Master Rider Blog

Big Adjustment

November 9th, 2007 NW Teong

The big contrast between US and rest of the world is that while US economy is slowing down, rest of the world is still growing at a healthy rate, at least for now. The common thing facing every country in the world at this moment is the inflationary pressure which is the consequence of strong demand of every kind of raw commodity from every country especially big emerging giants such as China and India. Developed countries such as US, European countries and others are just as guilty as emerging countries in consuming these precious limited resources at an alarming rate.  While US have to bear the full brunt of this inflationary pressure, rest of the world are somewhat shielded from this due to their stronger currencies vis-à-vis the US dollar.

US cannot “live” long under current scenario, i.e. housing problem is worsening, economy is slowing down, US dollar is weakening, trade deficits are ballooning, consumer-spending is slowing down too! For countries that still enjoy good growth, the choice of their interest rates policy is easier to make as compared to US Fed. These countries either hike the interest rates (such as Australia did recently) or at least hold the rates steady (such as EU did recently) in view of the threat of higher inflation rate. However, it will be a tough job for US Fed in this regards. The housing crisis and the inflationary pressure in US provide the twin drags on its economy at this moment. The cut in interest rates by US Fed would not be very effective under such scenario as it may help to relieve some pressure in its housing problem, it stokes further inflationary pressure. This is in addition to a weakening US dollar which will further stoke the inflationary pressure. Damn it, if the Fed cut, and damn it too if they don’t!

It is thus in my opinion that Americans look beyond the interest rate policy to solve the twin nightmares of having high inflation rate while the economy is slowing down. The classic way is of course to change the consumption pattern, for instance save as much energy as possible, cut down on wastage and excesses, leave your cars at home if possible and other measures. In short, do all possible things to preserve the vital resources as well as the earth that we live in. In addition to this, Americans would need to boost their productivity and competitiveness vis-à-vis other countries. I reckon pressure is building up on the policy makers in US by the weeks if not by the days. They are under pressure to solve the housing problem, under pressure to solve the currency as well as trade deficit issues (this boils down to its competitiveness as compared to other countries). In this regards, US will put more pressure on China to devalue its yuan at a faster rate. US policy makers are also under pressure to tame the inflationary pressure and at the same time think of how to reverse the slow down in its economy. When time is running out, I suppose so does their patience and perhaps options too. If the push come to shore, I suspect US Fed will still need to cut its interest rates despite the threat of inflation and a weakening dollar. The simple logic is that if the US does go into recession or its economy slow down substantially, the inflation is no longer an issue.

In short, what we have witnessed so far is a big adjustment (or rather big re-balancing) underway between US and rest of the world. The re-balancing of currencies (will US dollar lose its status as the reserve currency?), the re-alignment of world trades and the ultimate state of economy growth of these countries. I reckon this huge re-balancing will reach a climate in 2008. The markets of all kind of assets will be volatile while this re-balancing process is going on as funds are flowing to and fro in all directions in pursuing higher returnsm or simply avoiding losses. While there are many articles talking about the de-coupling of US economy with rest of the world, especially Asia countries, we have to be mindful that US is still the number one economy in the world today, a severe housing problem or slow down in its economy will have dire impact on the economy of the rest of the world, and hence their stock markets. 

This is the main reason why I am not too optimistic about 2008. My best hope is that this re-balancing phase as well as the consolidation and slow down in global growth is a short –term one. While I think the liquidity run in the emerging markets, especially Asia is likely to go on till end of the year, we have to watch out the rate of this re-balancing process (as I said in my earlier blogs, watch out for triggers that would derail this liquidity bull run in regional markets). Any increase in this rate of re-balancing is likely to stir policy risks (from US to EU to China etc) which in turn will create havoc in global stock markets. Otherwise, sit back and enjoy a thrill-packed liquidity run (caution: those who have faint heart or heart problem, better avoid the markets altogether). Oh yes, by the way the Baltic Dry Index has started to go up again since 6 Nov 2007. Cheers!

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Entry Filed under: US Stocks, Macro, Stocks, Singapore