Global slowdown underway.

2016 COULD BE END OF EXPANSION

GLOBAL SLOWDOWN UNDERWAY

The 2015 storm clouds for the economy look like they may accelerate in 2016. It has been 7 years since the great recession. While it has been a weak recovery, there has been a steady increase in economic activity, caused mostly by less fear and more confidence in the economic outlook. The biggest driver in the economic downturn has been slower economic growth in China. China has been the major engine of the global economy for 20 years. It has also been financed by a large amount of debt. Some of this slowdown was intentionally planned by the Chinese government, but now some question if they may have lost control of the decline. The first casualty of the Chinese slow down has been commodity prices, which are down 80% since 2002. Low commodity prices have resulted in slowdowns in all commodity producing countries, from Africa, Australia, South America,  and Canada. This has contributed to recessions beginning in these countries. At the same time, many of these commodity producers have large amounts of debt; if these low prices persist this can lead to a spillover into banking problems and bond defaults. China itself has devalued its currency several times to stimulate exports. It may at sometime need to lower its holdings of foreign currency reserves which could raise interest rates in the US.

The energy market is another part of this slowdown. While the low gas, diesel and heating oil prices have been a great stimulus to a flagging economy, (could you imagine this decline with $4.00 gas?) this again is partly a planned decline by the flat out production of OPEC to drive US frackers out of business and put pressure on their political enemies. Forty two US producers have filed for bankruptcy so far and 50% of energy-related bonds are in danger of default. This is resulting in large layoffs in this industry that will have a ripple effect across the economy. Oil wells are now being shut down as pumping marginal oil is actually resulting in a loss. Similar to what happened to beef prices after a decline in beef production, we will sometime see a huge increase in oil prices as demand again outpaces supply. These low oil prices may also kill alternative energy producers.

Another casualty is that many foreign governments and industries have debt that is denominated in US dollars. With the large increase in the value of the dollar compared to their currency, some debt repayments have grown up to 75%. This again is likely to result in defaults and bank losses.

Retail sales in the US have managed to see a steady year in 2015. Auto sales have reached a new record high, but some have concerns about the fact that most loans are now 72 months and 40% of loans would be classified as sub-prime. Auto sales have most likely reached their peak in this cycle.

The stock market started out with the weakest performance in many years. While this may be just an overdue correction, the fact is that many companies have borrowed money to repurchase stock to keep their stock prices up. Also many have valuations that resemble 1989 Japan.  The stock market has been aided by the fact that there is no where to earn a return on money these days. If not the stock market then where? This is going to put additional pressure on many public pension funds which have not been producing satisfactory results for years.

One other concern for 2016 is the refugee crisis in Europe, which will definitely increase budget deficits in countries with already huge amounts of debt.

While cheap energy prices are a welcome gift to most consumers, we will have to see if they are offset in the long run with a decline in economic activity and financial problems for those with large debts.