World economy is shaky, funny money won’t fix it
SO that was "jarring January". Since the start of the year, over £4?trillion has been wiped off the value of global equities - that's four, followed by 12 zeroes. US stocks endured a steeper first-week decline in 2016 than in any year since before the First World War. Market volatility drove the MSCI World Index of leading shares down 8pc in January - a degree of decline usually seen during systemic crises, such as the 2008 Lehman Brothers collapse or the 2001 dot.com bust.
While policymakers maintain that "the fundamentals are sound", many large investors now think otherwise. We're getting caught in the dreaded "negative feedback loop" - when market turbulence brings about the very economic slowdown it fears, with investor anxiety itself becoming the catalyst for a renewed slump. The world economy is "still expanding" but growth is "weak and uneven" admitted Maurice Obstfeld, the International Monetary Fund's chief economist, last week. "This coming year will be one of great challenges and policymakers should be thinking about shortterm resilience," he said.
Having downgraded its global growth forecast for 2016 by another 0.2pc, to 3.4pc, the IMF is acknowledging the world economy is shaky. US banking giant Morgan Stanley goes further, pointing to a one-in-five chance the world economy will re-enter recession this year - defined as growth below the 2.5pc rate needed to match world-wide population gains. This last happened in the immediate aftermath of the Lehman Brothers collapse. The reasons behind recent stomach-churning falls on glob- al markets are many and varied. The most significant, in my view, was brought into focus by the quarter point rise in US interest rates in December, the first in almost a decade.
Since late-2008, Western stock markets have been pumped up by quantitative easing (QE), with the Federal Reserve increasing its balance sheet more than three-fold since 2009 - ably assisted in such bubble-blowing by the Bank of England and the Bank of Japan. Yes - some extra liquidity was needed in the darkest days of the credit crunch. But QE has gone way beyond that. Necessary emergency measures have been transformed, at the behest of powerful financiers and myopic politicians, into a stock-boosting lifestyle choice, the financial equivalent of crack cocaine.
With US money-printing now on hold and rates seemingly on the up, many financial assets - from equities to bonds - look overvalued, not just in America but across the world. That's the single most important reason global markets are so jumpy - because investors know, in their bones, that the strong gains of recent years have been built on debt and QE. Despite massive monetary and fiscal stimulus, the US economy has not only been unable to stage a sustained recovery, but is now showing worrying signs of reversal. The biggest economy on earth is failing to fire on all cylinders and produce anything like the growth that could justify current stock prices.
America's all-important consumers are now reining in their spending, with retail sales falling 0.1pc in December, marking the end of the weakest consumer year since 2009. Industrial production was 0.4pc down, having dropped 0.9pc the month before, with the US manufacturing sector now officially in recession. Survey data released last week points to an alarming slowdown in America's service sector, which accounts for two-thirds of the economy. The influential purchasing managers' index dropped to 53.2 in January - a 27-month low.
While still expanding, growth in US services is now slowing, with financial volatility taking its toll on deal-making and spending across a range of sectors, as the feed-back loop tightens. Rather than a "normalisation" of policy-making, then, this US rate rise, and the spasmodic response of financial markets and the broader economy to it, indicates the Fed's weakness.
Having boldly pointed to four rate rises during 2016, US policymakers have changed their tune - with futures markets now pricing in no US rates hikes until next year at the earliest. I maintain that financial volatility will prove so destabilising, and cause such damage to America's economy that we'll see yet more US QE - and perhaps even a reversal of December's rate increase. Rather than placating the markets, that could do more harm than good.