The latest evidence suggests that the global economy is weak but has not tipped over into contraction. The monetary backdrop, meanwhile, continues to improve and inflationary pressures are easing, at least temporarily. Assuming that the eurocrisis can be contained – a big if but possible if the ECB eases policy and continues to support peripheral bond markets – global economic momentum should revive moving into 2012.
The US Institute for Supply Management (ISM) manufacturing new orders index is a timely gauge of US economic momentum and stabilised just below 50 in August – see following chart. This is well above the level historically associated with whole-economy recessions. According to the ISM website, “A PMI in excess of 42.5 percent, over a period of time, indicates that the overall economy, or gross domestic product (GDP), is generally expanding; below 42.5 percent, it is generally declining.”
PMI new orders correlate with the equity analyst “revisions ratio” – upgrades to company earnings forecasts minus downgrades divided by the total number of analyst estimates. The ratio has moved sideways so far in September, suggesting no further deterioration in the PMI.
The same indicators look much worse for the Eurozone – PMI new orders fell to 46 in August and earnings revisions are signalling a further decline. This weakness is consistent with a contraction in the real narrow money supply since late 2010 (discussed in numerous previous posts), suggesting an evens chance of a recession.
The key issue all year has been whether Eurozone weakness, compounded by the ECB’s misguided policy tightening for which departing chief economist Juergen Stark bears significant responsibility, would trigger a global “double dip”. G7 PMI orders were little changed in August, with the Eurozone fall offset by US / Japanese resilience. Korean earnings revisions have historically been a good indicator of global momentum – key companies are export-orientated in “early-cycle” industries – and have ticked up in early September.
The favourite global monetary leading indicator here, G7 six-month real narrow money expansion, is likely to have accelerated further in August, based on US and Japanese data. The US numbers have been boosted recently by technical factors but the credit backdrop is improving – US commercial bank loans grew by 5% annualised in the three months to August, led by a 9% gain in the commercial and industrial segment.
As discussed in previous posts, sustained global economic weakness would be highly unusual against the backdrop of narrow money strength. Another consideration arguing against a global recession is recent stability of housebuilding activity, albeit at a very low level. At least during the post-war period, an annual fall in G7 housing starts has been a necessary (but not sufficient) condition for a recession – starts were up marginally year-over-year in June and will be supported by post-earthquake rebuilding in Japan.
