Can the global gloom sink the US economy?

31 Aug 2015 | Author: | No comments yet »

3 reasons markets lost faith in China’s economy, at a glance.

For decades, Chinese economic policymakers have drawn praise for keeping their economy growing strongly through turbulence, such as the Asian financial crisis of 1997-1998 and the worldwide financial tumult of 2008. Tokyo: Asian stocks sagged on Monday after top Federal Reserve officials kept the door open for an interest rate hike in September and investors braced for China economic data this week.

A volatile ride for global markets this week ended calmly on Friday even as lingering worries over Chinese economic growth and the Federal Reserve’s plans to raise interest rates weighed on stocks, but oil rebounded sharply for a second day. That’s a simple financial truth, but it’s hard to keep in mind in the midst of a sell-off like the one we saw last Monday, especially with headlines screaming about a “Bloodbath in Global Markets.” So, even as the market rallied last week, concerns lingered over the possibility that the sharp decline in stock prices boded ill for the U.S. economy as a whole, giving us front-page stories fretting about the “real threat to the American economy” and warning of “a leaner era ahead.” These worries are almost certainly unfounded.

Fed vice chairman Stanley Fischer, speaking at the central bank’ conference in Jackson Hole, Wyoming, said recent volatility in global markets could ease and possibly pave the way for a rate hike. State-run media talked up stocks, and individual investors responded by buying shares and igniting a 150 percent run-up in the Shanghai Composite stock index in the year through June. Louis Fed president James Bullard also said he still favoured hiking rates next month, though he added that his colleagues would be hesitant to do so if global markets continued to be volatile into mid-September. The sell-off was driven mainly by the turmoil in China, which is dealing with the precipitous deflation of a stock-market bubble and is struggling to maintain its economic growth. Bullard referred to the global turmoil in financial markets last week, when a sharp selloff in Chinese shares, uncertainty over the Fed’s plans and an overdue correction on Wall Street sent equities sliding across the world.

The Fed is waiting to see how data and markets unfold over the coming weeks before deciding whether to raise rates at its meeting in mid-September, Vice Chair Stanley Fischer told CNBC. This has led many to believe that China will grow more slowly than anticipated, while Chinese leaders’ sometimes ham-fisted policy moves in recent months have raised questions about their ability to manage the economy.

The move was the latest response by Chinese authorities, including the People’s Bank of China, to shore up the economy after they cut rates, lowered reserve requirements and injected liquidity into the banking system. The government sought futilely to intervene, suspending trading in hundreds of companies and banning big investors from selling stakes for six months. The intervention undermined Beijing’s pledge to give market forces a bigger say in the economy and left policymakers looking clumsy and ineffectual.

Everything got thrown out on that view,” Wilkinson said. “It’s really a question of volatility having settled down somewhat even though it remains relatively high and people still view equities as being a decent place to be.” The Dow Jones industrial average closed down 11.76 points, or 0.07 per cent, to 16,643.01. Skittish markets will therefore be watching factory and service sector activity surveys from the world’s second-second largest economy on Tuesday, as well as US nonfarm payroll numbers due on Friday. “The US is not immune from international growth concerns but it is likely least affected, and we continue to expect USD outperformance,” strategists at Barclays wrote. “While we recently revised our Fed rate hike call to March 2016 from September 2015, we think it is even more likely that other major central banks will push back tightening or move toward outright easing.” The dollar was down 0.4% at ¥121.25 after rising to the week’s high of 121.76 on Friday following the Fed officials’ comments that kept prospects of a September hike alive.

Brands (e.g., Pizza Hut), and Iowa farmers, most Americans, and most American companies, would barely notice it, at least in the short term. (Goldman Sachs estimates that a one-per-cent drop in China’s growth rate translates into a mere 0.06-per-cent drop in the United States’s G.D.P.) And the flow of goods we import from China is unlikely to be affected by the downturn at all. The market will watch Thursday’s policy meeting to see if the European Central Bank (ECB) will be inclined to ease monetary policy further in the wake of the recent global markets turmoil. Since the devaluation, China has intervened to keep the yuan from falling too fast, confusing markets and renewing doubts about Beijing’s commitment to market forces. US crude was down 0.8% at $44.86 a barrel after jumping more than 6% on Friday on frenetic short-covering fuelled by violence in Yemen, a storm in the Gulf of Mexico and refinery outages. German bond yields edged lower, defying the sudden surge in oil, as data showed consumer prices in Europe’s biggest economy had been weighed down by falling energy costs.

This has been bad for energy and mining stocks, and it’s been very hard on developing economies, like those in Latin America, which relied on commodity exports to China. The US dollar gained for a fourth straight session, buoyed by calmer financial markets and generally positive US economic data that supported the notion that the world’s largest economy was on a stable growth path.

Yet those were ultimately severe insolvency crises, involving enormous piles of debt that were not going to be repaid, companies and countries going bust, and economies that were deep in recession. It has plenty of debt troubles—thanks to enormous overborrowing by corporations and local governments—but those are largely internal issues, unlikely to go global. Nowadays, these countries typically have sizable dollar reserves and, instead of running big current-account deficits, are mostly running surpluses with the rest of the world. As the level of uncertainty among investors rises, their tolerance for risk falls, which means they’ll pay less for risky assets, and so stock prices go down.

To say that the stock market isn’t the economy doesn’t mean that stock-market crises can’t become contagious; they can dampen what Keynes called the “animal spirits” of managers and consumers, leading them to cut back on investment and spending.

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