Global money update: is the mini-recovery ending?

Posted on Tuesday, March 19, 2019 at 10:56AM by Registered CommenterSimon Ward | CommentsPost a Comment

Global six-month real narrow money growth is estimated to have edged up further in February but a likely rebound in inflation through mid-year could reverse the recent recovery. Such a scenario would suggest an extension of global economic weakness into early 2020.

February monetary numbers have been released for the US, China, Japan, Brazil and India, together accounting for two-thirds of the G7 plus E7 aggregate tracked here. Assuming unchanged nominal money trends elsewhere, and taking into account February inflation data for 12 of the 14 countries, six-month growth of real narrow money is estimated to have risen to 2.0% (not annualised) from 1.8% in January – see first chart.

The 2.0% estimate compares with a low of 0.9% in October 2018 but is weak by post-crisis standards – growth was at this level or lower in only three months between October 2008 and November 2017. The judgement here remains that a rise to at least 3% is needed to suggest a significant recovery in economic momentum.

The second chart shows that nominal money growth increased in February but is only 0.5 percentage points (pp) above its recent low. The pick-up in real money growth since October mainly reflects a 0.8 pp decline in six-month consumer price inflation.

Inflation, however, stabilised in February and is likely to climb sharply into mid-year as the recent recovery in oil prices feeds through – third chart. The six-month rate could rise by 0.5pp, in which case real money growth would fall back to 1.5% if nominal expansion were to remain at its current level. This would be unchanged from a year ago (i.e. in June 2018),  suggesting no exit from global economic weakness before early 2020.

Will nominal money trends pick up to offset the inflation rebound? While policy-makers have scrapped tightening plans, they have yet to embrace easing – except in China. The Fed may confirm tomorrow that QT will continue at least through mid-year. As discussed last week, Chinese money and credit trends have yet to respond to policy easing, possibly reflecting damage to the “transmission mechanism” from the clampdown on shadow banking.

The fourth chart shows real  narrow money growth in the major economies – note that the latest data points for Euroland and the UK are for January not February. Euroland relative strength is consistent with a recent improvement in economic news compared with elsewhere – the Citi Euroland surprise index has crossed above a weakening US index.

The recovery in Chinese real money growth has been inflation-driven and rising energy / food prices may reverse this effect over coming months. The US rebound reflects firmer nominal trends as well as lower inflation but the former may prove temporary if QT continues into the second half.

Chinese money update: no reflation signal

Posted on Thursday, March 14, 2019 at 02:41PM by Registered CommenterSimon Ward | CommentsPost a Comment

Chinese money and credit trends remain weak, casting doubt on claims that policy stimulus is gaining traction and will lead to a significant recovery in economic momentum later in 2019.

Economic data for January / February signal a further decline in year-on-year nominal GDP growth in the first quarter– see first chart. Additional weakness had been expected given a continued softening of narrow money and credit trends through 2018.

A strong monthly flow of broad credit – “total social financing” (TSF) – in January was trumpeted by optimists as signalling a turning point. Such an interpretation was hazardous given the volatility of the monthly data and a likely positive New Year timing effect. The February number, unsurprisingly, slumped.

The optimists argue that the combined January / February flow was still 25% higher than a year before but this creates a misleading impression. Expressed as a percentage of the stock, the January / February increase was 2.5%, which – although up from 2.2% last year – was lower than January / February growth in each year from 2013 through 2017.

Year-on-year TSF growth fell back from 10.4% in January to 10.1% in February, barely higher than December’s 9.8% record low – second chart.

The forecasting approach here focuses on narrow money rather than credit but recent trends are equally discouraging. After a small rally in December / January, year-on-year growth of true M1 – which adds household demand deposits to the official M1 measure – declined to a new 44-month low in February.

Broad money trends are somewhat difficult to interpret. Year-on-year M2 growth fell back to its recent low of 8.0% in February. A contraction of bank deposits of non-bank financial institutions, however, has exerted a major drag on the aggregate in recent months, i.e. M2 growth excluding such deposits has picked up. The judgement here is that these trends reflect the clampdown on shadow banking and a consequent shift of business onto banks’ balance sheets. The rise in M2 growth of households and non-financial enterprises / government organisations may have been offset by a reduction (unrecorded) in holdings of shadow system liabilities, such as wealth management products. The shadow system contraction may also explain the fall in deposits of non-bank financial institutions. If this interpretation is correct, aggregate M2 may currently be the better measure to use for assessing economic prospects.

Shorter-term trends in the money / credit aggregates give a similarly downbeat message to year-on-year growth rates. Six-month growth of true M1 remains range-bound at a low level, while that of TSF has slipped back – third chart.

Six-month real growth rates have been boosted by a recent energy-driven fall in consumer price inflation but this is likely to unwind into mid-year.

OECD leading indicators still weakening

Posted on Tuesday, March 12, 2019 at 03:13PM by Registered CommenterSimon Ward | Comments3 Comments

The OECD’s composite leading indicators support the expectation here of a further loss of global economic momentum into mid-2019.

The OECD’s indicators provide an independent, though less timely, cross-check of signals from monetary trends. With rare exceptions (e.g. Canada, India), the country indicators do not contain a monetary component. They tend to be dominated by business and consumer survey information, though also include financial indicators such as equity prices and the yield curve.

As previewed in a post last week, the G7 composite indicator registered another significant monthly fall in January, suggesting that GDP expansion will remain well below trend over coming months – see first chart.

The OECD’s practice of presenting its indicators in trend-adjusted form obscures important information about their internal momentum.  An alternative approach followed here involves:

  1. Combining country indicators for the G7 and emerging E7 to create a “global” trend-adjusted measure.
  2. Combining this measure with an estimate of the trend in G7 plus E7 industrial output to form an indicator of the level of output.
  3. Using turning points in the rate of change of this indicator to anticipate turning points in industrial output momentum.

Historically, turning points in the six-month change in the indicator have led turning points in six-month output momentum by four to five months on average – second chart.

The central view here, based on monetary trends, is that global six-month industrial output momentum will bottom around July 2019. Such a scenario would suggest a low in the six-month change of the leading indicator in February or March.

Consistent with this scenario, the six-month indicator change continued to weaken in January. The one-month change, however, recovered marginally – this could be a precursor to the six-month change bottoming over the next several months.

The suggestion that economic momentum will reach a low around July does not imply an optimistic assessment of prospects for later in 2019. Developments judged here to be necessary to warrant such an assessment include:

  • A further pick-up in G7 plus E7 six-month real narrow money growth to 3-4% (not annualised) from January’s level of 1.9%.
  • Confirmation of a bottoming out of the six-month leading indicator change by April (data to be released in early June).
  • Sufficient weakness in stockbuilding and business investment data in the first half of 2019 to suggest completion of cycle downswings during the second half.

On the latter point, a correspondent asked whether solid investment data for the US and Euroland in the fourth quarter of 2018 altered the assessment here about the timing and magnitude of a cycle downswing. The answer is no. Year-on-year growth of G7 non-residential fixed investment was unchanged in the fourth quarter and below a peak reached in the second quarter – third chart. Investment is closely correlated with industrial output of capital goods, which fell significantly year-on-year in Japan, Euroland and the UK in December / January – fourth chart. The relationship shown in the fifth chart, meanwhile, suggests that US investment resilience will crumble – the identity of the mystery indicator may surprise readers.

Negative signals for US business spending

Posted on Friday, March 8, 2019 at 10:50AM by Registered CommenterSimon Ward | CommentsPost a Comment

Two recent pieces of news support the expectation here that stockbuilding and business investment will be major drags on the US economy this year.

First, the ratio of inventories to final sales of goods and structures rose further in the fourth quarter, following a large third-quarter gain, according to initial national accounts data released last week. Changes in this ratio are inversely correlated with the future contribution of stockbuilding to GDP growth – see first chart. This relationship suggests a negative GDP contribution of up to 0.5%, or 1.0% at an annualised rate, during the first half of 2019. (This refers to the arithmetical contribution; the total impact would likely be smaller because of offsetting weakness of imports.)

Secondly, sector financial accounts released yesterday reveal a significant further decline last quarter in the liquidity ratio of non-financial corporations, defined as their liquid assets divided by short-term liabilities – second chart. The value of assets was depressed by losses on equity investments, while money holdings – including foreign deposits – grew by only 0.5% over the quarter; liabilities, by contrast, rose by 2.7% (11.1% annualised) as bank borrowing surged, in part reflecting involuntary inventory accumulation.

The corporate liquidity ratio fell by 18.9% in the year to end-December. An annual decline of 11% or greater occurred on 11 previous occasions since 1955 and in 10 of these cases non-residential fixed investment contracted on a year-on-year basis in the same quarter or subsequently – third chart. The exception was 1988 but this followed a major investment recession in 1986-87.

Global economy health check: patient still deteriorating

Posted on Thursday, March 7, 2019 at 11:25AM by Registered CommenterSimon Ward | Comments1 Comment

The current global economic downswing is expected here be more severe than the slowdowns in 2011-12 and 2015-16, for two reasons. First, global real narrow money growth fell to a lower level ahead of the current downswing than before the previous two. Secondly, both the stockbuilding and business investment cycles are expected to drag on activity – the prior slowdowns were mainly stocks-driven.

How is this forecast playing out? The first chart shows six-month / two-quarter changes in industrial output and GDP in the G7 economies and seven large emerging economies, with the latest data points referring to December and the fourth quarter respectively.  Six-month industrial output momentum fell to 0.7% in December, the lowest since 2016 but well above troughs of -0.2% and -0.7% reached in 2012 and 2015. Two-quarter GDP growth, meanwhile, has also fallen but remains respectable, at 1.5% (3.1% annualised) in the fourth quarter.

With real money growth bottoming in October, a trough in economic momentum is unlikely to be reached until around mid-2019. Industrial output / GDP data, accordingly, are expected to deteriorate for a further six months, at least.

The second chart shows new orders / business components of the global manufacturing and services purchasing managers’ surveys, which supposedly offer a more timely read on economic activity. The final reading of the manufacturing new orders index for February was higher than suggested by earlier flash data but still represents the joint weakest (with January) result since 2012, i.e. undershooting a 2016 low. The services new business index remains solid but a positive divergence with manufacturing is normal in the early downswing phase – similar temporary resilience was displayed in 2012 and 2015.

The above series are coincident indicators of economic activity; the OECD’s composite leading indicators are useful for assessing short-term prospects. The third chart shows the deviation of G7 GDP from a statistical trend along with the OECD’s G7 leading indicator, including an estimate for January (official data are released on 11 March). Based on the estimate, the decline in the indicator from a peak in February 2018 is already comparable with the peak-to-trough falls in 2011-12 and 2014-16. A caveat, however, is that the level of the indicator can often be revised significantly, as trends in the individual components are reestimated to incorporate new data. This caveat is less relevant for the direction of the indicator, which has yet to suggest any bottoming out of economic momentum.

As noted above, business investment is expected here to show greater weakness this year than in 2011-12 and 2015-16. The fall in the global manufacturing PMI new orders index was led by the investment goods component, which moved well below its 2016 low in January, though recovered in February – fourth chart. Recent weakness in intermediate goods orders, meanwhile, is consistent with the stockbuilding cycle moving further into its downswing phase. Consumer goods orders remain solid but – as with services activity – such resilience is not unusual in the early stages of an economic downswing. Consumer weakness typically emerges as slowing activity feeds through to labour markets.

The business investment and profits cycles are closely linked. The fifth chart shows national accounts-based estimates of gross domestic operating profits (EBITDA). Japanese and UK profits contracted in the year to the fourth quarter, while Euroland growth was the weakest since 2013. US fourth-quarter numbers have yet to be released: year-on-year growth is likely to remain solid but the level of profits may have stepped down last quarter, judging from S&P 500 earnings reports.

Profits are very likely to remain under pressure during the first half from slowing activity, weak pricing power and rising wage costs due to high settlements and excessive hiring in 2018.

In summary, coincident and short leading evidence has yet to confirm the forecast of a more severe economic downswing than in 2011-12 or 2015-16 but indicators are behaving largely as expected, allowing for the usual leads / lags. If correct, the next phase of economic weakness will involve corporate retrenchment extending from fixed investment and stocks to hiring, undermining consumer confidence and spending and leading to a further deterioration in business sentiment.