International Economic Statistics

Europe chose to resolve the financial crisis in 2008 with a programme of austerity for the peripheral and weakest economies while the US and UK chose to recharge their economies with quantitative easing.  Both also increased controls over the banks and brought interest rates down to an historically low level.

So how has the different approaches affected the current economic performances of the countries involved? 

In Europe the result has been to improve the performance of the peripheral economies and to regain investor confidence in the robustness of the European monetary system.  This approach has been successful but has resulted in lower anticipated growth in the next couple of years from the two main northern countries with German and French GDP growth forecast by the IMF to be 1.7% and 1.0% respectively in 2014 with 1.6% and 1.5% forecast for 2015.  Italian GDP on the other hand is forecast as 0.6% in 2014 and 1.1% in 2015 following the austerity measures forced upon it in order for it to qualify for financial support.  

In the UK comparable figures from the IMF are for GDP growth of 2.9% and 2.5% for 2014 and 2015 respectively.  In the US they are forecasting 2.7% and 3.0%.

In Japan forecasts for GDP growth in 2014 and 2015 are for 1.3% and 1.0%.

Japan went through a similar financial crisis in the early nineties and has suffered stagnation since then with falling prices and increasing government borrowing.  They have responded recently under Mr Abe with a quantitative easing programme of their own which, coupled with an austerity programme of fiscal reform and talk of fundamental reform was to develop their own recovery from this period of stagnation.  It is early days to judge the result but some growth is forecast in GDP which is a positive sign and a determination to extricate themselves is clear.  Although the fundamental reforms are proving hard to achieve, inflation is forecast to be 2.8% this year as it has been given a boost by the introduction of a sales tax last month of 15%.  An inflation figure of 1.3% forecast for 2015 is progress.

The fear is that, in the absence of a monetary stimulus programme on the lines of that followed in the US, Europe will go down the same route as that followed by Japan in the nineties and experience low growth and deflation.  The forecast for inflation in 2014 is 0.8% followed by 1.2% in 2015 which, if achieved, will avoid deflation, but is regarded by many independent economists as too optimistic. Talk of a stimulus programme by Mario Draghi to combat this risk is thought to be his attempt to talk down the currency (a high currency leads to lower import prices and lower inflation) without actually introducing the stimulus.  The Germans remain very opposed to any such action as it is regarded as a way to avoid the reforms needed in the Southern economies and, perhaps, France and that it could lead to unacceptably high inflation in the future.

The UK and US have followed very similar paths from an early date with major programmes of quantitative easing, low interest rates and a programme of cutting government expenditure.  The result has been faster economic growth but without any adverse reaction detectable in the inflation figures which are forecast to be 1.9% in 2014 and 2015 in the UK and 1.4% and 1.6% in the US.

The result of these responses to the financial crisis can be seen in recent statistics with demand for housing and retail products rising sharply in the UK and US while consumer confidence in Europe remains low.  

In the UK house prices rose 8.9% on average across the country according to Rightmove.  Inflation was marginally higher than anticipated at 1.8% aided by the strength of Sterling over the last year which was up nearly 10%. This strength has dampened hopes for strong UK export growth as seen in the latest figures which revealed a fall of 1.0% over the last quarter.  On the other hand imports fell by 1.1% with the dampening effect of higher Sterling on import prices contributing to the slowdown. An increase in consumer confidence is reflected in higher house prices as is the strong retail sales figures which rose 6.9% on the year aided by improving weather and wages which rose in line with inflation. The Bank of England revealed the minutes of the MPC which reflected unanimity for retaining low interest rates.  The Governor reiterated their determination to retain interest rates at a low level until well into next year and to tackle any threat from rapidly rising house prices by using ‘other tools’ such as a reduction in the ‘Help to buy’ programme and tighter criteria for lending. The CBI’s survey on industrial trends revealed a disappointingly flat trend, however, the UK seems to be growing faster than forecast, as GDP came in at 3.1% aided by a continued strong performance from the services sector up 0.9% in the March quarter and a recovering trend for capital investment which was up 8.7% over the year. Government borrowing came in lower for the year ended April 2014 and in line with plans.

There was a similar story from the US where the minutes of the FOMC meeting were published and followed by speeches from various Federal Reserve officials including Janet Yellen who reiterated their continued dedication to low interest rates and to ‘tapering’ the rate at which they pump money into the US economy.  Their fear is that the recovery in the housing market will stall should interest rates rise as a result of them ‘tapering’.  Existing home sales, however, remained at healthy levels with a rise of 1.3% in April over the previous month and new home sales rose 6.4% over the same period.

In Europe manufacturing in Germany maintained some growth with a figure of 52.9 (above 50 is growth) but this was lower than the previous month’s 54.9. In France, on the other hand, they continue to be in the doldrums with a figure of 49.2 after a higher figure in the previous month of 51.2.  European consumer confidence remains low with a fall of 7.2 in May but was a slight improvement on the fall of 8.6 in April.  In Italy industrial orders returned to growth with an increase of 2.8% over the last year.

Short term the Anglo Saxon countries are performing best but without much more success improving the fiscal balances as a percentage of GDP the long term result may be totally different.

Darren Winters

Modi Wins - will India Prosper?

It’s no surprise that when the world’s largest democracy, India with a population of 1.2 billion people and economy valued at 4.962 trillion dollars, based on 2013 GDP figures, goes to the polls the world’s media sits up and pays close attention.   

Whilst the outcome of the recent national elections in Indian was fairly predictable, based on local polls, which pointed to a land slide victory for the former tea merchant, Narendra Modi's Bharatiya Janata Party (BJP), nevertheless, the election would be a momentous occasion for the emerging economy, India. No other political party other than the Congress party had ruled the country for 18 of the 67 years, since its independence from Britain. The elections were a "genuinely revolutionary moment … a democratic asteroid," according to author and academic Sunil Khilnani, as reported in the Times of India.

Indeed, Modi's politically right leaning BJP party now controls around 340 of the 543 elected seats in parliament at the cost of the centre-left who had their representation squashed to just 40 seats, a historic low.  With voter turnout at around 66.38 percent, up 3 percent in the 1984-85 elections, according to Hindustan Times, it becomes apparent that Modi BJP leading party has conceded power with a healthy legitimacy of its people. Moreover, the Indians have given their thumbs up to a pro business party and they appear to have shunned the political left.

Meanwhile, the herd instinct of the financial market has driven the Indian stock market to record highs and the local currency, the rupee has rallied since Modi’s election win.

Therefore, with all this in mind, a politically friendly business climate and buoyant Indian financial markets, a question worth pondering over is whether all this might be a catalyst for greater capital inflows to India. 

Modi undoubtedly is keen on attracting inward investment to India, bearing in mind that capital investment accounts for nearly 35 percent to India's economy, which incidentally barely grew in the previous fiscal year that ended in March due to funding issues, thereby putting a spanner in the works of many infrastructure projects.

There are some pressing issues for Modi to deal with as soon as he puts his feet under the premier’s desk. For example, on the economic front India’s credit rating has been downgraded to a "BBB-minus", by the credit rating agency Standard & Poor, which has a negative outlook on its sovereign debt.  The market is now anxiously waiting to see if Modi can prevent a further downgrade by the credit rating agency to junk status. The pivotal point will be in July when the new government will need to convince investors that it is serious about getting its budget deficit under control

But getting the deficit down to its target of 4.6 percent of gross domestic product (GDP) is by no means an easy feat.  The previous administration, riddled with corruption scandals, has not left the state coffers in a healthy state. Moreover, the Indian economy is neither looking virile and relatively reliant on public funding. Public spending in the Indian economy accounts for 11 percent of GDP. So a cut in government spending could be a further dampener on the Indian economy as a sizable number of the electorates’ livelihoods are dependent, either directly or indirectly, on it.  Austerity is not going to be an easy sell for the Modi, despite the leader’s landslide victory.

Also improving the state’s coffers from increased tax revenues is unlikely to materialize in a relatively fragile economy.

Moreover, India’s Reserve Bank is keen on tackling the inflation rate, which currently stands at 8.6 percent. Their inflation target is 7 per cent by January 2016.  The implication here could be further interest rate hikes; already it has jacked up interest rates three times since last September.  But higher interest rates could be a double blow for India’s businesses by increasing the cost of financing and servicing existing debt, but also it would appreciate

 the rupee and make exports more expensive.

Then there are all these bad loans racked up, 100 billion USD to be precise, which are mainly associated with public infrastructure projects.  This currently represents 10 percent of all loans and it is estimated to reach 14 percent of loans by March 2015, according to Fitch Ratings.

The trade deficit is another issue the new government may need to get to grips with.  Indian has set a target of a 2 percent trade deficient of its GDP. Gold imports have contributed to a greater than desired trade deficit. The previous administration responded by slapping tariffs, duties onto gold, which then fuelled a black market in the precious metal.  Modi has promised to abolish these duties on gold. While this may be good news for gold buyers, this could also exert downward pressure on the value of the rupee, which would not be favorable to investors.  

Another potential black swan for investors could be the ongoing religious feud between the Hindu majority and the Muslim minority.  Modi, a Hindu, may not be perceived by the alienated and in some cases discriminated Muslim population, representing 14 percent to be sympathetic towards Muslim issues.  Many Indian Muslim distrust Modi, who has been allegedly linked with a police assassination squad, which targeted Muslims. If the Muslim minority population continues to feel alienated, they could be radicalized resulting in more attacks against western interests.

There are some clear distinctions between China and India’s economy. For one, China has a large trade surplus, whilst the later has a deficit. China’s GDP grow rate, albeit decelerating in growth, at 7.7 GDP in 2013. India’s GDP growth rate has been estimated at 4.7 percent. China’s population is ageing, India’s is relative young and maybe looking into the future confident and energized by their new leader, while China’s people continue to be repressed by the regime, cohurst into accepting inhumane working conditions. The protests continue in China-how long can the authorities repress a nation of 1.3 billion people. 

Darren Winters

Euro Zone Businesses Off To Bumper Start In Second Quarter

Gazing at the recent financial results of some of Europe’s prized companies you could easily jump to the conclusion that Europe is slowly grinding its way out of one of the most severe recessions in living memory. BMW, the German car maker first quarter results reported a net profit rise of 11 percent in the first quarter of 2014 on strong sales and the, Deutsche Lufthansa AG also reported a narrowing of its losses in the first quarter.  Moreover, just a few days ago the French global telecommunications company announced its first quarter results posting revenues of Euro 2,963 million, which equated to a 0.3 per cent increase in its profits. Inditex, the Spanish fashion giant reported also stronger sales and profits in the first quarter of 2014. Sales in the six weeks to March had increased by 12 per cent, according to a spokesperson from the company.

So, on the deck it appears that the 9.5 trillion euro economy has weathered the storm and the worst is now behind it. The recent released business climate index underscores this view, indicating that all remains stable at 0.39 in March, compared with 0.36 in February, according to a recent Reuters report.  A further poll of purchasing managers and retail sales data also indicates a further strengthening of the euro zones fragile recovery, as reported in the FT on March 6th. Indeed, the euro zone recovery is fragile and there maybe some storm clouds gathering. One main concern is that the growth in corporate profits in the euro zone is too heavily reliant on exports to emerging markets, rather than domestic consumption.  Take, for example the two companies above BMW and Index, they tend to typify the problem.  The bulk of BMW sales increases in its first quarter came from Asia a rise of 21 percent and sales to China rose by 25 percent, while sales in the euro zone remained sluggish.  Index, the Spanish clothing retailer also experienced a 5 percent increase in sales across its stores, but in Europe sales were actually down 0.5 per cent. 

Where will sales be generated when china’s economy starts slowing down, already economic indicates are suggesting that the Chinese economy is decelerating at a faster pace,  than what was previously thought, albeit still posting a growth 7.7 percent GDP in the final quarter of 2013. 

Despite the massive monetary economic expansion policy adopted by the European Central Bank (ECB) to stave off a depression following the 2008 financial meltdown unemployment, in parts of the Euro zone, particularly in the south remain at great depression levels. Incidentally, these miserably high levels of unemployment are exerting severe downward pressure on wages. It was recently reported that some workers in the Spanish southern province of Andalusia where accepting as little as three euros an hour. Meanwhile, if we factor into the equation the increases in the basic essential in energy costs and food stuffs it become blatantly apparent that real wages in the Euro zone are actually falling.  So with domestic consumption in the euro zone mashed and a looming slowdown in China’s economy where are the improving sales revenues going to come from in the second and third quarter for the euro zone companies?

The sluggish domestic demand has also got the ECB worried not about inflation, but actually deflation, falling prices.  The problem here is that when prices fall consumers have no incentive to buy, since why do so when sometime in the future the goods/services will be cheaper.  Businesses also have no incentive to invest. Deflation is a self-fulfilling vicious circle capable of bringing the economy to the brink.  No surprise then that deflation is also on the ECB’s radar.

If cost push inflation became an issue, caused by say a rise in energy, food cost, then an economic policy of raising interest rates could be adopted by the ECB to combat inflation. But doing so in a sluggish economic environment could be further headwinds for the fragile EU economic recovery.  Because higher interest rates would increase the costs of borrowing, increase the cost of financing debt and deter business investments-this is something the ECB would not want to do if it wants to stimulate the economy and create employment. 

The Euro zone is heavily depended on bank lending to finance consumer spending, business investment and employment. Despite this lending by euro-zone banks to the private sector fell 2.2% on the year in March, this followed a similar decline in the month before that in February. The rational for this new credit crunch is that the financial crisis of 2008 has burdened bank balance sheets with bad loans, which has diminished banks’ appetite to lend. ECB President Mario Draghi recently responded by saying that the problem of banks unwillingness to lend has, “motivated the ECB to launch new measures, later in the year, especially designed to encourage banks to lend to firms and households.”

It seems that the ECB is more concerned about consumer sending and business investment rather than deflation.  That could translate to more quantitative easing, purchasing of bonds to drive interest rates down. So the euro zone economy is not out of the woods yet. The high levels of unemployment, sluggish domestic consumption, the credit squeeze, the potential slow down in China and the geopolitical situation in Ukraine could all be a drag on future earnings and profits of companies in the Euro zone. With euro zone stock markets currently hovering around six year highs maybe the bulls have jumped the gun.