Thursday, January 28, 2016

This financial crisis is not going to be as bad as 2008 - 2009 crisis

It is not going to be like 2008-09. There is not the excessive leverage in the financial system that there was last time.

Roubini on China

My view for the last few years on China is that we will have neither a hard nor a soft landing. I would say China is going to have a bumpy landing

The big thing that should happen is China should stop kicking the can down the road and get on with some serious structural reforms.

Monday, January 25, 2016

Oil prices to be over $40 by end of 2016

Oil prices can go lower even from current levels but if they’re going lower toward $20 a barrel, I don’t think they can stay there. At that point there’ll be producers that cannot produce profitably and they’re going to cut back on production. By year end, it has to be above $40 because the fundamentals do not justify oil at $30.

Tuesday, January 19, 2016

Asset prices still too high compared to their fundamental value

The world economy has had a rough start in 2016, and it will continue to be characterized by a new abnormal: in the behavior of growth, of economic policies, of inflation and of key asset prices and financial markets.

First, potential growth in developed markets and emerging markets has fallen, and actual growth will remain below this weak potential. That potential has fallen because of the burden of high private and public debt, population aging—older people tend to save more and invest less—and a variety of uncertainties that keep capital spending low. Meanwhile, technological innovations haven’t translated yet into higher productivity growth at the aggregate level, while structural reforms aren’t moving fast enough to increase potential growth. There’s also “hysteresis”—the way that protracted cyclical stagnation can weigh down potential growth, since human and physical capital become more obsolete if they aren’t used at full capacity.

What actual growth we’ve seen has been anemic, below its potential as a painful process of deleveraging has been under way, first in the U.S., then in Europe and now in emerging markets, to stabilize and reduce high levels of private and public debts and deficits.

At the same time, economic policies—especially ­monetary—have become increasingly unconventional, and the distinction between monetary and fiscal policy has become more blurred. Ten years ago, who had heard of terms such as ZIRP (zero-interest-rate policy), QE (quantitative easing), CE (credit easing), or UFXInt (unsterilized FX intervention)? These esoteric and unconventional monetary-policy tools are now the norm in most advanced economies, and even some emerging market ones as well.

Some critics incorrectly argued that these unconventional monetary policies—and the accompanying mushrooming of the balance sheet of central banks, which they saw as an alleged form of debasement of fiat currencies—would lead to hyperinflation, a collapse in the value of the U.S. dollar, a sharp rise in long-term interest rates and the price of gold and other commodities, even the replacement of standard currencies with crypto-currencies like Bitcoin. Yet none of that happened—inflation is still too low and falling in advanced economies, while long-term interest rates have kept on falling in the past few years. The value of the dollar has surged at historic rates even as commodity prices have fallen sharply—with gold dropping by some 25% in 2015—even as Bitcoin has been the worst-performing currency in 2014–15, if one could even call it a currency.

In spite of the ballooning balance sheets of central banks and the unconventional policies that were supposed to debase fiat currencies, inflation is too low and falling in advanced economies, and even in many emerging markets. Central banks now need to try to avoid low-flation, if not outright deflation. The traditional connection between the money supply and prices—as more money is pushed into the system, prices should go up—has collapsed for two reasons. One, banks are hoarding the additional supply of money in the form of excess reserves rather than lending it. Two, there is still a lot of slack in many countries. Goods markets have large output gaps, with the excess capacity now exacerbated by the over-investment by China. In labor markets, unemployment rates are still too high and workers have too little wage bargaining power. That slack is clear in real estate markets in countries that had a housing boom and bust, and now in commodity markets where the prices of oil, energy and other raw materials have collapsed thanks to various factors, including the slowdown of China, the surge of supply in energy and industrial metals thanks to new discoveries and overinvestment in new capacity, as well as a strong dollar that weakens the price of commodities.

Real interest rates are very low and many asset prices too high relative to their underlying fundamental value in equities, real estate, credit and government bonds. We have negative nominal interest rates at the policy level in most of Europe—including the euro zone, Switzerland, Denmark and Sweden. There are now over $2 trillion equivalent of government bonds at maturities all the way to 10 or 20 years that provide a negative nominal yield in the euro zone, the rest of Europe and Japan. Why would investors lend to governments at a negative nominal yield for 10 years when they could instead hold cash and at least earn a zero yield?

It is indeed a new abnormal for growth, inflation, monetary policies and asset prices—and it is likely to stay with us in 2016 and well beyond.


Monday, January 11, 2016

Economic, Political and Physical dangers in Europe

In the new year, we face a world in which geopolitical and geo-economic risks are multiplying. Most of the Middle East is ablaze, stoking speculation that a long period of turmoil could be at hand.

China’s rise is fuelling a wide range of territorial disputes in Asia and challenging America’s strategic leadership in the region. And Russia’s invasion of Ukraine has apparently become a semi-frozen conflict, but one that could reignite at any time.

There is also the chance of another epidemic, as outbreaks of SARS, MERS, Ebola, and other infectious diseases have shown in recent years.

Cyber-warfare is a looming threat as well, and non-state actors and groups are creating conflict and chaos from the Middle East to North and sub-Saharan Africa.

Last, but certainly not least, climate change is already causing significant damage, with extreme weather events becoming more frequent and lethal.

Yet it is Europe that may turn out to be the Ground Zero of geopolitics in 2016. For starters, a Greek exit from the Eurozone may have been only postponed, not prevented, as pension and other structural reforms put the country on a collision course with its European creditors. “Grexit”, in turn, could be the beginning of the end of the monetary union, as investors would wonder which member — possibly even a core country (for example, Finland) — will be the next to leave.
If Grexit does occur, the UK’s exit from the EU may become more likely. Compared to a year ago, the probability of “Brexit” has increased, for several reasons. The recent terrorist attacks in Europe have made the UK even more isolationist, as has the refugee crisis.

Under Jeremy Corbyn’s leadership, Labour is more Euroskeptic. And Prime Minister David Cameron has painted himself into a corner by demanding EU reforms that even the Germans — who are sympathetic to the UK — cannot accept. To many in Britain, the EU looks like a sinking ship.

If Brexit were to occur, other dominoes would fall. Scotland might decide to leave the UK, leading to the break-up of Britain. This could inspire other separatist movements — perhaps starting in Catalonia — to push even more forcefully for independence. And the EU’s Nordic members may decide that with the UK gone, they, too, would be better off leaving.

As for terrorism, the sheer number of home-grown jihadists means that the question for Europe is not whether another attack will occur, but when and where. And repeated attacks could sharply reduce business and consumer confidence and stall Europe’s fragile economic recovery.

Those who argue that the migration crisis also poses an existential threat to Europe are right. But the issue is not the million newcomers entering Europe in 2015. It is the 20 million more who are displaced, desperate, and seeking to escape violence, civil war, state failure, desertification, and economic collapse in large parts of the Middle East and Africa.

If Europe is unable to find a coordinated solution to this problem and enforce a common external border, the Schengen Agreement will collapse and internal borders between the EU member states will reappear.

Meanwhile, austerity and reform fatigue on the Eurozone periphery — and among non-eurozone EU members such as Hungary and Poland — is clashing with bailout fatigue in the core. Populist parties of the left and right — with their shared hostility to free trade, migration, Muslims, and globalisation — are becoming more popular throughout Europe.

Syriza is in power in Greece; a leftist coalition is in office in Portugal; and the Spanish election could lead to significant political and policy uncertainty. Virulent anti-refugee, anti-Muslim parties are becoming more popular in Europe’s core, including the Netherlands, Denmark, Finland, and Sweden.

In France, the far-right National Front came close to winning power in several regions, and its leader, Marine Le Pen, may do well in the 2017 presidential election.

In Italy, moreover, Prime Minister Matteo Renzi is under attack by two anti-euro populist parties that have risen in opinion polls. And Chancellor Angela Merkel’s leadership is now under threat in Germany, following her courageous but controversial decision to allow almost a million asylum-seekers to enter the country.

In short, the distance between what Europe needs and what Europeans want is growing, and that gap could spell deep trouble in 2016.

The Eurozone and the EU are facing multiple threats, all of which call for a collective response.

But what we are seeing is its member states increasingly adopting a national approach, thus undermining the possibility of Europe-wide solutions (the refugee crisis is a tragic case in point).

Europe needs more cooperation, integration, risk sharing, and solidarity. Instead, Europeans appear to be embracing nationalism, balkanization, divergence, and disintegration.

Monday, January 4, 2016

Saudi Arabia may need a new strategy to fight low oil prices

The Saudi strategy of trying to stave off forever the shale gas and oil revolution may not work. If you look at Saudi Arabia’s response to the low oil price, they’ve reacted to this shock as if it’s temporary rather than permanent. The main lesson is that this shock is permanent, it’s not transitory, therefore you have to adjust to it rather than just financing it. 

While in the short run you want to finance this shock by spending more, over time you have to cut government spending, you have to cut government employment, cut subsidies and transfers to the private sector, otherwise you’ll have unsustainable public debt over time.