美元將繼續走強三至六個月

謝國忠：核子寒冬？

謝國忠搜狐博客 http://xieguozhong.blog.sohu.com/

We are witnessing, day by day, a hard landing of the global economy before our eyes. The chaotic failure of Lehman Brothers triggered the panic that is forcing deleveraging in markets on a gigantic scale. The Treasury and the Fed have failed miserably in their handling of the crisis. Unless they come out with effective and decisive measures soon, the United States could end up like Indonesia a decade ago: financial chaos leads to economic chaos that leads to socio-political chaos-a self-sustaining vicious cycle that would impoverish the country.

The article below was written one week ago and just came out in the current issue of Caijing Magazine. It makes the case that, regardless of effective financial bailouts, an economic crisis is inevitable. The Anglo-Saxon economies would contract like East Asian economies in 1998 by 2-5% in 2009, and would stay weak for years afterwards like Southeast Asia after 1998.

Emerging economies have to figure out how to grow on their own, or they would stay weak alongside. The key is to start a South-South trade and investment boom. Oil-rich countries should invest in China and India, buy consumer and capital goods from them, and sell resources to them. This is probably the only case for the next bull market. Cheers. Andy

Nuclear winter?

Even though the global financial crisis is far from over, a global economic crisis seems to be unfolding already. The recent economic data suggest that the global economy is decelerating rapidly, probably contracting sequentially already. Even though the US Congress reluctantly passed the $700 bn rescue plan for the Wall Street, stock markets are not celebrating that and are already focusing on the economic downside. Many investors are bearish enough to talk about a 'nuclear winter' for the global economy. How bad could it be?

Ten years ago, the Asian Financial Crisis began in the spring of 1997, a severe economic crisis followed in 1998. Asian stock markets contracted by half to two thirds from peak to bottom between 1997-98 and many currencies were devalued by one third to half. In US dollar terms, Asian asset prices plunged by 70-90%. Following the severe wealth destruction, most economies contracted by 5-10% in 1998. Could the global economy follow the same pattern this time?

The Anglo-Saxon economies would follow a similar pattern to what East Asian economies experienced one decade ago. Australia, the UK, and The US could contract by 2-5%, less than East Asian economies then due to their large service economy and better social welfare. Nevertheless, the contraction of such magnitude for large developed economies has not occurred since the Second World War. Hence, using 'nuclear winter' to describe the coming economic downturn may not be an exaggeration.

The Anglo-Saxon economies account for over one third of the global economy and have been the demand driver through their big current account deficits. Their downturn will drag down their trading partners. Euro-zone, for example, is already showing weakness. The strong euro has already taken its toll. The weak dollar has allowed the US to gain market share to stabilize its economy so far. The unfolding US recession will cut demand for European products in its largest market. The combination means a big recession for the euro-zone. Its largest economy, Germany, in particular, will experience a severe recession due to its export reliance.

Like Germany, Japan's economy is closely intertwined with the US's through the trade linkages. Even though China is the largest trading partner for Japan, a big share of its exports to China is processed for re-exports to the US market. Japan will likely suffer a recession like Germany.

China's exports would suffer like everyone else's. China's exports, 40% of GDP in nominal value and probably 25% of GDP in value added, may decline in 2009 for the first time in three decades. In the previous downturns, China was small and cheap enough to grow its exports through market share gains. But, China is now the largest exporter in the world. Market share gain couldn't offset global downturn anymore.

The bursting of the domestic asset bubbles is adding to the impact of the export downturn. The stock market bubble has already burst. Its wealth effect on demand, especially for property and auto, is much larger then expected. The property bubble seems bursting too. Its economic impact would be much bigger than the stock market. The measures to boost property market are unlikely to reverse the trend. The global environment is triggering hot money to leave China. The weakening exports will add to the liquidity drain out of China. The chances are high that the property bubble will burst for good this time.

Exports and property have contributed to most of China's growth in this cycle. I do expect a major push to accelerate infrastructure construction in 2009. But, it won't reverse the downward trend. The fiscal pump-priming won't surpass 3% of GDP. Exports and property have contributed to GDP growth by 5-6 percentage points per annum in this cycle. If they contract, say, by 2-3 percentage points of GDP, the effect on GDP growth rate is 7-9 percentage points. Fiscal stimulus simply can't offset their impact. China's growth rate in 2009 will likely reach a ten-year low.

The developed economies account for two thirds of the global economy, and emerging economies one third in nominal terms. If the developed economies contract by 1.5-2% collectively in 2009 and emerging economies grow by 2-5%, the global economy as a whole could contract for the first time in half a century. If any downturn fits the description of 'nuclear winter', this one would.

In addition to depth, duration of the downturn could also be much longer than the ones before. In 1999, East Asian economies staged a V-shaped recovery on an export boom due to a robust US economy and currency devaluation. With all major economies down, no one could stage a quick recovery on exports. Devaluation wouldn't work this time. Repairing balance sheet can only come from demand reduction rather than income growth. Restoring the economic health will be time consuming.

What about the $700 billion bailout package? The market was expecting its passage to stabilize financial markets and stave off a recession. The package may stabilize the financial system, i.e., preventing bankruptcies of large financial institutions. But, it couldn't restart lending, as hoped, to keep the real economy afloat. In Anglo-Saxon economies (Australia, UK, and US) lending to consumers had sustained their consumption boom. The lending was made possible by rising property price, which made property an effective collateral and increased household's debt appetite for boosting consumption due to the wealth effect. Now property prices are falling. It is hard to imagine that the households want to borrow more for consumption when their wealth is vanishing. Even if they do, banks wouldn't lend to them as they lack good collaterals. Hence, if the $700 bn cash is swapped for toxic assets on the balance sheets of the banks, the money will remain there instead of lent into the real economy. Some sort of liquidity trap seems likely.

Central banks around the world may cut interest rates soon, despite high inflation. The explanation is that rate cuts are needed to boost demand and the economic downturn will bring down inflation. Neither is true. Rate cuts stimulate demand by encouraging borrowing by businesses or households to boost demand. When household balance sheet is so damaged, low interest rate doesn't work its magic. We saw this drama in Japan ten years ago. Credit demand will only come back when the household sector has repaired its balance sheet through cutting leverage. That is a long process.

Weak demand, however, wouldn't erase inflation like in Japan ten years ago. Japan had a large trade surplus. Its demand weakness caused its trade surplus to remain high and the yen strong, which kept inflation down. Energy and food prices were low due to demand crash in the former Soviet block. The prices of manufacturing products were falling due to China's emergence in global trade. And IT was boosting productivity, especially in the service sector.

Today's environment has totally changed. First, despite the recent sharp fall, energy and food prices remain elevated due to supply and demand issues. The demand in the ex-Soviet block is rising rather than falling. The demand among oil exporting countries is especially strong. One source of deflation during Japan's crisis is gone for good.

Second, the prices of manufacturing products wouldn't fall like before. The demand weakness may cause temporary price decline. But, it is not a trend. Ten years ago, as multinationals moved factories from Europe, Japan, and the US to China, there was a trend for prices to converge towards China's production costs. That process is over. And China's costs are rising. Together with demand weakness, China's export sector is suffering an unprecedented crisis. It will lead to shrinking of China's production capacity, which would cause prices to rise.

Third, IT is fully integrated into the production side. Its upside for productivity is quite limited. On the other hand, IT has become the most important tool for entertainment. IT toys have become serious time killers at work. I think IT is now a drag on productivity.

Hence, on the supply side, the main deflationary forces are gone and the new inflationary ones are around. Energy supply bottlenecks are certainly inflationary. On the demand side, the economic downturn is certainly deflationary. Ceteris paribus, inflation may cool off a bit. But inflation rates won't fall quick enough to remove negative real rates. Australia just cut interest rate by one percentage point to 6%. Others will follow suit. Interest rates will probably fall faster than inflation rates. Hence, negative real rates would remain for a long time, which would rekindle the prices of energy and gold and boost inflation.

Interest rate reductions are definitely the next big story. Stock markets may stage a significant rebound soon on this story. But it would be mis-interpreted just like the bailout story. Rate cuts can ease the burden for debtors but won't be able to rekindle the economy by increasing credit demand. Credit demand can only come back when both household and business balance sheets are sound again.

Dollar is coming into center stage again. It has strengthened sharply: Australian dollar ('A$') is down 15% against it, euro down by as much, and pound sterling down by half as much. The dollar's bounce is due to unwinding of carry trades. The rapid appreciation of yen against A$, for example, is the best indicator. The high interest rates in Australia attracted even retail investors who borrowed yen at 0.5% interest rate and bought Australian dollar at 7% interest rate. This source of demand kept the value of A$ elevated. When Australia poised to cut interest rate, the carry trades were unwound quickly, and A$ tumbled. Euro has been another favorite currency for carry trades. It has tumbled too.

Dollar's strength has had a big impact on the prices of commodities. Many speculators have invested heavily in the 'long commodities and short dollar' trade. As dollar has strengthened, they have unwound their positions in commodities too, causing their prices to tumble. As the prices fall, users are cutting their inventories too, reinforcing the price decline. Some analysts are already arguing for deflation due to the tumbling commodity prices. While there are many commodities, the ones that really matter are energy and agriculture products. I think the prices for both will remain high for years to come. As I argued above, the constraints on the supply side and demand in emerging economies will favor high prices for both.

The dollar strength will continue for three to six months. As the US economy crashes, so would its imports. Its trade deficit may fall quick enough to strengthen the dollar further. But, the monetary loosening measures will come back to bite afterwards. The Fed cares more about the economy than inflation. Its policy is biased towards loosening. The dollar will decline again in 2009. Indeed, when market shifts its attention to the ballooning debts of the Federal government, the dollar could have a bigger crisis than the last one.

美元將繼續走強三至六個月。隨著美國經濟崩潰，其進口將會下降。它的貿易赤字可能會下降，進一步加強美元。但是，貨幣寬鬆措施會回咬。美聯儲關心經濟多過通貨膨脹。它的政策是偏向於放鬆。美元將在2009年再次下降。事實上，當市場轉向注意聯邦政府的債務氣球，美元可能有更大的危機，比上一次更嚴重。

As the technical factors run their course, speculators will come back into energy and gold, noticing declining interest rates. Real interest rates are already negative. Rate cuts could increase negative real rates. Paper currency is depreciating in real value. It is rational for investors to buy value-preserving commodities like energy and gold. The bullish story for energy and gold may last for a decade. Of course, they will fluctuate, as the current correction demonstrates. They will remain good assets in the era of inflation.

由於技術因素，投機者會回來到能源和黃金價格。隨着利率下降，實際利率已經為負。降息會增加負實際利率。貨幣正在貶值。理性的投資者會購買保值商品如能源和黃金。能源和黃金價格上漲可能會持續十年。當然，他們會波動，正如目前。在通貨膨脹的時代，它們將是良好的資產。

In addition to bailouts and rate cuts, more radical measures are coming. When a central bank expands its balance sheet, it loosens monetary policy. This can be accomplished by cutting interest rate, when there is demand for money, or buying government papers ('quantitative easing') when there is a liquidity trap. When it decreases the asset quality on its balance sheet, it loosens the monetary condition also. Japan did both during its long stagnation.

The Fed is already talking about buying commercial papers that businesses issue. The market for commercial papers is pretty much dead now. The risk premium as priced in the credit default swap ('CDS') market is ridiculously high for businesses to function normally. If the Fed purchases the papers directly, it essentially substitutes the market as lender to businesses. The high risk premium essentially means that investors don't trust businesses, because they can't understand their balance sheets. The Fed could step in to take on this risk.

Central banks can buy government bonds to monetize national debts. The fiscal balances will be amazingly bad next year. The US's budget deficit could be 4% of GDP in 2008 and 6% of GDP in 2009, not counting the bailout costs. It may have to issue $3 trillion of new papers into the treasury market, or 30% of the stock. The market may not be able to absorb. If the Fed steps in to buy, it is equivalent to printing money to fund fiscal spending.

When it comes to the 'inflation or deflation' debate, we should consider who Ben Bernanke is. He has spent his lifetime researching ways to stop deflation, i.e., finding new ways to printing money. He is not known as 'Helicopter Ben' for nothing. When push comes to shove, he will really drop money out of a helicopter to stop deflation. With Bernanke at the helm of the Fed, we should worry about inflation, not deflation.

The creative monetary measures that will come can stabilize the business sector by improving their balance sheet, but won't prevent the recession. The problem is that the household sector needs to decrease leverage. The demand for credit is just not there when wealth is evaporating like now. The total paper wealth in the world may have declined by $15 trillion in stocks and properties. A similar amount could be lost in the next 12 months. It is not possible to get consumers to spend with wealth destruction of such magnitude.

貨幣措施將可以穩定商業部門改善其資產負債表，但不會阻止經濟衰退。現在的問題是，家庭需要減少杠桿。當財富像現時天天蒸發的情況下，對信貸的需求是不存的。世界上股票和物業的總財富可能已經下降了１５萬憶美元。未來12個月也能失去類似的數額。如此大規模財富蒸發掉，消費者難再消費。


After the recession, I don't see how the global economy could resume robust growth quickly. The debt-driven Anglo-Saxon consumption has powered the global economy for years. Investors won't lend to Anglo-Saxon consumers for many years. Memory doesn't go away so quickly.

Using 'nuclear winter' to describe the coming downturn is probably appropriate. The depth and duration of this downturn are certainly the most severe since the nuclear age dawned. The biggest downturn in the nuclear age should be described as 'nuclear winter'.