Economics Weekly - Collapse in trade leads global downturn in production; Weekly economic data preview - BoE Quarterly Inflation Attitudes Survey and a plethora of weak data
Economics Weekly9 March 2009
Collapse in trade leads
global downturn in production
For all of the focus
there has been on the crisis in financial markets, the economic downturn has
been led by the industrial sector. However, a substantial part of the reason
for the decline in industrial output is a tightening of credit conditions â€“ a
direct result of the financial market crisis. But the key point is the downturn
now underway is impacting countries which did not increase debt (leverage)
excessively nor were involved directly in the credit markets that have now gone
bad. Rather, they are being affected by the widespread collapse in global trade
that is now underway. This means that the higher the share of foreign trade in
a countryâ€™s economy, the worst the impact on it from the current slowdown in
world growth. The credit crisis is acting to worsen the global economic
downturn as trade credit and invoicing dry up. Not surprisingly, companies are
reducing inventories rapidly, business confidence has fallen sharply and unemployment
is now rising quickly.
World trade collapse is
leading the economic downturn...
Of course, the facts show
that an economic slowdown was underway before the credit crisis erupted in 2007,
because of rising interest rates around the world to head off rising price
inflation. Accelerating inflation was occurring because a long period of fast
economic growth had reduced global spare capacity sufficiently to ramp up
commodity prices and this was helping to cause a sharpening rise in global
consumer prices. Further, it is worth bearing in mind that global growth was
itself unbalanced, with the surplus of the exporting countries being used to
fund growth in the countries with a trade deficit via a rise in their debt (as they
borrowed from the rest of the world). This could not continue indefinitely, as
it was creating bubbles in property and financial markets in the debtor
countries that eventually burst and spawned the resultant credit crisis that
still rumbles on, despite all the efforts to tackle it.
...hitting countries with
large exporting shares, even though they are not highly indebted...
It is a collapse in
economic growth in the debtor countries that is now leading to a sharp
contraction in global economic growth. This is particularly hitting those
countries that are big exporters (Germany, Japan etc). But the
situation is more complicated than this, as the general slowdown in economic
growth and trade volumes in a globalised economy is spreading the shock to all
countries. It is also probably worth noting that growth in Germany and Japan has been led by exports
in the last decade and that domestic demand is not sufficient to prevent
recession. Indeed, both of these large economies would have barely grown in the
last decade if not for the sharp rise in global trade. The same cannot be said
of some of the countries with big trade surpluses, like China and India. Although economic
growth has been led by exports in these countries, domestic demand growth has
been strong as well. Nevertheless, there is now a vicious self-perpetuating
downward cycle underway between trade and economic growth that will likely take a resolution of the
credit crisis and a return of business confidence to help to break this pattern.
This is the context for
the general fall in global trade that is now underway, with chart a showing
that this is likely to be easily the biggest decline in global trade since the
1950s. Since world trade growth and world gdp growth seem to be closely linked,
a recovery in global trade will be necessary to sustain any recovery in
economic growth and vice versa. Export volumes are falling very sharply, see
chart b, with the decline in Japanese export volumes in January, for instance,
running at nearly 50% lower than in the year before. Hence, trade linkages seem
to lie at the heart of the collapse taking place in global industrial production.
Chart c shows industrial production tracking the fall in export volumes
downward almost in step. In practical terms, the response reflects a
calculation being made by companies that are facing falling demand and a
reduced access to external and internal finance. They are scaling back in order
to survive the economic downturn now underway and so sharply reducing stocks,
output and employment.
...as in a closely
integrated global economy, recovery will take time and depend on the resolution
of the credit crisis
The fall in industrial
production is fed by a severe fall in business and consumer confidence. Chart d
and e show that the falls in confidence have been dramatic since the third
quarter of 2008. One of the key features of this is that it is happening almost
simultaneously in a range of key economies around the world. With such a big
synchronised, fall in global production and business confidence, it is not
surprising that unemployment is beginning to show the kind of increase not seen
in decades, see chart f. With these negative economic trends in place, it is
only a matter of time before retail sales fall more sharply than seen so far in
most countries, see chart g. It may seem obvious, but the pace of the eventual
economic recovery will be limited by the extent of the rise in unemployment now
underway. Unfortunately, this analysis also suggests that the global economic
recovery may take some time, despite the massive fiscal and monetary
oosening now underway and that it could get
worse before it gets better.
ô€‚„ The UK BoE publishes its Quarterly Inflation Attitudes Survey on
Thursday. The November survey showed the largest quarterly fall in consumer
price expectations since the survey began in November 1999. We will be looking
to see how much household perceptions have changed three months on. In
particular, will 12-month price expectations be in line with the BoEâ€™s
assessment derived from market interest rates of inflation hovering around 1%
over the 2-yr forecast horizon (well below the 2% target). Inflation
expectations are important for the BoE and have in the past been a key
indicator informing monetary policy decisions. Should there be
a sharp decline in household price expectations it will provide further
justification of the need for the Â£75bn asset purchase programme. BoE member
Barkerâ€™s speech will also attract attention on Thursday, especially for any
insight that she may offer on the depressed UK housing market. In terms
of data, the UK statistical office publishes industrial production, which is
likely to have undergone another sharp fall in January and external trade data
which may position the trade deficit at around Â£7.8bn (Â£7.4bn in December) as
world trade collapses. Other releases include the NIESR 3-month rolling GDP
figure and the BRC retail sales monitor, both for February.
ô€‚„ February data published last week showing the US unemployment rate
rising to a 25-year high of 8.1% and US NFP employment falling by 651,000 the
worst outcome since 1949, set the stage for another gloomy array of US economic
news this week. Wholesale and business inventories are both likely to have
again significantly contracted in January, as firms attempt to tighten
operating margins in response to falling orders. Retail sales for February will
also register sharp falls of around 9% on an annual basis as consumer
confidence is very weak. This will be highlighted by the March preliminary
University of Michigan Survey due Friday, which
will probably be only just above Novemberâ€™s index low of 55.3, at 56.5.
Finally, the US trade deficit may have
narrowed further to $37bn in January ($39.9bn in December) as the recession
imposes a sharp adjustment to the US external accounts.
ô€‚„ One or other ECB member presents speeches each day this week, all
of which will be gleaned for follow on information from ECB
President Trichetâ€™s press conference last Thursday. Questions such as, will the
ECB cut its repo rate further back towards zero or will it rely on using the 1%
deposit refinancing corridor and unlimited commercial banksâ€™ refinancing scheme
to ultimately do the job of unfreezing financial markets and re-invigorating
the economy? Other contentious issues include how the ECB would reach
governmental agreement for quantitative easing, if considered necessary, given
the sharp economic and fiscal deficit variation between its member states.
EU-16 economic data include French & German industrial output, German
factory orders (forecast to have contracted by 28% on an annual basis) and
EU-16 producer prices & retail sales. With the Eurozone economy under
growing strain from within and without there must be a high probability of the
ECB having to do more - we project an interest rate cut to 1% as soon as April.
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