What happened while you were on holidays?
Welcome to our first newsletter for 2014. In our February bulletin we always look back at what happened over the holiday break. This year, as always, there has been a mix of good, bad and indifferent news.
We reported last year that a US fiscal crisis narrowly avoided could surface again in early 2014. This looks less likely now.
The trouble was, the budget deal reached in October represented only a temporary ceasefire in budgetary wars between congressional Republicans and Democrats. This was because it only extended funding of the government into January and borrowing into February. Upon its expiry, hostilities seemed likely to resume, and with them the risk of debt default and another government shutdown, with possibly severe knock-on effects to the world economy and financial markets.
But this risk moderated considerably earlier this month when the House of Representatives voted to pass an increase in the debt ceiling without any conditions. This is likely to signify the end of attempts by ‘Tea Party’ Republicans to push the government into default if it doesn’t concede to their demands for concessions.
Also good news was the start of the US Federal Reserve’s taper of its asset purchases, otherwise known as quantitative easing (QE). Why good? Because it signalled that the Fed saw ‘growing underlying strength in the broader [US] economy’.
Not all the consequences of the taper were positive, however. It appears to have been an important reason behind a sharp sell-off in many emerging economy stock, bond and currency markets in January. Certainly, many commentators from emerging markets were quick to accuse the Fed of destabilising capital flows to them through the taper, although there were as many counter-claims that those countries suffering the biggest sell-offs were the ones that had allowed their fundamentals to deteriorate most during the previous period of easy money.
The big question prompted by the sell-off is, Will it cause another full-blown emerging market crisis similar to the Asian crisis of the late 1990s? We think not, because most emerging markets now have stronger buffers against capital outflows than they did before. Plus we don’t see evidence of any sudden stop to capital inflow as happened in the 1990s.
Many economies have been proving quite resilient, including major Asian trading partners of Australia like Korea, Malaysia and the Philippines. Even Indonesia and Thailand, which have come under heavy selling pressure, are holding up well. Then again, certain economies do look vulnerable, including Argentina, Hungary, Russia, South Africa, Thailand, Turkey, Ukraine and Venezuela. Click here for a more detailed analysis.
It is noticeable that three economies that came under particular selling pressure are experiencing political turmoil or violence — Turkey, Thailand and the Ukraine. In Turkey, the Islamist government is in conflict with secularists and its former allies in Islamic scholar Fethullah Gulen’s Hizmet movement. In Thailand, anti-government protesters, most from Bangkok and the south, have been rallying against the government for several months, disrupting life in the capital. In the Ukraine, protests sparked by the government’s rejection of an EU integration agreement in favour of US$15b of financial support from Moscow have just toppled the government. In Turkey, the political instability coincides with shaky financial and economic conditions. In the Ukraine, it has pushed the government to the edge of default.
The final bad news story of the holidays was a slew of disappointing economic data from China. HSBC’s flash manufacturing purchasing managers’ index (PMI) declined in January to below 50, indicating contraction. Meanwhile, December quarter GDP data showed growth slowing to 7.7% year-on-year — the weakest performance since 1999. Further slowdown is likely as the Chinese economy undergoes a transformation from an export- and investment-driven growth model to one led by domestic consumption.
The bad news in the real economy coincided with a near-default in January at a trust fund company. This drew attention to problems in China’s bloated shadow banking system and the risk that a credit crunch there could amplify the economic downturn, turning a hoped-for soft landing into a hard, or at least bumpy, landing.
News about the world economy falls into the mixed category. The IMF upgraded its world economic forecasts a touch from its previous guesstimates last October — by 0.1% pt for 2014 — after growth and trade indicators for the second half of 2013 and financial conditions in late 2013 both turned out better than expected. Countries to receive the largest upgrades were the UK (0.6% pt), Spain and Japan (0.4 each), and China (0.3). The biggest downgrades went to the CIS (0.8) and the ASEAN-5 (0.3).
However, no sooner had the Fund published its new forecasts than a series of disappointing reports appeared, including the bad news from China just noted, early-February signs of weaker US and British manufacturing production, a very weak American jobs report for December, disappointing December quarter earnings reports from several large American firms, including Amazon, Apple, Chevron and General Electric, and soft forward earnings estimates for many European firms.
Further confusing the picture was a polar vortex in January that plunged much of the US into a deep freeze in which normal economic activity was hard to conduct.
The bad news prompted some speculation that the Fed might suspend the taper it had just started, though a consensus rapidly formed that this was a non-starter since it would unsettle financial markets too much.
So a year that started on an optimistic high thanks to the world economic pick-up has seen its confidence dented by the emerging market sell-off and doubts about the strength of the US, Chinese and European economies.
Roger Donnelly, Chief Economist
Cassandra Winzenried, Senior Economist
The views expressed in World Risk Developments are Export Finance Australia’s. They do not represent the views of the Australian Government. The information in this report is published for general information only and does not comprise advice or a recommendation of any kind. While Export Finance Australia endeavours to ensure this information is accurate and current at the time of publication, Export Finance Australia makes no representation or warranty as to its reliability, accuracy or completeness. To the maximum extent permitted by law, Export Finance Australia will not be liable to you or any other person for any loss or damage suffered or incurred by any person arising from any act, or failure to act, on the basis of any information or opinions contained in this report.