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29 March 2024

World GDP per capita to shrink by 2.5 per cent

(AFP)

Published
By Yazad Darasha

World gross domestic product per capita will shrink by a massive 2.5 per cent this year with leading indicators giving no hope for a recovery in the medium term, new research has said.

In one of the most negative global outlooks released by any economic research house in the past three months, Saxo Bank yesterday said export-orientated economies such as Japan, Germany and China will be hit by the slowdown particularly hard and will lead to severe recessions with even more negative growth rates.

Write-downs from Eastern Europe, coupled with Chinese deceleration, will be the primary drivers for negative growth and deflation for the rest of the year, the Copenhagen-based bank said and urged companies to fix their borrowing costs now, if possible.

"The G20 communiqué delivered by UK Prime Minister Gordon Brown promises a broad range of initiatives that are very much in line with the drafts already leaked to the press before the summit. They may instigate increased liquidity for some time due to the Herculean money printing efforts on the part of central banks but the interference by the public sector and the enormous costs will choke off market dynamism and end up having the complete reverse effect of what the G20 intended," Saxo Bank Chief Economist David Karsbol said in an statement emailed to Emirates Business.

"G20 could, as predicted, not reverse the leading indicators and, in addition, the money supply figures are not a cause for celebration," he said.

Apart from G20, the efforts being made by the Barack Obama administration may also pose "a huge risk" to the interest rate outlook, Saxo Bank said.

"The fact that the Obama administration plans to roll and issue around $6.3 trillion (Dh23.14trn) of debt in the next 12 months alone poses a huge risk to the interest rate outlook, if the Chinese and Japanese are getting tired of rolling their debt at less than 70 basis points," the bank said in its quarterly economic outlook.

"The stakes are high and they are not getting smaller as we head further into 2009. Fix your borrowing costs now, if possible."

The bank believes leading indicators give no hope for a nearby recovery. "Some of them – especially for the US – have actually edged higher in the past two months, but that is exclusively due to an explosion in the base money supply, which is leading to an increase in M2 money supply.

"However, the base money is sitting idle on the balance sheets of the banks and non-M2 leading indicators are pointing decidedly lower. Furthermore, lending activities, new orders, factory orders (both down by 25-30 per cent year-on-year across the board) and exports are all pointing in the same, gloomy direction: deeply lower," the outlook said.

Global capacity utilisation is also in free fall, indicating massive overcapacity in the manufacturing industry. "This is deflationary and we are maintaining the forecast of 2009 as a year of deflation," the bank said.

"This is especially priced-in in the US and Japan, where deflation over the next two years, according to break-even inflation rates, is expected around minus two per cent per year. Five-year inflation rates are still positive in most countries with Japan expected to be worst off (-2.5 per cent), and US (+0.36 per cent), UK (+0.95 per cent) and Germany (+0.71 per cent) still expected to have rising prices."

Earnings expectations have been slashed during the first quarter of 2009 as the outlook for equities in 2009-2010 turned more and more bleak on the back of weakening fundamentals.

"We are still negative on equities. Due to that our base scenario for the economy is deflation and we do not find that equities are cheap currently," the bank said. Despite bailout packages to companies, housing market stability packages and growth packages being offered by governments globally, Saxo Bank's macroeconomic team sticks to its originally posted deflationary scenario.

"Combined with the fact that we are now facing negative growth across the globe, we believe that equities still will experience headwinds in the coming quarters. We do not expect the market to begin pricing in a sustainable recovery in ex-financials until we get closer (maybe only one quarter out) to the earnings trough, which will not occur until the first quarter of 2010," the outlook said.

This is a revision of the bank's earlier view that corporate earnings will begin a recovery in the fourth quarter of this year. "We are especially concerned about the development in Europe and Japan, as we see the growth in the overall economy here contracting more than originally expected," it said.

Saxo Bank has lowered earnings growth expectations for 2009 with 13 per cent for Europe, 14 per cent for Japan and eight per cent for the US.

"Stocks will continue to suffer from earnings revisions and downgrades. We maintain that stocks could go lower and our target for S&P500 is 500 within 2009. When this happens, we ought to have hit rock bottom," he said.


Competitive Devaluation forces currencies into a race to the bottom 

The main theme that has taken over the currency market is one of competitive devaluation: a race to the bottom by major central banks who are increasingly taking up ever more aggressive, non-traditional monetary policy measures in an effort to revive their economies and stave off the risk of deflation now that rates are reaching the zero bound.

The weakening effect on the currency from these non-traditional measures is often considered a helpful byproduct for the economy. The Bank of England has even commented on this on several occasions in recent months as it happily ushers the pound into the basement.

The Fed had already fired the first warning shots for its intent to go all out in a war against deflation late last year, when it first mentioned the idea of debt monetisation, a move that sent eurUSD rocketing above 1.4500 briefly before it traded all the way back down to 1.2500 by early March.

But then the Bank of England kicked off the competitive devaluation theme in earnest by moving to outright money printing by debt monetisation (direct buying of Gilts), suddenly leap-frogging the Fed's monetary aggressiveness.

Now the Fed has performed its own one-upmanship with a shocking opening of the monetary spigots via outright debt monetisation as well and a massive expansion of mortgage buying.

So what is the outlook for the major currencies as the new competitive devaluation theme has taken hold and the old "global deleveraging" trade that terrorised markets in Q4 of last year seems to have faded?

Our main macro view is that the market still does not appreciate how low equities and risk appetite can still go before we see any chance of stabilisation, so we see a significant risk that the market will be forced into risk aversion trades and the idea that things could get worse before they get better.

Also very interesting to watch will be the attempts by the G20 and other international organs to bail out the world's trouble spots and re-jig global capital markets for a brave new financial world.

Euro

The euro's success is the euro's failure. The euro is strengthening as the European Central Bank has always had a philosophical distaste for hyper-expansive measures and is clearly far less concerned about deflation.

But Europe has its own peculiar problems that are still festering and must give the single currency further stress in the coming quarters: first, the strength of the currency itself will have a crippling effect on the Eurozone economy, particularly its traditionally strongest members like Germany. Second, the financial sector is still a huge worry as there is no credible plan to clean up European banks and their gigantic exposure to Eastern Europe, nor a credible plan to roll over the mounds of corporate debt that must be refinanced in the coming year.

Third, there is the pressure on individual countries like Greece, Spain and Ireland who are suffering horribly under the yoke of the single currency and who will require a very expensive bailout if they are to avoid the path of threatening an exit from the monetary union.

US dollar

A goner or readying for a last hurrah? To be fully US dollar bearish, we would have to see the dollar continuing to sell off as we see risk appetite declining. We can't help but think that the dollar's move lower is as much allied with the general and mystifying rally in risk appetite as it is about worries over the trajectory of the hyper-expansionist Fed monetary policy.

Yes, in the long run, the dollar must devalue. But the world still has a tendency to return to the greenback as a safe harbour when risk aversion is at its worst, and we don't think we've seen the worst just yet. We still think there are reasonable odds for a last hurrah in the dollar this year.

Japanese yen

The deleveraging trade seems to be over. So is the yen's strength done for good? The yen thrived as the world launched into forced deleveraging last fall. As with the greenback, however, the new theme of competitive devaluation means that many fear aggressive new non-traditional monetary policy from the Bank of Japan due to its jaw-dropping economic weakness from the global trade meltdown and the effects of a strengthening currency.

Since January, we have thus seen Japanese yen weakness rather than strength, associated first with a rise in interest rates as the market has worried about the affects on the long end of US bonds, for example, and then by the general rally in risk appetite in March.

With the Fed's new efforts aimed at smashing especially longer rates lower, the yen has come storming back versus the dollar and could have bouts of strength for the rest of the year as the bond vigilantes may be a bit too premature here and as risk aversion returns. Still, it is unlikely to see the kind of strength and velocity from the yen as we saw in the white-knuckle panic last fall.

British pound

The British pound has been the biggest "winner" in the race to the bottom. GBP has been a basket case for many good reasons as it was at the epicentre of the fall of world finance. At the same time, the country has a terrible fiscal position and is therefore one of the least able to afford the massive stimulus efforts it has announced. A weak pound is therefore a must and will help cushion some of the blow on the UK economy as it has become so cheap that the UK is now incredibly competitive. When things stabilise perhaps later this year, the pound could be in for a rebound.

(Excerpted from Saxo Bank's Quarterly Outlook)



The quantitative easing factor

The start of quantitative easing (QE) announced by the US and the UK last month is expected to destroy the private capital market for sovereign debt. That, according to Saxo Bank, is the worst-case scenario. In the best case, it will have no effect.

"The logical destination of this exercise will be that the central banks will end up owning all of its government's debt in order for the QE policy to work," it said.

Karsbol said: "We have noticed that the Federal Reserve, Swiss National Bank and Bank of England have begun on QE programmes, but one should remember that the experience from Japan is not impressive. We do not expect these activities to have any lasting impact on interest rates."

On March 18, the Federal Reserve caught most market participants off guard by announcing the beginning of QE by buying longer-term Treasury securities. The Fed will purchase up to $300 billion in Treasurys over the next six months.

US 10-year bond futures went up almost five points immediately after the announcement, pushing down the yield more than 40 basis points.

Other measures by the Fed include credit easing programmes intended to encourage banks to lend more to the private sector and thereby stimulate a recovery of the economy.

However, the Fed's balance sheet has increased from $0.88 trillion in August 2008 to $1.88 trillion last week through the purchase of private sector financial assets.

"The difference between credit and quantitative easing must be seen as a question of merely semantics. What we are seeing now is a straight Zimbabwean-style monetisation of fiscal spending," Saxo Bank said.

"To make matters worse, the trade surpluses and therefore intervention-induced reserves are stalling in China and Japan, the two biggest buyers of US Treasurys. Thus the demand for Treasurys is set to decline significantly from here.

"This comes at a time where the US has to re-finance more than $6 trillion of debt over the next 12 months, which would imply a doubling of the M1 money supply if the Fed were to purchase 25 per cent of this amount," the bank said.

 

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