subject: The global economic crisis and the global economic situation going forward [print this page] The global economic crisis and the global economic situation going forward
Genesis of the crisis- The sub prime crisis destroyed value for millions of investors which led to the global economic crisis of 2007. The asset bubble finally went bust as the mortgage backed securities market collapsed on account of poor lending habits in the US real estate market. US banks and financial institutions saw bankruptcy levels not seen since the great depression and business activity dropped to significant lows.
Effect of the crisis- Inevitably, investors pulled out money globally and caused a global panic. A large number of US too big to fail' corporations and government mortgage companies were bailed out with tax payer dollars. Resultantly, investors turned their gaze to the developing world. The developing world has been the hot spot for investment activity in the years following the economic crisis. Owing to high growth rates, favorable savings and earning demographics, these economies have been able to create a domestic consumption driven story.
Current scenario- With companies across several sectors in these emerging markets showing robust return profiles and healthy business prospects, investors globally have felt the need to buy into this pie of high return investments. Developed nations continue to print money through QE and provide lowered interest rates to stimulate business activity. The interest rate parity available for global investors is healthy, thus offering better returns overseas than at home (ignoring the effects from currency value fluctuations). As a result, some of the QE money has trickled into the emerging markets. Investors that invested in these markets have thus made returns above the global average. Investors are tracking global uncertainties, inflation rate & interest rate movements, GDP growth rates, trade deficits, budget deficits for these emerging economies. Peak valuations have been concerning investors in these markets and since economic indicators have been steadily holding, markets are expected to be range bound in the following months. Also, with continuous periods of high returns investors have begun to command a lower risk premium in these emerging markets which could be another indicator of stretched and expensive valuations.
Way forward- Even though each region or market (developing/developed) has its own set of issues, by and large we can establish an upward trend for them. As per IMF data, for the period 2011-2012, world output is expected to grow at 4.4%, for the developed economies output is expected to grow at about 2.5% and for emerging economies it is expected to grow at 6.5%.[1] I believe these are realistic targets (assuming no significant impact from the recent Japanese natural disaster) given the various fiscal and monetary efforts put in place by the governments and central banks of the global economies.
While the US and Eurozone have upped up their budgetary spending in an effort to boost businesses, create jobs and create a healthy macro economic cycle, the key numbers still being observed carefully are GDP growth, unemployment rates, stock market returns and interest rates.
One variable that has to be taken into account to assess future economic growth, especially for the emerging economies, is the price of non renewable sources of energy, namely, crude oil, coal, natural gas and other similar hydrocarbons. India is currently battling inflationary pressures on account of its rapidly increasing demand and constraints in supply and is trying to increase the absorptive capacity of its economy through increased FDI and exports. China is seeing a pullback from its recent double digit growth of 10.3% largely on account of monetary tightening which is in place to tackle high inflation. Also, China's dominance as the manufacturing hub has been its foe in shielding it from the global financial crisis. However, the domestic growth and consumption story for China still remains and the economy is expected to slow down marginally from its previous peaks.
The recent Japanese Tsunami and devastation has created new uncertainty in the market, one that investors will want to watch. Central banks and financial institutions are currently assessing the impact of the event and it will be too premature to comment on it. It is unclear how the liquidity infusion of a staggering 26.5 trillion yen (about $324 billion)[2], by the Bank of Japan, will play out in the global financial markets. In my view global economies are in for a breather and the IMF predictions for world economic output may have to be revised downwards. Recovery for the global economy will continue on a more gradual rate. Emerging economies will continue to be areas of high growth while advanced economies will see slower growth rates in the years to come.
[1] As per IMF data available at http://www.imf.org/external/index.htm, accessed on 17.03.2011.
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