Wednesday, 1 March 2023 — Albert Park

By Jim Rickards Editor, The Daily Reckoning Australia

[6 min read]

Dear Reader,

It would be one thing if the US economy were declining while the rest of the world was growing in ways that may help the US. But that’s not the case. The rest of the world is also declining. We’re amid a global recession, a rare state of affairs.

China, the world’s second-largest economy, recently reported second-quarter GDP growth at an annual rate of 0.4%. That’s extremely close to 0%, a far cry from China’s 30-year average of 10% growth and more recent performance of annualised growth in the 5% range.

The fact is, China is certainly in a recession. The Chinese consistently lie about their economic statistics and overstate performance. If they’re willing to admit to 0.4% growth, it’s almost certainly the case that actual growth is negative. At the same time, youth unemployment in China hit 19%, a level associated with economic depression.

The zero-COVID fiasco

This Chinese performance can be attributed in part to the ridiculous zero-COVID policy of Chairman Xi Jinping. The quest for zero outbreaks of COVID might as well be a quest for zero colds and sniffles. It can’t be done. But Xi did lock down Shanghai (26 million people), Beijing (22 million people), and other major cities on a repeated and seemingly random basis in recent months — and continues to do so.

This policy will not be relaxed soon. It will certainly continue at least through the 20^th National Party Congress this fall (when Xi will be made de facto president for life) and possibly beyond. [Note: This was originally published in August 2022.] Xi does not want to rock the pandemic or political boats before the party congress.

Still, that’s not the only drag on growth in China. If China is the ‘factory to the world’, it follows that if the world slows down, the factory will slow down. That appears to be happening as slower growth (or recession) in the US and Europe reduces demand for Chinese exports.

The US and China go their separate ways

The final nail in the coffin is that China and the US are in the midst of a historic decoupling. This is globalisation in reverse, or at least a new form of globalisation.

US firms are closing certain operations in China and making new investments in favour of moving capacity back to the US, or at least to friendly countries such as Canada, Australia, and India. This movement goes by the name of ‘friend-shoring’ and will be a major headwind to further growth in China.

Japan, the world’s third-largest economy, is not much better off. Data shows that Japan is entering a new recession — its ninth recession since the super bubble burst in 1990. Central Bank Governor Haruhiko Kuroda will not raise interest rates to fight inflation or defend the yen. He’s leaving office in mid-2023 and looks forward to a comfortable post-official world of board seats, think tank positions, and other remunerative honours. He doesn’t want to jeopardise that scenario with a policy blunder in the home stretch. So he will do nothing.

This leaves Japan facing both inflation and slower growth, a condition called ‘stagflation’, which is also confronting the US. Japan’s bilateral trading relationship with China is as important to Japan as its trading relationship with the US. The Chinese slowdown has a contagion effect in Japan as capital inflows to China dry up.

Russia could turn off Europe’s gas

Germany, the world’s fourth-largest economy, may be in worse shape than China and Japan by late this year. In addition to the global slowdown affecting major exporters like Germany, there are negative factors unique to Germany. It’s in the crosshairs of Russia’s efforts to sustain its position in Ukraine by cutting off supplies of natural gas to Western Europe and Germany in particular.

Russia has had little difficulty shifting exports of oil and natural gas to willing buyers, including India and China. There are some logistical challenges, and Russia has resorted to discounted pricing, but the flow of energy from Russia continues, and the flow of hard currency to Russia at a rate of US$21 billion per month also continues.

This gives Russia the option to cut off energy supplies to Western Europe without damaging its economy. Russia has cleverly done this by reducing natural gas flows gradually instead of all at once. It has also offered a series of excuses for reducing gas flows, including ‘maintenance’ on a key turbine/compressor component on the Nord Stream 1 pipeline. (The Nord Stream 2 pipeline is complete but has never received authority to begin operations, which also suits Russia’s plans.)

Putin’s strategy is to force Germany to deplete its natural gas reserves during good weather. When the cold weather hits, Germany will be out of reserves and will not receive more gas from Russia. At that point, Germany will have to shut down manufacturing, ration what little natural gas may be available, and ask consumers to turn thermostats down. Hot showers will be limited to five minutes or less. Germans will wear fleeces and heavy sweaters indoors. It’s a sad state of affairs for a major economy, but it’s how things turn out when ideologues in office support corrupt regimes such as Ukraine against mega-energy powers such as Russia.

One can wish the Germans well, but from the US’s perspective, the situation in Germany is just one more leg kicked out from under the table supporting global growth. Global contraction is the new normal.

All the best,

Jim Rickards,
Strategist, The Daily Reckoning Australia

This content was originally published by Strategic Intelligence Australia, a financial advisory newsletter designed to help you protect your wealth and potentially profit from unseen world events. Learn more here.

By Bill Bonner Editor, The Daily Reckoning Australia

Dear Reader,

‘Bear markets take time. They also provide countless occasions to lose money. With each bounce comes an opportunity for investors to buy higher so they can later sell lower.’

MN Gordon

‘Here’s an article in the French newspaper, Le Figaro, from yesterday’, Elizabeth reported cheerfully.

‘A woman was found cut into pieces in a freezer, in the 9^th arrondissement of Paris. Her husband has been arrested.’

‘Gee, I guess Paris isn’t safe anymore’, responded another member of the family.

‘Wait a minute. There are 2 million women in the Paris area’, your author introduced a statistical analysis. ‘The odds of getting hacked to pieces is very low.’

‘Unless you live in the 9^th arrondissement’, Elizabeth suggested.

‘Or you’re married to a guy who cuts up his wife’, we replied.

Manipulate, distort…and destroy

In a few sentences, we had identified the problems with statistics. One part useful, one part misleading, and one part a damned lie — they are always a menace. The ratio of butchered women/population is interesting. But not particularly helpful to the woman in the freezer.

Warren Buffett made the same point in his famous speech in Sun Valley in 1999; it’s the particular that matters: 

‘The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products or services that have wide, sustainable moats around them are the ones that deliver rewards to investors.’

Last week, we explored the numbers used by the Fed to manipulate, distort, and destroy the US economy. Today, we look at the headlines and wonder where the next dismembered body turns up. Benzinga: ‘Larry Summers Points Out US Never Evaded A Recession At These Unemployment, Inflation Levels: “Powerful Historical Truth”’:

‘Former Treasury Secretary Lawrence Summers reportedly highlighted the absence of past examples in which the U.S. managed to avoid a recession when the unemployment rate fell below 4% and inflation rose above 4%.

‘“That's a powerful historical truth and I think it's one that's relevant to our current situation,” Summers said.’

Higher for longer

We asserted on Friday that inflation is now ‘embedded’ in the system. Like a weed in a garden, it will grow until it is pulled out. The Fed is on the case. Here’s the latest from Bloomberg: ‘Fed’s Preferred Inflation Gauge Accelerates, Adding Pressure for More Rate Hikes’:

‘The personal consumption expenditures price index rose 5.4% from a year earlier and the core metric was up 4.7%, both marking pickups after several months of declines. Consumer spending, adjusted for prices, jumped 1.1% from the prior month, the most in nearly two years, after consecutive declines.’

And more…Bloomberg continues: ‘Fed May Need to Hike to 6.5% to Cool Prices, Study Says’:

‘In a paper presented Friday at a conference in New York, a quintet of Wall Street economists and academics argue that policymakers still have an overly-optimistic outlook and they will need to inflict some economic pain to get prices.’

Oh yeah? The Fed may have to go even higher. Here is Research Affiliates, with more bad news:

‘Given the recent US inflation rate, which has been above 6% for the last 12 months and above 8% for the last 7 months, history tells us that the median number of years to reduce inflation below 3% is 10 years, with a 20^th to 80^th percentile range of 6 to 19 years. How many economists — let alone pundits and policy “experts” — have suggested we may have elevated inflation for six years, much less the longer outliers?

‘…That is the good news. The bad news is at 6% and higher inflation, cresting inflation is the exception, not the rule: inflation usually marches to the next threshold. When inflation subsequently rises to the next threshold, we call these cases accelerating inflation. Indeed, once the 8% threshold is surpassed, as happened this year in the United States and much of Europe, inflation marched to the next threshold, and often well beyond, over 70% of the time. The lesson we should take from this is not that inflation is destined to move to new highs in the months ahead (after all, nearly 30% of the time, it is, in fact, cresting!), but that we dismiss that possibility at our peril.

‘…Is it possible that inflation will recede to 4% and then to 2% in the coming year or two? Of course it’s possible! History says it is unlikely. Our fiscal and monetary policies have done far more harm than good in recent years.’

Heads they win, tails you lose

In other words, inflation ain’t going away anytime soon. When it goes to more than 8%, it usually goes higher. The Fed knows this too. So, now — with its many statistical obfuscations and ideological delusions — it is committed to continuing to raise rates. That will inevitably lead to lower stock prices, higher bond yields, and a recession.

Making a long story short, the Fed has to continue raising rates until one of two things happens — either the inflation rate falls (below the Fed’s key rate)…or higher interest rates cause something to break…and the Fed panics.  

Our guess is that the second hypothetical will happen before the first one.  

Then, the situation will get worse, for a long, long time.

Regards,

Bill Bonner,
For The Daily Reckoning Australia