Thursday, October 23, 2014

Global Economic Malaise Due To Debt

The Euro-zone is in a far bigger mess than recent headlines and figures suggest. Most of the growth in the Euro-zone over recent years has been in Germany and that bright spot is now under pressure. Italy has been in recession for two years; France’s economy has been stagnant for months. Now that Germany is in trouble, many economist think the chances of a Japan-style deflationary spiral have risen sharply. Blame is being cast upon German policymakers that remain pigheadedly opposed to the stimulus the euro area needs. Bottom-line and what it all boils down to is Germany can’t keep buying Greek bonds with German taxpayer money until the end of time.
Debt Does Matter And Will Hinder Growth

To make things worse the ECB continues to subsidize several other countries that cannot handle their debt service by keeping bond yields well below free market rates. Even as their own economy has stalled, Germany is still determined to balance the budget in 2015. They also want to force France to cut its deficit and see more in the way of reform from Italy. Currently Germany is showing little interest in a euro-wide investment scheme, and their opposition is the main reason as to why the ECB is going so slowly with a bond-buying scheme to address deflation. It appears the quantitative easing that markets want and expect is months off, if it happens at all.

A debate exist as to whether Japan or the Euro-zone sports the grimmest prospects going forward. Japan is facing a wall of debt that can only be addressed by printing more money. By debasing their currency they can pay off their debt with worthless yen where possible and in other cases they will simply default on promises made. Japan's public debt, which stands at around 230% of its GDP is the highest in the industrialized world. They are past the point where they can return to a "free and fair market" interest rate and still be able to pay the service on their debt. The moment the Japaneses stock market fails to rise enough to offset inflation and the people of Japan realize that a weaker yen will not help we will see a tsunami of wealth fleeing Japan. This will mark the end of the line for those left holding both JGBs and the yen.

The news from China is also bleak. The government of China is doing everything it can to keep the economy from slowing too much as it struggles with debts created during its boom era. Fast growth often brings with it a great deal of baggage such as poor investments and bubbles. China is now being forced to deal with its demons. China finds itself in a credit trap. For years the people of China have had the habit of saving much of what they earn but the low interest rates paid at banks has not rewarded savers. With few investment options much of this money has drifted towards housing and driven housing prices sky high. The economic efficiency of credit is beginning to collapse in China and the unwinding of bad loans in its shadow banking system will be very painful.

As commodity prices fall  and China slows it is hard to see how other emerging economies will accelerate, even if America is growing as many claim. Some optimists see the stronger dollar as a simple means to export America’s recovery elsewhere, but that too is more complicated than it might seem. If the dollar continues to strengthen fueled by faster growth and the hopes that the Fed will tighten monetary policy it would be good news for some countries that export a lot of goods because their products will get more competitive but at the same time it might allow them to put off needed reforms.

The big problem for many countries is that they remain mired in debt.and if they borrowed in dollars their debt service will rise. Currency trends tend to overshoot expected targets and as the dollar surges the trend may take on a life of its own lasting for several years causing a great deal of financial pain to those who can bear it the least. All this proves it is easier to borrow and take on debt then to repay it and I find it very troubling that debt levels have continued to grow even under today's artificially low interest rates.The Central Banks have painted economies into a corner in their attempts to paper over reality and across the world economies are being forced to pay the price. Debt does matter and do not be surprised if it hinders growth for as long as the eye can see.

No comments:

Post a Comment