The question I ask in the headline may not have an affirmative answer but the world’s stock markets have a decidedly shaky look at the moment. The British bluechip index is now at the level where it was at the start of the year, erasing all its gains. Some emerging market bourses have fared even worse. What is going on?
Inflation – which some economists had claimed was ‘dead’ – is possibly back, created as a result of the vast amounts of monetary liquidity sloshing around the global economy at the moment. For a while, red-hot growth in China, India and continued robustness to the U.S. economy may have bred a dangerous amount of complacency. We have a new head of the powerful U.S. Federal Reserve, Ben Bernanke. Bernanke is clearly keen to establish his own policymaking persona after the long stretch of the Alan Greenspan years. There is a sense that interest rates could be headed up further. Gold prices have been above $700 an ounce, rising rapidly to a degree that has got some old-fashioned ‘gold bugs’ like me decidedly nervous.
So should we fear a recession is on the way? Not necessarily. The enormous motor power of the U.S. economy repeatedly counters the doomsayers. But there are clear risks. China’s state-dominated banking sector is stuffed with bad loans and investment is often wildly misallocated. The price of oil is acting like a tax on growth, although in time it may weaken if new energy supplies come on stream to slake demand (assuming governments allow it).
The economic sea may be choppy for a while yet. However, to counter some of the gloom read this sharp piece at the Mises Institute.
The Mises Institute piece is already a little dated, but still informative.
The trade imbalance is a product of American wealth. If Americans have less, they spend less, and the trade gap narrows.
This leads many libertarians to refer to trade gaps as “myths” because to gall it a gap is to deny that monetary instruments have equal weight in trade as physical goods and services.
Don’t know if I believe that philosophy, but it seems to have held water in the past.
1.8859 USD to the GBP. Something’s up. I’m planning a trip to the USA later this year. With exchange rates like that I can’t afford not to. Of course, my modest share-holdings are taking a hammering – and they had been doing very nicely…
It could be profit taking after a large runup. It is a common occurrence in a bull market. Business could not be better in the US other than labor shortages are starting to appear in some states.
What is interesting is that the massive price escalation of gold with US inflation still tame at low single digits. Last time we had such a big shift up in gold, inflation was over 10%, so what gives?
Inflation never really went anywhere, it’s just a question of how bad it’s been. Late last year the Feds decided to stop publishing M3 data (this was the widest available count of the number of dollars in existence, including those in banks outside the US), in order to hide how bad it is.
Mike, one reason for the price of gold being so high is because speculators don’t want to hold dollars but certainly don’t fancy the yen or euro either. So either they buy sterling, Swiss francs, or gold. That is one reason. Another is rapid growth in Asia: gold has industrial uses as well as decorative ones. I think the inflation hedge aspect of gold is not a prime driver but it is often good at flagging certain stresses in the financial system.
The Cafe Hayek blog is good for reading material about myths on trade deficits.
Johnathan
Dont forget that gold is the only commodity that is never consumed. Once extracted, it is around forever – not ideal supply and demand dynamics.
I don’t know, the article sounded like a puff piece to make the “Socially Responsible Investing” crowd feel good about themselves. The especially weak part was the footnote about military spending. It seems wiser heads long ago settled that military development drives technologic development. In fact there was a nice piece I read some 10 yrs or so ago that traced the decline of China in the 1300’s to the reduction in support for their Navy, which lead to reduced trade, etc..
And even if it’s only money for boots, uniforms and MREs, you are subsidizing people that are working for a living instead of welfare louts.
Too simplistic. the industrial revolution in Britain started, arguably, before the Napoleonic War broke out and that war held France back rather than the other way round, for example. France was devastated, much of its able-bodied population was dead or wounded; its trade was ravaged. Ditto much of the continent. I can think of dozens of other comparable examples.
Yes, we get jet planes and other great things out of wars, but who is to say these would not have developed anyway, albeit in a more piecemeal way? I don’t find your argument convincing. In any event, the immense destruction caused by wars seems to outweigh what gadgets wars may have encouraged.
Gold actually is consumed – albeit very slowly. It is used in some electronic parts. A bit also gets buried with corpses.
Personally, if I had a lot of money to invest, I’d sink most of it into gold. Gold is going to go through the roof if the wheels come off the international economy – an almost certainty with the level of malinvestment taking place in China. Factor in the rest of the world’s increasing integration with the Middle Kingdom, and we have a scenario that is going to make us regret we ever admired Deng Xiaoping’s quasi-liberal economic reforms.
Under such circumstances, the flight to gold will be swift and the price will rise markedly. Gold is a great hedge for the resources stocks people are acquiring at present.
Uain : the dismantling of the Chinese navy was a symptom of the ailment, not the ailment itself. What caused China’s downturn was an increasingly insular worldview that characterised the later Ming dynasty.
Also, it has been proven quite conclusively that, despite shrill leftist conspiracy-theorising cries, wars are most definitely not good for business in the aggregate.
James
The rise in the value of gold (and oil, and copper and alum and just about every other commodity you can name) reflects an abundance of money (see Ken’s comment above) and a substantial decline in the value of the dollar. The real value of the dollar is a measure of how much gold it buys. By this measure, the profligacy of the US consumer is finally coming home to roost.
Jonathan: But Britain embarked on technological advance by the 1500 or 1600’s when they vied with Spain, France, Holland, etc. for trade routes to the West and East. The development of large, fast seaworthy ships was aided by the need to develop a Navy to protect merchant interests. Sea battles did not result in massive damage on land. I think the land battles were more politaical, in that they were the last gasp of the old land conquest model for tribal wealth creation, sort of like take from your tribe so I can keep my station in my tribe, and James, you are right, these conflicts did far more damage than good.
If you look at USA, much of the technology we take for granted was driven by military research dollars in 1950’s – 1990’s. Perhaps MAD was really an economic plan maquerading as a military strategery.
Vying for trade routes is a perfectly good example of what can drive tech., but that is not the same as military spending per se. When the clipper ships raced back from Australia and China to England carrying tea, spices and wool, this was commercial competition (rather like the space X-Price or the Schneider Trophy), rather than something connected to war.
Competition is the forcing ground of tech, as is dissatisfaction with what went before. War can galvanise tech, but it is not necessarily the primary cause, and like I said, carries a considerable cost.
I am not the only person who probably rolls his eyes when I read of some bureaucrat or lobbyist pleading why X or Y billions of money should be spent on some military programme because of the “spinoffs”; we had a lot of flimflam to that extent over the Moon landings, remember.
Perhaps MAD was really an economic plan maquerading as a military strategery.
nurse!
The trade gap is not a “myth” – but nor is it something that can be helped by taxes or restrictions on imports.
It is caused by the monetary expansion. Just as the property bubble and the stock exchange bubble were.
Mises sometimes treated the above as being too obvious to be worth much discussion so for once I will praise Hayek (not a man I normally praise).
Hayek’s little essay in “New Studies on Philosophy Politics and Economics” (1978) explains carefully how an “expansion in the money supply” does not just appear everywhere at once (as someone reading Milton Friedman might think) – the money is not like water it is more like “treacle” it flows but it piles up in mounds in various places (and, of course, sticks to the fingers of the connected) such as the stock market and the real estate market.
This is one of the harms that montetary expansion does – it distorts the economic structure.
As for trade – well if a lot of money is being created (via government supported financial book keeping tricks – which is what fractional reserve banking and the rest of it actually is) it can be used (amongst other things) to buy imports.
So people can buy lots of nice stuff from overseas without actually producing goods and services to pay for it.
Is this sustainable over the long term? Of course not.
But then a credit-money bubble is not sustainable in the long term even if it does not go on buying imported goods.
There was no great deficit in the late 1920’s but the bubble came to an end eventually.
When will the bubble burst?
Well if I knew that I would be a rich man. Such predictions are beyond my abilities.
It might be today, it might be tomorrow – it might be a year from now.
It depends (for example) on how much extra money the Fed supports the creation of (in a desperate effort to put off the evil day) – of course the more credit-money injected the worse the eventual bust will be.
As for the bust itself – it need not smash the economy.
The bust of 1921 led to people adjusting wages and prices and the economy was growing again after six months.
In 1929 the government (Herbert Hoover and co) tried to help with deficit spending, higher taxes on imports and efforts to prevent the reduction of wages (most of President Roosevelt’s policies can be traced back to President Hoover).
Which is more likely now – the inactivity of President Warren Harding in 1921 (not quite inactivity – Warren Harding did greatly REDUCE government spending) or the hyper activity of President Hoover and F.D.R.?
“But we do not live in America”.
But we trade with it. And the credit bubble is worse in Britain than in the United States anyway (our general economy is worse – I doubt even people on this site know just what a house of cards the British economy is).
“…..this was commercial competition….”
True Jonathan, but so was the Cold War. In WW2, technological development was advanced by competition for battle space advantage. Look at the advances in Rocketry, Jet aircraft, Radar, Communications, etc, etc, that formed the technology foundation for the later half of 20th century. And this was paid for by governments with survival as the agent to focus the development activities.
True, the actual fighting of the war is ugly, messy business. But I thiink investing in cool military or space stuff has more long term return than another pork barrel project (bridge to nowhere in Alaska) or more welfare dollars for lay abouts.
It’s been crashing for about two weeks already. Not a nose dive. More like a basketball rattling its way down staircase in a tall building. It might even pause and bounce a while on a couple of landings then continue on the way down.
Greenspan’s (former Fed chair) speech was about as definitive a statement as he is ever known to make.
Oh well, take notes so you can tell your grandkids what it was like to be there.
Something else to keep in mind, Japan and China each hold very approximately 700 billion dollars of T-bills. That’s 1.4 trillion dollars that answers to other governments. They will try to protect the value of the dollar long enough so they can get rid of it. I doubt they’ll buy much more except to manipulate the market. China, at least, may be trying to figure out how to turn that money into something that can solve some of their own banking problems.
Disclaimer: No warrantees expressed or implied, results may vary, the opinion expressed may be utter garbage. Avoid operating machinery until you know how these opinions will effect you.