Last year the global economy grew 3.1%, which is just above what is considered to be a recession by the International Monetary Fund (IMF). It is the fourth time in a year that the international agency has downgraded growth for 2016. The further reduction of 0.02% from January, is an acknowledgment that the constraints on economic expansion continue to gain strength.
The headwinds that are causing the global economy to contract, is the slowing demand almost everywhere. The end of rapid growth in China has reverberated throughout the world. In 2015, Chinese GDP (Gross Domestic Product) grew at the slowest rate in a quarter of a century. As the world ’s second largest economy, this is having a dramatic effect on world trade.
The World Trade Organization (WTO) has revised downward global trade growth for 2016 from 3.9% to 2.8%. This is the same rate of growth for 2015 and it is the fifth year in a row, that it has remained below 3%. The slowdown in China and the volatility in world markets, continue to depress growth on a broad level.
Economic growth in China from 1989 through 2014 averaged 9.88%. Last year the Chinese government reported that the GDP had slowed to 6.9%. The leadership of the country promises that growth will remain between 6.5% and 7% in 2016. Although 6.7% was reported for the first business quarter, this investment writer remains doubtful that the published rate is accurate. It would be politically untenable if far lower percentages were now announced.
Chicago Board of Trade Futures market in the United States.
The dwindling demand from China for commodities has been devastating for emerging market economies. Many of these nations had become overly dependent on the export of these raw materials and goods.
Much of the rising wealth that has been generated over the past two decades in Africa, Latin America and Southeast Asia, has been the result of the rising demand for commodities by the Chinese economic juggernaut.
Chinese growth is now shifting from investment and manufacturing and more towards consumption and services. Development is becoming more focused on the internal economy.
The ongoing economic slowdown in China and East Asia in general, have caused increasing anxiety in equity markets around the world.
At the same time the developed world continues to struggle with the legacy of the financial crisis of 2008 and 2009. The dramatic steps taken by central banks and national governments to prevent further disruption of the world economy, have resulted in monetary policies that are largely untested and unsustainable.
Declining consumer spending.
The stagnation that is beginning to take hold in a number of countries is suppressing investment. This results in lower employment, the lack of wage growth, and rising debt on both the personal and governmental level.
Some of the leading economies in the world are in deep recessions like Brazil, Russia and Venezuela,or are teetering on the brink of a downturn like Argentina, Canada and Japan.
Growth is forecast to decline in Brazil by an additional 2.5% this year after a drop of 3.8% in 2015. Venezuela is expecting a further contraction of 3.3% in 2016, after drops of 3.9% and 5.7% in 2014 and 2015 respectively. Russia is expected to decline by an extra 0.5% this year after a 3.7% drop last year.
Poor economic management and rising political instability is constraining growth in a number of leading nations including Brazil, Greece, Italy, Pakistan, Russia, Spain, South Africa, Ukraine and Venezuela.
Shale oil “fracking” in the US: major new challenge to OPEC market share
Many of the oil exporters of the world are facing serious financial challenges as crude revenues have been reduced by 50% or more. Ecuador, Iran, Iraq, Nigeria, Saudi Arabia, United Arab Emirates,Venezuela, are among the nations that will have to change government spending patterns in varying degrees to survive.
Even the United States the largest economy in the world is experiencing lower growth. This is the result of a stronger American dollar, reduced global growth expectations, lower oil prices and a near recession in corporate profits. The IMF has already reduced the economic forecast by 0.2% to 2.4%, which is optimistic considering the present situation.
Europe is also facing a prolonged period of sluggish growth. Narrowly escaping another sovereign debt crisis with Greece last year, the European Economic Community (EEC) is becoming increasingly reliant on trade to propel the 28 member nation organization forward.
European Union
The Continent as a whole is suffering from overall low investment and high unemployment. This has been the case in many countries in the region, since the advent of the Great Recession in 2008 and 2009. There never has been a real recovery from this economic downturn.
The EEC is now bogged down in a refugee crisis and the potential exit of the United Kingdom. Of the larger countries in Europe, the German economy alone maintains adequate economic growth. As the leading economy in Europe, the nation has achieved a balanced federal budget, generational low unemployment, and ongoing trade surpluses that continue to pile up foreign exchange reserves.
Another growing threat is exploding debt not only in emerging markets, but in the developed world as well. This is occurring at both the corporate and governmental level. Much of the sovereign debt in Africa for example is denominated in USD (United States Dollars). A strengthening American currency will be a major impediment to growth there, as the cost of debt will become a crushing burden.
It is important to note that any further increases in interest rates by the United States will have a global impact, given the importance of USD as a world reserve currency. The central bank of the United States known as the Federal Reserve, finally did raise rates last December for the first time since 2006. If rates continue to rise, capital will continue to flow out of the emerging world and move towards dollar based assets. This will further impede growth prospects in the developing world.
ISIS fighters in Anbar province, Iraq
There is also the potential danger of geopolitical shocks from rogue nations like Iran and North Korea as well as terrorist organizations like ISIS (Islamic State of Iraq and Syria). Most of the Middle East is a major security risk and therefore many investors avoid the region altogether.
In addition, there is an increasing threat from a more militaristic China and a resurgent Russia.
Growth prospects for many low income nations are diminished due to the overall decline in the global economy. Much of Africa will see little improvement this year over results from 2015.
The majority of the global growth in 2016, will still originate from emerging markets. However, it will be uneven and far weaker than it has been over the past two decades.
Mumbai, Maharashtra is the financial capital of the Republic of India
India is the exception, as are five countries in Southeast Asia. Indonesia, Malaysia, the Philippines, Thailand and Vietnam are expecting additional economic growth this year, despite the more difficult global environment.
Another region of the world that is experiencing moderate growth is the Caribbean and Central America. The major economy is this area is Mexico. These countries on the whole have benefited from lower oil prices, but remain quite dependent on the markets of the United States.
As was the case in the first part of 2016, confidence can be easily undermined by a return of financial turmoil in any major area of the world. Various regions of the world are experiencing acute declines in capital inflows, which is stifling investment and economic growth. Corporations in these areas already short on liquidity, are being forced into ever higher debt levels.
The ongoing currency wars, where each nation in turn devalues their national money in the hope of regaining a competitive advantage are only temporary fixes. Monetary loosening through quantitative easing and zero or negative interest rates are not sustainable over the long run. Although these measures may provide temporary economic stimulus, they are quite destructive to banks, insurance companies and pension plans on a global scale.
Government debt as a percent of GDP by IMF
As most nations of the advanced world are already saddled with GDP to debt ratios already near or in excess of 100%, further fiscal stimulus is becoming increasingly problematic.
Countries within the Euro-zone for example, are restricted by treaty to a national budget debt level of no more than 3% of GDP on an annual basis.
The rise of more pandemics resulting from pathogens like Ebola and the Zika virus are a constant threat and can easily derail individual growth prospects, of many nations in the developing world. Many nations are totally unprepared for these kinds of events.
Dark clouds continue to gather in many areas of the world. It is likely more nations will slip towards stagnation and further downgrades, as the year progresses. Black Swan events can easily create financial panics that would devastate global equity markets and tip even stronger economies into recession.