A combination of political and economic events is pushing the world into recession. You recall that the bond markets first signaled an approaching problem when the Yield Curve inverted in May of 2019. Since then, the stock market has reacted to every headline about bad economic news with dizzying drops in stock values.
You might also have noticed that the half-crazy president of a major industrial nation has ignited a nasty trade war with China. His erratic coming and going of retaliatory tariffs has rattled corporations and investors around the world. This summer, the dispute between the world’s two largest economies began restraining their economic growth.
Unfortunately, the trade war is occurring within the context of a world economy that is trapped in slow growth. This is due to an oversupply of products and an undersupply of buying power, as I explained in last week’s blog. Since the U.S. and China are the two countries that import the most products, companies and nations that depend on them to buy their excess goods are suffering, too.
The trade war is now negatively affecting other large national economies, pushing the world into recession. We seem to be approaching what historians call an Historical Conjuncture – a variety of events are coming together to create a crisis from which something new and different will arise.
The World’s Nine Largest Economies are in Trouble
I. First, the trade war is affecting China’s growth. Overall growth has fallen from 6.3% in 2018 to 4.8% in July of this year. China’s economy, the second largest in the world, is as big as Japan, Germany, the UK, and India put together. China is a robust importer of sophisticated industrial products from Germany, Britain, and Japan. It is also a big importer of minerals and agricultural products from Brazil and other less developed nations. When its economy contracts, it imports fewer goods from these countries.
In July, China’s manufacturing growth was nearing zero, indicating that the economy is likely to keep contracting. The turmoil in Hong Kong is also hurting China’s finances and a true crack down might further damage international trade.
II. The third largest economy in the world is Japan, which, in the 1970s and 1980s, had the most dynamic manufacturing sector in the world. However, it is now almost 30 years into a period of stagnant growth punctuated by brief recessions. Manufacturing growth in 2019 has stopped due to falling exports to China.
Then, in July, Japan provoked a trade war with its neighbor South Korea, the world’s 12th largest economy. Age old political antagonisms have suddenly arisen to complicate a seemingly minor dispute over exports of high-tech materials. Japan had a $44 billion trade surplus in 2017 while Korea’s economy was powered by a $100 billion trade surplus that year. With Korean consumers beginning to boycott Japanese products, and exports to China and the U.S. continuing to fall, growth in both countries may be sharply curtailed.
III. The world’s fourth largest economy is Germany, which, slipped into recession in the second quarter of 2019. Germany is the world’s third biggest exporter after the U.S. and China and exports make up nearly half of its gross nation product. One of the most heavily industrialized countries in the world, Germany depends on selling a whopping $250 billion more than it buys each year on world markets. It is a prime example of Overproduction/Underconsumption in the world economy.
With growth in other European Union countries coming to a stop this summer, slowdowns in China and the U.S. are adding to the slump in Germany’s sales and profits. Automobiles, the country’s biggest export product, are a prime example of how the nation’s corporations have been caught in the trade crossfire between the United States and China. “The German carmakers Volkswagen, Daimler and BMW all earn at least a third of their revenue in China, where auto sales have been slipping after years of explosive growth. A major factor in the slide is the barrage of trade threats that have unsettled Chinese consumers, discouraging them from buying big-ticket goods.”
IV. The fifth largest economy, Great Britain, faded into negative growth this summer. There is a sharp recession in the future because Brexit will disrupt the island nation’s trade ties with every country in Europe. There seems to be little hope for a positive outcome as the political chaos is deep seated.
V. The world’s sixth largest economy, India, grew by 8% in 2018, but growth fell to just 5% in the April to June quarter of 2019 as business investment fell sharply. The senseless escalation of the conflict in Kashmir could lead to an even greater fall in business confidence and investment going forward. India had a $150 billion trade deficit in 2017 and its slowing growth will hurt other economies that count on exporting their oversupply of products to the south Asian giant.
VI. The world’s seventh largest economy is France. Plagued by slow growth and high unemployment since the Financial Crisis, unemployment remains over 9%. Since the 2008, wages have stagnated while the top 1% have grabbed big income increases, a fact well-known in this country with a volatile political culture.
VII. The eighth largest economy is Italy. Plagued by high unemployment, trade deficits, and high levels of debt, the country’s economy did not grow in the first half of 2019. Italy is highly vulnerable if there is a recession in Germany and other E.U. countries. The governing alliance of left and right wing populists just split up after only a year in power, meaning that there will be few major initiatives until there is yet another national election.
VIII. Brazil, the ninth largest economy in the world, suffered through a severe recession and political turmoil from 2014 through 2016. Economic growth has limped along at less than 1.5% since then. Unemployment remains over 12%. Domestic business investment is shrinking this year as the government’s debt burden continues to grow. Now, the blow-back from Brazil’s flagrant burning of the Amazon is likely to dampen foreign investment in the country. As the rest of the world reduces its imports of Brazilian products, Brazil could easily tumble into another recession.
The World’s Political Leadership is Making Economic Distress Worse
One of the unifying threads in this list of troubles is the prominence of foolish or dangerous government policies. Governments in Britain, China, Brazil, Japan, Italy, and India are following the Trumpian model of ignoring economic danger signals and pushing through de-stabilizing policy choices. These policies will increase their vulnerability if there is a world recession.
Not to be outdone, Trump exacerbated world trade concerns by imposing a new round of tariff increases on September 1st – 15% on $112 billion of Chinese imports – raising prices for American consumers. China retaliated with 15% tariffs on $75 billion of U.S. products. Trump recently responded to critics by saying complaints were coming from “badly run and weak companies.”
The U.S. economy, the world’s largest, is also sagging under the weight of Trump’s trade war. The New York Federal Reserve’s “Nowcasting Report” is predicting a growth rate of just 1.8% in the July-Sept. quarter – in contrast with the 3.1% rate in the first quarter of the year. Most alarmingly, business investment, which was supposed to take off with Trump’s tax cuts, has fallen in 2019. It is now likely to end the year below 2018’s level. Falling investment will eventually trigger growing unemployment and a tapering off of consumer spending.
Central Banks Can’t Prevent Recession by Lowering Interest Rates
Perhaps the biggest cause for alarm are the world’s central banks. Still attempting to stimulate their economies years after the 2008 Financial Crisis, they are already providing corporations with cheap loans. In the European Union, the prime interest rate flutters between zero and negative numbers. In China, the government is busy making it easier and cheaper for private companies to borrow from the state bank. The Bank of Japan’s short-term interest rate is minus 0.10%. The U.S. Federal Reserve just reduced its federal funds target rate to only 2%.
Contrast this with the situation in 2007, before the Financial Crisis. The federal funds rate in July of 2007 was 5.25% and was lowered step-by-step to 0% by December of 2008. In other words, central banks in the industrialized world can’t fight the coming recession with deep cuts in interest rates the way they did in 2008. This shouldn’t be surprising in a world where consumers don’t have enough wages to buy all the products being created. Companies have no incentive to borrow money if they can’t invest it in products that consumers will purchase.
The world cries out for progressive economic reforms that would redistribute incomes, institute major public expenditures to prevent climate change, and reignite foreign trade. Will the world recession of 2020 bring us new leaders who can take us in that direction?