terms, they’ve been much lower in nominal terms. It is a stretch to believe that exports will continue to be strong in the face of slowing growth in the importing countries.
But even if the advanced economies have a recession and emerging economies slow down, what will be the extent of the slowdown? The International Monetary Fund (IMF) defines a global recession as a global growth rate below 2.5%. By that definition, the last time the world slipped into a recession was in 2001 when GDP growth was 2.22% (it was as high as 4.9% last year).
Prior to 2001, the world had a recession during 1991-93, with global growth at 1.5%, 2% and again 2% in 1991, 1992 and 1993, respectively. Developing Asia did comparatively well, growing at 5.5%, 6.1% and 8.9%, respectively, during the three years. The Chinese economy was the big driver of growth, with GDP growth at 9.2%, 14.2% and 14%, respectively, during those years.
India’s growth was much lower, at 2.1%, 4.3% and 4.9%, respectively. Note that the data indicates that developing Asia, especially China, was pretty much decoupled from the advanced countries, which showed miserable growth rates of between 1% and 2% during the early 1990s. Globalization during the 1990s has actually led to less decoupling, not more.
But much has changed in the global economy since the 1990s and perhaps we need to look at the 2001 recession to make a more meaningful comparison. What happened to the world economy during the last recession in 2001? GDP growth fell precipitously, from 4.67% in 2000 to 2.22%. The Group of seven countries grew by a mere 1%, while developing Asia grew by 5.75%, down from 6.9% in 2000. A simple average of three crude spot prices—Brent, WTI and Dubai Fateh—fell from $28.24 per barrel in 2000 to $24.331 the next year and averaged $ 24.95 in 2002. IMF’s metals index fell from 62.699 in 2000 to 56.266 in 2001 and further to 54.321 in 2002.
Simply put, the hopes of higher metals and crude oil prices and therefore higher inflation, in the midst of the current slowdown rests on the assumption that countries such as China and India can keep up much higher growth rates, more than offsetting the contraction in the developed countries. That is nothing but the decoupling thesis which, as the Merrill Lynch survey shows, nobody believes in any longer.
Manas Chakravarty looks at trends and issues in the financial markets. Your comments are welcome at firstname.lastname@example.org
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