Opinion | The world economy is moving closer to another hard landing4 min read . Updated: 22 Apr 2019, 10:25 PM IST
Accommodative policies have driven unreasonable asset-price booms. A collapse would be painful
During the long Easter weekend, a colleague shared some information about a course that two teachers at the University of Washington have floated. The course is titled, “Calling Bullshit". It is about identifying, understanding and dealing with bullshit. The instructors would find rich pickings in financial markets and in macroeconomic data and policies.
Take the valuation of technology unicorns. According to a recent article (The wave of unicorn IPOs reveals Silicon Valley’s groupthink, 17 April) in The Economist, 11 out of 12 unicorns lack profits. In general, 84% of companies going for an initial public offering (IPO) lack profits. Ten years ago, that figure was 33%. The current profitless share offerings match the situation in… the year 2000. Yes, we are back there. The operating margin for the median company is -30%. Equity value/revenue multiples in the double-digits are more common than otherwise.
Ruchir Sharma, in an article (9 April) for The New York Times calls Donald Trump’s obsession with the stock market dangerous. He is quite right that the American president makes policies or changes them with an eye on the stock market. Despite the Federal Reserve abruptly halting its monetary policy normalization, Trump is worried that he is stuck with the current chairperson. He wants the Federal Reserve to cut rates although the stock market is partying much too hard anyway. As a candidate, he had blamed the Federal Reserve for inflating bubbles.
This stock market boom is nearly 10 years old. Yet, Bloomberg, citing a Bank of America-Merrill Lynch survey, states that allocation to equities jumped 14 percentage points last month. Investors are shorting volatility again, more than what they did back in the summer of 2018 . In other words, complacent investors are betting on further complacency. Mistaking Zoom Technologies, a penny stock, for Zoom the videoconferencing company, investors pushed up the former’s share price by nearly 54,000% from $0.005 to $2.70.
Next, take China’s economy. Every time China is touted to be pursuing macroeconomic reforms and said to be serious about reducing its debt burden, its economy stumbles and its government promptly pumps in more credit. Economic growth perks up, and investors uniformly praise China’s recovery. Never mind that its actual growth rate, at 6.4% year-on-year for the first quarter of 2019, correctly came in 0.1% higher than the consensus estimate. Retail sales growth in the country has been reported at above 8% year-on-year in the first four months of the year. Never mind the inconsistency with the decline in auto sales in the first quarter and the fall in mobile phone shipments. There was an alleged surge in industrial production growth despite factory shutdowns, and, to boot, it was led by sectors that were the most affected by the trade war with the US—telecom, machinery and non-metal minerals.
In spite of such a debt-driven and yet statistically dubious economic recovery, China is the darling of stock market investors, including global investment managers. Mary Schapiro, former Chairperson of America’s Securities and Exchange Commission lauds the phased inclusion of China’s yuan-denominated bonds in the Bloomberg Barclays Global Aggregate Index (“China’s bond market reaches a tipping point", 17th April 2019) from this month. According to her, “China is acting on the four key aspects that would make it an investible bond market: market regulation, market access, investor demand and improved benchmarks." What should matter to investors, however, are debt sustainability and default risks. On those fronts, China is again backsliding big time. In 2018, China’s bond defaults surged to 119 from 35 in 2017 and the amount of defaulted debt trebled. Investors too are apparently ready to invest in yuan-denominated bonds despite debt being the biggest risk factor in China. By standard economic logic, China should have had multiple economic crises by now. But the Federal Reserve has repeatedly bailed them out.
Thus, monetary policymaking of recent decades (and weeks) makes the strongest claim to “bullshit". It has contributed to social unrest, rising income and wealth inequality and to the rise of authoritarian nationalism in countries around the world by creating real wealth effects but phantom economic recoveries. The latter have contributed to global warming through unsustainable construction booms. The recovery of the Bitcoin price in recent weeks is the most recent indictment of the Federal Reserve’s turn on monetary policy towards accommodation. In a recent interview in Switzerland, Jim Grant of the eponymous “Interest Rate Observer" opined that Federal Reserve monetary policies post-2008 have been nothing short of criminal. That is no “bullshit" of course.
Given that the current asset price boom cycle is already longer than the 2001-07 cycle, the final denouement too will necessarily be worse than the fallout of the 2008 crisis. Therein lies the hope to an end of the “bullshit" that has characterised policymaking and much investment activity in recent times.
V. Anantha Nageswaran is the dean of IFMR Graduate School of Business (KREA University). These are his personal views.