The Real Economy: Output, GDP, and Inflation
The financial crisis continued to drag down the global economy, but as President Obama notes, there have been “glimmers of hope” recently. The sharp downturn of growth in recent months has taken a toll on global trade and GDP, as well on as commodity prices. OECD expects a 12.3 percent drop in global trade amid recession in 2009, the most since World War II. The IMF predicts that the global economy will contract 0.6 percent this year, the first such fall in 60 years. By the end of this year, the World Bank forecasts that non-oil commodities prices will have declined in excess of 30 percent (most of which has already occurred).
The slump in activity has become evident around the world. U.S. real GDP growth in the last quarter of 2008 has been revised down to a contraction of 6.3 percent annualized from the 3.8 percent decline first reported. Industrial production fell for a fourth straight month in February, plunging by 1.4 percent. Exports dropped by 5.7 percent in the same month. In the first quarter, industrial output fell 20 percent on an annualized basis. GDP forecasts have also been revised down. The United States continued to shed jobs in March as more than 663,000 payroll jobs were cut, bringing the cumulative loss for this recession to 5.1 million. Retail sales in March unexpectedly dropped 1.1 percent on a seasonally adjusted basis. Private housing starts declined 10.8 percent in March (m/m), while housing permits dropped 7.4 percent.
However, there were few bright spots in U.S reports in the past few weeks. The University of Michigan consumer sentiment index rose to 61.9 in April from 57.3 in March, the highest level since the collapse of Lehman brothers in September. First-time claims for unemployment insurance eased by 53,000 persons to a level of 610,000 in the week ending April 10. U.S. existing home sales gained 4.4 percent in February, while sales of new homes increased 4.7 percent. In the same month, fears of deflation were also soothed, as U.S. consumer prices rose by 0.4 percent in February, the biggest monthly gain since last July.
The news from Europe remains negative. Eurostat showed that Eurozone output declined by 6.2 percent (saar) in the fourth quarter of 2008 and by 1.5 percent (y/y), the biggest contraction in both measures since 1995. Eurozone industrial output dropped 2.3 percent in February (m/m) and by 18.4 percent (y/y). The UK’s real GDP plunged at an annualized rate of 6.0 percent in the fourth quarter relative to the previous quarter. German industrial output fell by 7.5 percent in January, while France and the UK, despite faring better, still showed monthly declines of 3.1 percent and 2.6 percent. The Eurozone economy is predicted to contract 3.2 percent in 2009. Car sales continued to weaken in the region, as sales in Western Europe fell 17 percent (y/y) in February.
In the Central and Eastern European region, Ukraine’s economy declined 8 percent (y/y) in the fourth quarter of 2008, led by a 32 percent plunge in construction activity and a 22.6 percent fall in the processing industry. Russia’s economy also contracted sharply in the first quarter of 2009. The 7.9 percent (y/y) decline in activity marks a near complete reversal of the 8.5 percent advance recorded in the first quarter of 2008.
In Asia, trade has deteriorated substantially. Chinese exports fell 25.7 percent (y/y) in February, while Japan’s exports plunged 49.4 percent in the same period. Chinese industrial production dropped 3.4 percent in January relative to the same month in 2008. China’s economic growth eased to 6.1 percent in the first quarter of 2009 (y/y) from 6.8 percent in the previous quarter. The World Bank cut its forecast for China's growth this year from 7.5 percent to 6.5 percent, below Beijing’s target of around 8 percent. Japan’s economy is forecasted to dive 5 percent this year. In some good news for the region, February car sales in China surged 25 percent y/y after the government cut taxes on small cars and announced plans to provide subsidies for new vehicle purchases in rural areas. Lending by Chinese banks has soared.
In the Middle East, inflation continued to fall. Consumer price inflation in Saudi Arabia reached its lowest level since 2007, falling from 7.9 percent y/y in January to 6.9 percent y/y in February. Jordan’s inflation rate dropped to 4.5 percent y/y in the first two months of 2009.
Economic Policy
The last few weeks have seen rising expectations that newly enacted policy measures—including G20 commitments, quantitative easing policies, and new fiscal stimulus packages—will provide strong support for a recovery of global economic activity.
The G20 summit agreed to increase resources available to the IMF by $500 billion, of which $250 billion is already committed. Separately, the G20 approved the issuance of $250 billion in Special Drawing Rights (SDRs), credits on the IMF that can be exchanged for hard currency, which amounts to money creation at the global level. Furthermore, the G20 agreed to provide trade finance to cover $250 billion of new trade. Members also pledged to support at least $100 billion of additional lending by the multilateral development banks and to use the additional resources from IMF gold sales for concessional finance for the poorest countries. Some consensus toward regulatory reform was also reached, as leaders agreed on expanded controls on hedge funds, derivatives trading, and compensation policies for the financial sector. Finally, the G20 leaders reaffirmed their commitment to resisting protectionism and to pushing for an ambitious conclusion of the Doha Round global trade talks.
European Union leaders agreed to provide further assistance to former communist countries in financial distress by doubling their credit line. The EU will increase to $68 billion the limit on emergency lending to 11 countries not currently using the euro, eight of which are in Central and Eastern Europe.
Central banks around the world have continued to cut interest rates drastically. The European Central Bank eased its policy rate to 1.5 percent, down 275 basis points since early October 2008. Middle East central banks followed suit, as Jordan’s central bank eased its repurchase rate to 5.5 percent, down from 6 percent. The bank lowered its discount price by 0.25 percent to 5.75 percent. Egypt’s Central Bank also cut interest rates by 0.5 percent. In Latin America, Mexico’s central bank cut its key interest rate by 75 basis points to 6.75 percent. In sub-Saharan Africa, South Africa’s central bank slashed its key interest rate by 100 basis points to 9.5 percent, the second cut in two months.
As major central banks near 0 percent interest rates, they are turning to new quantitative easing measures to revive credit and bring down market interests rates. The Fed purchased some $7.5 billion in Treasury securities to pump liquidity into markets, and to lower longer-term official yields, with the hope that this would lower mortgage rates down as well. The Swiss National Bank is pursuing similar measures, as it plans to buy Swiss franc bonds issued by private sector borrowers. It has also announced plans to purchase foreign currency on the foreign exchange markets. In contrast, the European Central Bank continues to refrain from undertaking quantitative easing measures, although they have announced that they will begin pursuing such policies in the near future.
Leaders of many of the world’s largest economies have continued to expand stimulus proposals. Japan has announced a second fiscal stimulus plan of $150 billion in an attempt to drag the country out of recession. The Japanese government said the package would focus on extending the safety net for Japan’s large number of non-regular workers who face precarious employment conditions, supporting cash-strapped small businesses, revitalizing regional economies, promoting solar power industries, and expanding nursing and medical services. Meanwhile, China announced a new plan to cut taxes by $88 billion and spend $124 billion to reform the country’s health care sector within three years. Its central bank claimed that the Chinese economy showed better than expected improvements in the first quarter of 2009 due to its huge stimulus plan. The bank argued that the $586 billion stimulus boosted credit growth and demand for steel and other materials.
The U.S. Treasury announced the details of its financial rescue plan, which has been dubbed the Public-Private Investment Program, or “P-PIP.” The plan aims to use a combination of public and private funds to buy up “toxic assets,” non-performing loans and securities that have weighed upon banks’ balance sheets and impeded lending. This was met with solid approval by financial markets.
Financial Markets
Global financial markets experienced a very solid rebound last month. The rally was prompted by the unveiling of implementation details of key programs like TALF and PPIP. The announcement of quantitative easing measures, G20 commitments to increase resources to IMF, positive comments on current trading from Citigroup and Bank of America, and signs of possible stabilization in the declines of some economic data (including retail sales and housing data) contributed to the positive performance of stocks. After breaking through new 12-year lows earlier last month, the S&P staged a multi-week rally, gaining 22 percent from a low of 666 on March 3 to 823 on April 20. The Dow ended March with a 13 percent increase, and rose 3 percent in the last three weeks of April. NASDAQ gained 22 percent in just the past six weeks.
In Europe, the FTSE 100 rose 8 percent last month. The Germany DAX had the biggest gain, closing 21 percent up last week from the beginning of last month. The DAX gained on news from Deutsche Bank stating it was having its best quarter since 2007, which was also supported by trading updates from U.S. peers.
Major indices in Asia rose sharply. Japanese equity markets saw solid gains over the period, as positive interpretation of U.S. action on toxic assets and a weakened yen generated positive sentiment. Japans Nikkei finished the first two weeks of April with a 7 percent gain. Hang Seng climbed 28 percent in the past six weeks.
The performance of emerging markets has been exceptionally strong in the last month, registering increases in the 30–35 percent range. Unlike equities in industrial countries, emerging markets have seen a large rise from the start of the year.
Global bonds have had a mixed performance over the last weeks. The Fed’s announcement to make purchases of $300 billion of government securities during the next six months generated the largest one-day rally in Treasury bonds on record, with the 10-year yield falling 46 basis points on that day alone. U.S. 10-year yields fell 7.22 percent in March, but managed to rise 5.6 percent in the last three weeks of April. UK 10-year yields dropped 12 percent in March before rising 3 percent in April. Japan’s 10-year bond yield has performed more strongly, rising 13 percent since the beginning of March. All bond markets are beginning to meet resistance in absorbing large new offers at current prices, particularly as equities begin to rebound.
In the foreign exchange market, the announcement of quantitative easing in the United States, along with China’s critique of the current dollar-dominated global monetary system, contributed to the U.S. dollar’s poor performance in March. The U.S. dollar, after a strong start to the month, closed the month 4.1 percent lower with respect to the Euro. Against the yen, the Euro strengthened to 128.1 from 123.6 at the beginning of March. The yen appreciated with respect to dollar in March, but weakened to 98.7 in the first weeks of April.
