Interestingly, the same editorial warned that if unwinding the “unprecedented buildup” of the Fed’s balance sheet contributed to “artificially inflated asset prices, then the unwinding could be bumpy.”
The International Backdrop
Just as data in the United States began marching higher during the second half of 2017, the global landscape similarly began to see clear signs of optimism. Corporate spending on capital equipment (“capex”) and infrastructure projects indicated that confidence in the viability of the recovery was taking hold. Moreover, capex spending benefits from the gains of a virtuous circle. As growth prospects and confidence improves, stock prices climb higher, which reinforces confidence, followed by a pickup in investment.
In 2017, economic growth expectations began to gain traction abroad, including the eurozone, Japan and emerging markets, particularly in Asia. In early 2018, markets should benefit from stronger trade dynamics as the capex cycle continues to underpin growth. Eurozone economic forecasts are steadily being revised higher as German and French data indicate stronger growth. The region is seeing improving industrial production along with rising business confidence.
European Central Bank (ECB) President Mario Draghi raised estimates for eurozone GDP to 2.3 percent in 2018, in addition to revising language on economic slack in the region. At the ECB press conference in mid-December Draghi said that the ECB expects a “significant reduction of economic slack” in 2018.
In Japan, GDP is being revised up to 2 percent as domestic demand grows along with exports. Consumer confidence continues to improve as the effects of “Abenomics” are felt across the economy. Prime Minister Shinzō Abe is focused on the kind of difficult structural reform that modernizes the Japanese economy particularly in terms of the labor market. Wages are beginning to show signs of creeping higher, something that has been missing for decades as Japan has tried again and again to induce inflation into the country’s collective psyche.
Projections for China’s growth varies as the Chinese leadership continues to focus on the transition from a heavy manufacturing framework to a more consumer driven economic base. At the 2017 National Congress of the Communist Party, China’s President Xi Jinping stressed during his three-hour speech that the direction of the country’s expansion must focus on structural reforms that mitigate financial risks, reduce pollution and provide an economic environment that minimizes the income gap. Missing from his comments were the stark pledges and targets set in the 2012 speech of his predecessor, President Hu Jintao, who called for China to “double its 2010 gross domestic product and per capita income for both urban and rural residents.” Rather, Xi called for a “new socialism with Chinese characteristics.”
Transitioning the economy could allow the Chinese leadership to focus on an older theme of “quality over quantity,” while at the same time giving Beijing the time to sort out the structural and economic imbalances, risks and speculation so closely associated with the years of rapid growth. While market forces are being integrated into their financial infrastructure, authorities want enough regulation to avoid the kind of leverage that brought about the 2008 global financial collapse.
A particularly interesting and curious warning about asset bubbles came from the head of the People’s Bank of China, Zhou Xiaochuan, when he referred to the danger of a “Minsky moment.” That’s the moment asset prices collapse following a period that had encouraged excessive risk-taking. China’s high debt burden unequivocally needs reform and is often mentioned as a potential risk for global markets, and not just within China. While no one expects that President Xi has read the seminal works on financial instability by the late economist Hyman Minsky—who counts Bill Gross and Paul McCulley, who coined the term “Minsky moment,” as devotees— Minsky’s main thesis is inextricably associated with financial collapse, and certainly Xi understands the implications for China. No doubt, curbing risk will be a key component of China’s five-year plan.
China will continue to focus on moving up the value-added chain as it supports its own companies gaining global stature and brand recognition. Global technology names, for example, more frequently are part of the Chinese push towards building status and prowess. Electric vehicle manufacturing is an area in which China seeks to dominate with regard to the technology involved, as well as exports.