Navigating through tumultuous economic uncertainty, which stars do we follow?

Art, 2 Mar 2008

(In November ‘07, when I called for a US economic recession, heading towards stagflation, some readers thought I was extremist, too pessimistic in my views. Now, US recession is an accepted fact, though many are still doubtful of a US stagflation. In my analysis, I seek to be a realist, as my FX and stock market investment do not have room for wishful thinking. US being the largest world economy, has been the engine of growth for the rest of the world and as such, a major change of US economy will inadvertently affect the global economy till a new economy order arises and that will take a while.)

The changing economic stars, where a key star has risen but many still don’t believe in what they are now seeing with their eyes, choosing to believe it is only a comet that burn brightly and will vanish in no time and on the other hand, one key fading star was cling to religiously where it is in fast decline.

The new rising star of inflation will be here to stay for a while. As surely as you can observe the Arius star during the winter, the global inflation will become clearer by the weeks. (Please note that the period of inflation is not at the similar length to that of the stars in the sky as major economic cycle varies from 3 to 15 years)

What is the basis of the new sightings? Many would ask. It is back to the basic of demand and supply. (In economics, it only seeks to measure real demands, not wants which the poor Africans have, but do not count as they do not have the money to pay for their wants)

Global demand shift
1. The growing middle class in China, India (which has 1.3 and 1 billions populations respectively), Russia and Brazil, or BRICs will push demand to the limit where the CPI data generally represent.
2. The changing global demographics of the economic well to-do (high to middle income) baby boomers (age 45-55) are shifting its growing demand to health care from goods and other services purchases (and baby boomers are also in productivity decline too). Would you be chasing the latest iPhone/fashionable restaurants or you would rather walk the gardens or catch up with friends, when we are in our sixties or above, in view of the declining health?

Global supply shift
1. China and India, the world’s two largest producing nations for the last decade or so have been experiencing rising wages, especially the last three years. It has come to the point that these wage increases are pushing the final manufactured goods and (through the IT and related services) other services prices rapidly upward. The long declining birth rate of middle incomes and one-child China policy has been reducing young bodies for work (or growth)
2. Given the limited global land and raw materials, the growing surge of demand is pushing supply catch-up to its limit too. Land that was set aside for crops and animals’ raising and the mining of raw materials is not able to expand proportionally to meet the demand surge, causing the raising prices of commodities.

The fast fading star of economic growth will be greeted with great disbelieve. Many cling on to it as if it is the permanent star of heaven. Why should it fade off, when it has been around for years, (since 1993). It shall return in due time, in different form, but not in the near future. The current rapid decline is due to man’s folly of greed and trickery.

Just a quick important side-track, that is, growth comes in two forms. One is through headcount growth, which increases total growth, assuming stable employment, but it is actually zero growth per capita. The more important growth is productivity growth where the same person is able to produce the same quantity of goods/service at lesser time, thus allowing him to produce more with the usual amount of working hours.

One of the main global growth drivers was man’s invention of computers and internet which has significantly increase productivity, thus growth for the last fifteen years. The productivity has since then comes to gradual plateau. Recently a reputable financial news channel sang a new hollow song of growth engine through alternative energy technology. It is not to be believed. One of their anchor hosts keep harping the belief of goldilocks’ US economy of growth, where there is virtuous growth cycle in US economy and downturn is always shallow and short before US economy returns to healthy growth again.

The truth is that man has also planted its own seed of fast economic decline. The main culprit lies in the creation of money through complex financial engineering to its extreme where poor quality assets are sold off as top grade assets and rehashing them in different forms to the maximum, thus leading to rapid expansion of money. The global slowdown will be severe. The new economic order will likely to be multi-polar, consisting of Europe, Asia and America, instead of one main economic engine of US. The likely outcome will contain certain similarity to the old classic Chinese text of the three states’ rivalry. I will stay to the economic (and financial) course in this series, while the political and cultural rivalry will form a body of interesting discourse, should there be any interest by my readers.

As a seasoned navigator, how are we to chart the course, so as to avoid the treacherous water, so that we are able to continue our journey, till dawn breaks and the new found land is in sight? While we care about the distant future, we also need to pay attention to the immediate waters around us. I will seek to offer some suggestions in the following series of articles as to what choices of investment are available, even in uncertain markets. The Chinese word for danger is risk and opportunity and I seek to propose those opportunities that are available in current times like this.

(If you are still in the camp of Jack Welch, ex-GE’s chairman and CEO, believes that some of the US corporates have strong balance sheets that will power US economy back to health, I can understand that persuasive viewpoint. The missing element in that view is the balance sheet is not strong anymore where valuation is done in the new light and US’ demand deteriorates rapidly, leading to machineries that stand still, though still showing a great balance sheet figure of capital in the books. Till the new economy order is in place where the flow of global demands build up, and growth of capital in appropriate machinery, intellectual knowledge (in this generation, it will be medical) and services, we will be still be facing the tumultuous ocean of change that will last for many years to come.)

Art, 2 Mar 2008
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