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October 2022 update to TIGER: World economy battered by high inflation and stalling growth

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The post-COVID recovery has run out of steam and the global economy is stalling, with many countries already in or on the brink of outright recession amid heightened uncertainty and rising risks. The October 2022 update of the Brookings-Financial Times TIGER indexes shows that growth momentum, as well as financial market and confidence indicators, have deteriorated markedly around the world in recent months.

A series of self-inflicted wounds, ranging from China’s zero-COVID policy to the United Kingdom’s fiscal recklessness, piled on top of persistent supply chain disruptions and the protracted war in Ukraine, have severely constricted space for policy maneuver. High and persistent inflation worldwide, and the actions by central banks to rein it in, are depressing economic activity, dampening household and business confidence, and roiling financial markets.

Major advanced economies such as the eurozone, Japan, and the United Kingdom have been dented by various adverse external shocks, often compounded by sluggish and tepid policy responses, throwing their growth trajectories off kilter. Many developed markets are now facing the combination of steep currency depreciations (relative to the U.S. dollar), rising government bond yields, strained public finances, and tightening policy constraints that have long characterized periods of economic and financial stress in emerging market economies.

Click a country name below the Composite Index to view charts for the main TIGER indexes by country.

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The U.S. economy is rife with conflicting signals. Consumer demand remains strong and employment has continued to grow at a reasonably healthy pace. At the same time, GDP growth is anemic while inflation remains high by any measure, leaving the Federal Reserve with little choice but to hike rates further despite the tightening of financial conditions resulting from the stronger dollar and falling values of financial assets.

Energy supply disruptions are fueling inflation and constraining growth in European economies, with prospects of energy shortages in the winter damaging private sector confidence. Emblematic of the stresses on the U.K. economy, the plunge in the pound sterling’s value reflects a combination of these adverse external circumstances, the ongoing fallout from Brexit, and undisciplined fiscal policies. Many European countries face added concerns about populist policies that could increase the risks to fiscal and financial stability.

Japan is the sole major advanced economy that has the luxury of keeping monetary policy loose as inflation remains contained. This could help maintain stable albeit low growth, with the yen’s rapid depreciation not having any appreciable negative effects thus far.

Emerging market economies are facing similar challenges as their advanced economy counterparts, including high inflation and depreciating currencies, but have generally better growth prospects. Still, weak demand worldwide and tighter financial conditions will increase pressure on developing economies with current account deficits. Barring a few exceptions such as Turkey, Sri Lanka, and Venezuela, where rampant economic mismanagement has precipitated currency collapses, emerging markets at large do not seem at imminent risk of balance of payments crises, however.

China is facing a raft of problems resulting from the government’s rigid adherence to a zero-COVID strategy, a faltering real estate sector, and financial system stresses boiling over. Inflation remains under control, though the renminbi’s depreciation relative to the dollar has limited the People’s Bank of China’s ability to cut interest rates. The government and the PBOC have invoked a number of fiscal and monetary stimulus measures, but these have had limited traction in boosting private consumption and investment. Export growth, meanwhile, is likely to be restrained by weak global demand.

India’s economy remains a bright spot and looks likely to register strong growth this year and next. Various reforms undertaken in recent years seem to be paying off, with even exports picking up as the rupee depreciates. However, reining in high inflation is proving a challenge for the central bank.

The Russian economy has been battered by economic and financial sanctions imposed after its invasion of Ukraine, although the ruble has strengthened on the back of strong export revenues and weak imports. Latin American currencies have done surprisingly well this year but Brazil and many other countries in the region face challenging political environments, which could dampen domestic demand and growth, scare off foreign investors, and foment economic instability.

Governments and central banks no longer have the luxury of unfettered fiscal and monetary stimulus to stabilize growth and offset adverse shocks. At a minimum, governments must avoid unhelpful populist policies (especially poorly targeted fiscal measures), do what they can to overcome supply bottlenecks, and support central banks as they strive to bring inflation under control. After all, food and energy price increases have particularly deleterious impacts on poor countries as well as poorer households in all economies.

Faced with limited room for maneuver, monetary, fiscal, and other economic policies must act in concert in alleviating short-term inflationary pressures and focusing on measures that can improve long-term growth. Mitigating constraints on labor supply and trade, for instance, in addition to incentives for investments in green technology and various forms of infrastructure, could be helpful. Such measures in turn are essential to underpin both private sector demand and confidence in the short run while helping re-anchor inflation expectations.

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French Economy Clings On to Growth as Energy Concerns Mount

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(Bloomberg) — The French economy looks set to make it through the end of the year without a decline in output, even as business leaders are concerned about the increasing impact of surging energy prices on their activity.

A monthly survey of 8,500 companies by the Bank of France published on Thursday indicated a 0.1% expansion in the fourth quarter after activity improved more than anticipated in all sectors in November. Services are expected to grow again this month, while industry stabilizes and construction declines.

“Despite a very uncertain environment marked by a convergence of large-scale external shocks, activity is still resisting overall,” the central bank said. Its longer-term projections published in September assumed no growth in the final three months of 2022.

Read more: Bank of France’s Gloomy Outlook Casts Doubt on Macron’s Plans

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The assessment is relatively upbeat compared with an average forecast from analysts for France to finish the year with a 0.2% quarterly contraction. S&P Global’s purchasing managers’ index for November indicates a recession is already underway in the 19-nation euro area.

The Bank of France’s survey also showed supply difficulties eased last month, reaching the lowest level in industry and construction since it started gauging frictions in May 2021.

Still, the central bank’s measure of the impact of surging energy prices points to greater headwinds early next year. Of the business leaders surveyed, 24% said the energy crisis is already having a significant impact on activity, while 35% see a hit in the next three months.

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China’s Economy Is In for a Bumpy Ride as Covid Zero Comes to an End

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(Bloomberg) — Three years after the first case of Covid-19 was reported in Wuhan, Chinese policymakers must now grapple with how to live with the virus while keeping the economy growing fast enough to stave off public anger.

With the Covid Zero policy being rapidly dismantled, the threat of economic disruption remains high. Infections are likely to surge, forcing workers to stay home, businesses may run out of supplies, restaurants could be emptied of customers and hospitals will fill up. Even though there’s optimism the economy will recover as China opens up to the rest of the world, the next six months could be particularly volatile.

Goldman Sachs Group Inc. expects below-consensus economic growth in the first half of next year, saying the initial stages of reopening will be negative for the economy, as was the experience in other East Asian economies. Morgan Stanley predicts China’s economy to remain “subpar” through the first half of next year. Standard Chartered Plc said growth in urban consumer spending will still lag pre-pandemic rates next year given the hit to household incomes during the pandemic.

The economy was already in bad shape this year because of the Covid outbreaks and a property market crisis. While China’s zero tolerance approach to combating infections has kept infections and deaths relatively low for most of the pandemic, the rapid spread of the highly infectious omicron variant exposed the challenges of maintaining strict controls. From snap city-wide lockdowns to almost-daily Covid tests, the restrictions have taken a heavy toll on people’s lives and the economy.

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That discontent manifested in mass unrest at the end of last month. People in Beijing, Shanghai and elsewhere started to reject demands for quarantines or lockdowns of their housing estates, and between Nov. 25 and Dec. 5, at least 70 mass protests occurred across 30 cities, according to data compiled by think-tank Australian Strategic Policy Institute.

Authorities have moved to quell public anger by relaxing some Covid requirements around testing and quarantine — although the sudden and confusing changes to the rules over the past few weeks have injected more uncertainty about the economy’s outlook.

Here’s a deeper look at the economy’s downturn and the challenges it faces as China exits Covid Zero.

People have been cooped up in their homesChina’s cities have been hit hard by Covid restrictions, with mobility across the country’s 15 largest cities plummeting in recent months, according to congestion data released by Baidu Inc.

Major hubs are showing strain, including the capital Beijing, as well as Chongqing and Guangzhou. Trips there have plunged in recent months below levels in previous years, according to subway data compiled by Bloomberg.

Few have borne the brunt of China’s Covid Zero policy more than the financial hub of Shanghai, a major epicenter for recent protests. After a two-month lockdown this year to tackle a major outbreak, China’s richest city is still struggling to get back up off its knees.

Malls have seen a surge in vacancies, consumer spending has plunged, and spending in areas like food and beverages has been depressed, mirroring the national trend.

Lack of spending has hit the economy hardCovid restrictions have battered the economy, with consumers pulling back on spending and business output plunging. Retail sales unexpectedly contracted 0.5% in October from a year earlier, with economists surveyed by Bloomberg predicting an even worse outcome of a decline of 3.9% in November.

The government is expected to miss its economic growth target of around 5.5% by a significant margin this year. The consensus among economists is for growth of just 3.2%, which would be the weakest pace since the 1970s barring the pandemic slump in 2020.

With onerous testing rules, flare ups in holiday spots, and official advice discouraging travel, holidaymakers have stayed home, adding a further drag on retail spending. Tourism revenue declined 26% to 287 billion yuan ($40.3 billion) over the week-long National Day holiday in October compared to the same period last year. Flight travel also dropped to its lowest levels since at least 2018.

Youth unemployment is near a record high

That’s all combined to drive growing economic malaise among the country’s youth, with the unemployment rate among 16-24 year-olds soaring to a record high of about 20% earlier this year. Joblessness among young people is more than triple the national rate, with many graduates struggling to find work in the downturn, especially in the technology and property-related industries.

Unemployment will likely get worse next year, when a new crop of 11.6 million university and college students are expected to graduate, adding to pressure in the labor market. Factories are still struggling to cope with Covid outbreaks

So far during the pandemic, the industrial sector has held up better than consumer spending since factories were protected from Covid outbreaks and global demand for Chinese-made goods was strong. That’s changing now.

Export demand is plummeting as consumers around the world grapple with soaring inflation and rising interest rates.

The disruption at a major assembly plant in Zhengzhou for Apple Inc.’s iPhones and violent protests there last month also show the damage that outbreaks can have on production.

The housing market crisis continues to simmer

China’s ongoing real estate slump has also been a source of unhappiness for homebuyers.  The property market, which has long been a major driver of the country’s economy, is in its worst downturn in modern history, with sales and prices plummeting. Cash-strapped property developers struggled to finish building homes, prompting mortgage boycotts by thousands of buyers in the summer.

Despite authorities introducing a spate of measures recently to help make borrowing easier and ease tight cash flows for developers, the economy’s downturn and lack of confidence mean the housing market continues to be depressed. The slump is not expected to end soon, with Bloomberg Economics expecting a 25% drop in property investment in the coming decade.Local governments are struggling to fund their spending

Government finances have come under severe pressure as the economy slumped. Land revenues have plummeted and local governments have had to boost spending on Covid control measures. The broad measure of the fiscal deficit in the first 10 months of the year is nearly triple the amount it was in the same period last year.

Relaxing testing and quarantine rules will help ease pressure on local government finances. However, it remains to be seen how far and fast authorities will go in dismantling Covid Zero if a surge in Covid cases puts strain on the healthcare system, a likely outcome given that a significant portion of the country’s elderly and vulnerable population are still unvaccinated or lacking booster shots.

–With assistance from Kevin Varley, Jin Wu, Danny Lee and Fran Wang.

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The US Fed’s Balance Sheet Shows What’s Happening To The Economy

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The mother of all charts is below. This is the Federal Reserve balance sheet history straight from their website:

This is where the world’s inflation comes from. Not all, of course, because central banks around the world have done the same. In goes new money and up goes the price of stuff. Now if there is less stuff, then up goes the price even more. However, without new money prices cannot rise across the board, inflation is always about money supply.

This is why the Fed is reining it in. Down goes money supply, down goes asset prices.

Now there is one modifying factor. If you pump new money into an economy and that money goes to drive up the prices of illiquid assets, then the inflationary impact will be in those illiquid assets and the new money will be locked up there and will only dribble into the “real economy.” Let’s say you pump in money and make it easy to be grabbed by people buying houses or stocks but make it hard to be grabbed by people buying groceries, well then up will go the price of houses and stocks but groceries will not be that much affected. The lucky (rich) folk with the stocks and house will get much richer and the people who need to buy groceries will get left behind somewhat but at least there won’t be runaway inflation outside of stocks and houses. Woe betide an economy that hands out money to people to buy groceries because boy is everyone in for a bout of inflation then.

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Ring any bells?

So to get prices under control you have to drain money from the system because when there is too much in the wrong places it starts rushing around bidding up the price of everything.

There is too much money in the system and that money is parked and it’s parked at the Federal Reserve where banks who can’t use a big chunk of this new money have kind of handed it back to the Federal Reserve to look after. That is the reverse repo which has gone out of whack with all the new money magicked up to bridge the pandemic.

Here is a chart of it:

Note how it matches the Fed balance sheet in character. This money is a bulwark for the banks if things get tricky as they can pull this cash out and back into play in the real economy, but in normality it would be down at 2014-2018 levels if there was just about the right level of money in the system. The Fed will feel there is plenty of room to tighten while these balances are high because if banks need liquidity, there it is.

This is where the big call lies. If banks were to say to the Fed, nope we aren’t going to lend to anyone but you and turn the real economy into a credit desert while damming up the cash with the Federal Reserve then there is no hope of a “soft landing.” If the money stays in the system as is then inflation should run its course and the new money supply would match new price levels, which wouldn’t be so bad, but the trouble is government fiscal deficits would then necessitate further money supply increases creating further inflation which could only be combatted with more interest rate rises, causing a vicious circle of high inflation and stagnation. That is what happen in the 1970s…

But that is all “what if.”

The real map is the progress of these two charts. If these balances fall without much drama then all is working out well, but if tightening starts to badly disrupt the economy without these levels falling materially then it will be a signal to take cover.

The institutions think inflation is about to fall sharply and that then new QE will restart. I say ‘good luck with that.’ However, these charts will provide the guidance necessary to judge the likely outcome ahead.

For me there needs to be a capitulation to define the new beginning we are entering and that hasn’t happened yet.

Once again these charts will give a solid indication of what’s up next.

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