Posts Tagged ‘Gross domestic product’

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Permanent! Do recessions and economic depressions cause permanent damage to the economy, or do we see a catch-up period in the years that follow? In some ways it is like asking whether going on holiday damages your total level of productivity. Do you work extra hard in the days before going away and then when you return, so that within a few weeks, as far as backlog of work is concerned, it is as if you never went away? Do holidays cause permanent damage to output?

The answer to that question is quite important because it may determine whether the UK will boom later this decade. One thing we can say is this. The Great Depression in the US during the 1930s was very nasty, but within a decade or so of it ending, US GDP was much greater than it would have been had growth followed the pre-depression trajectory.

Recessions caused by financial crises tend to be different. They tend to be more severe and it can take longer for recovery to occur. Various economists have had a go at calculating the permanent loss of GDP that occurs after a recession caused by a financial crisis. Estimates vary, but, according to Capital Economics, they are all – or nearly all – within the 2 to 10 per cent mark. That is to say once the dust has settled and things have returned to normal, total GDP is between 2 and 10 per cent less than what it would have been had the financial crisis never occurred.

Of course the causal link may be the other way round. It may be that GDP in the years leading up to a financial crisis is illusionary. It is not so much that such a crisis causes permanent loss; rather it is that total output was not real, not really real, and largely constructed from the economic equivalent of smoke and mirrors.
Right now

UK GDP is around 15 per cent short of what it would have been had things carried on, or as most forecasters had predicted before 2008. By the end of next year, the gap between actuality and what one might loosely call potential is likely to be around 16.5 per cent.

So let’s say that permanent damage caused to the economy lies somewhere halfway between the 2 and 10 per cent figures, and is 6 per cent. That means the UK will eventually claw back no less than 10.5 per cent of GDP lost during the downturn. Let’s say this happens between 2015 and 2020 – not an unreasonable assumption – and that underlying growth is 2.5 per cent. During this half a decade annual growth should average around 4 per cent a year. And funnily enough, this is precisely what Capital Economics expects to happen.

In the build-up to the financial crisis Capital Economics was definitely one of the more bearish of commentators, and made its name for forecasting something of a crash in UK house prices. Indeed, when it comes to forecasts of UK house prices it remains distinctly bearish. Yet, earlier this week it forecast what one can only really call a boom for the UK economy within two or three years.

It suggests the loss to the UK’s permanent output was limited by two key factors. Firstly, spending on R&D as a proportion of GDP has actually been higher since the recession began. Theoretically potential output continued to grow, even if actual output didn’t. It also suggested that because unemployment did not rise to the kind of levels seen in the past, there was less permanent damage. The rationale behind this is that people who have been unemployed for an extended period of time often lose hope, and become less productive in the future.

© Investment & Business News 2013

It often seems that views on the economy fall into two camps. There are those who say we are doomed; that the Earth’s finite resources are just about all used up. You could say this is the Malthusian view of the world. Furthermore, they say, the growth we have enjoyed over the last 200 years or so was based on unsustainable credit – we borrowed from Mother Earth and from future generations by doing something called ‘burning fossil fuels’, and in the process built-up debt that can never be paid back.

Then there are the optimists – those who believe in technology. It is a shame the debate is often so polarised, because the truth is that both sides have legitimate points. In today’s piece, the focus is on technology, and something rather miraculous that is appearing in our midst, and which – by the way – is largely being ignored by economists, and those who like to debate economics.

The truth is that progress – if you want to call it progress – is accelerating. And it has been accelerating for several billion years at that. For the majority of time that life has existed on this planet it was simple, very simple, and indeed for much of the history of the world, life consisted of single celled organisms. Then half a billion years or so ago, the Cambrian revolution occurred and a blink in the eye – evolutionally speaking that is – things changed incredibly quickly.

From the evolution of dinosaurs, mammals, primates, bipedal primates and early humans, the pace of change just got quicker. And once Homo Sapiens discovered agriculture we saw another acceleration in change, and an acceleration again upon the invention of writing, and then again with the printing press and the industrial revolution.

In the 20th century too, we have witnessed it. It used to take decades for new technology to gain mass market acceptance, but now it can take a mere hand full of years.

With the Internet this process has accelerated again and now – thanks to digital technology – it is no longer true to say that technological progress is merely accelerating. Rather, it is accelerating at an accelerating rate.

Now McKinsey has highlighted what it sees as 12 disruptive technologies that it estimates will collectively have an economic impact in the year 2025 of between $15 and $25 trillion. Note that the report is talking about that one year: 2025. Presumably the impact of disruptive technologies will grow from there. Just bear in mind, by the way, that global GDP in 2012 was around $72 trillion. US GDP is around $15 trillion, so by 2025 these new technologies, based on McKinsey’s analysis, will have an impact on the world either equal to or greater than the entire GDP of the United States.

The technologies and their estimated economic impact in 2025 are:

Mobile Internet. Impact: between £3.7 and $10.8 trillion. McKinsey says it estimates: “10 to 20 per cent cost saving on the treatment of chronic diseases via the ability to remotely monitor health.”

Automation of knowledge work. Impact: 5.2 to $6.7 trillion. The report says: “Advances in additional labour productivity would be equal to the output of 110 to 140 million workers.”

Internet of things. This means billions of devices, such as sensors, some very small, and which are connected. Impact: $2.7 to $6.2 trillion.

Cloud computing. Impact: $1.7 to $6.2 trillion.

Advanced robotics. Impact: $1.7 to $4.5 trillion.

Autonomous or near autonomous vehicles. Impact: $0.2 to $1.9 trillion.

Next generation genomics. Impact: $0.7 to $1.6 trillion.

Energy storage. Impact: $0.1 to $0.6 trillion.

3D printing. Impact: $0.2 to $0.6 trillion.

Advanced materials (such as Graphene, carbon nanotubes and nanoparticles). Impact: $0.2 to $0.5 trillion.

Advanced oil and gas exploitation. Impact: $0.1 to $0.5 trillion.

Renewable electricity from wind and solar. Impact: $0.2 to $0.3 trillion.

Okay, McKinsey does not really know. Is it estimating or guessing? Its guesstimate for 3D printing seems on the low side, and why aren’t vertical farms in the top 12? But it’s an interesting list and one worth keeping a record of.

But what are the implications for the economy, for unemployment, distribution of income, education, and indeed for business and investors?

These disruptive technologies could have the effect of greatly increasing GDP, so why is there a preoccupation with austerity? Debt does not really matter if your percentage growth in income is greater than the interest on your debt. We should either be preparing for, or at least discussing these great changes?

The real point, however, is that the disruptive technologies in the pipeline are stunning and, for better or worse, they will change our way of life and drastically alter the economy very soon. This is exciting and also frightening. How often do you hear this topic discussed? We are simply ill prepared.

For the McKinsey report, see: Disruptive technologies: Advances that will transform life, business, and the global economy 

© Investment & Business News 2013

“The recovery is based on shaky foundations,” said Capital Economics in its analysis of the latest data on UK GDP. The good news, according to our beloved compiler of statistics otherwise known as the ONS, is that the UK never did have a double dip recession after all. The bad news? Well, there’s lots of that.

Do you remember Norman Lamont? Poor old Norm! He said he could see signs of green shoots. The media, with stats to back them up, had a jolly good laugh at the then chancellor’s expense. Subsequent data showed that Mr Lamont was right, but by then no one cared.

When data out last year revealed that the UK was back in recession, people cared a great deal. At one point, the ONS had the UK contracting by 0.4 per cent in Q4 2011 and by 0.3 per cent in Q1 2012. So that was two quarters of contraction; woe was up, the UK was in recession. The ONS had the UK contracting in Q2 2012 too, but that is a different story.

Since then the ONS has revised its data, and then revised it some more, and in its latest revision of revision of revision it is now saying that the UK was in fact flat – that is to say growth was zero per cent between Q4 2011 and Q1 2012. So there was no double dip. It also decided that the recession of 2008/09 was worse than it previously estimated, with the UK contracting by 7.2 per cent instead of by 6.3 per cent as it previously estimated.

The news on the latest quarter was okay, but not so good when you drill down. It also has current GDP 3.9 per cent below the pre finance crisis peak, whereas it previously had GDP 2.6 per cent less than peak.

The ONS still reckons the UK expanded by 0.3 per cent in Q1 this year, however. But it recorded a 1.9 per cent drop in business investment, despite a 4.9 per cent rise in company profits. In other words, companies are not investing their profits. Household incomes were 1.7 per cent less in Q1 than in Q4 2012, which does rather beg the question: if incomes were less and investment down, how did growth occur? The answer lies in savings – or rather lack of them. The ONS reckons households’ saving ratio has fallen from 5.9 per cent in Q4 2012, to 4.2 per cent in Q1 2013. So can that last, and indeed do we want it to?

The UK economy needs its households to spend more and save less. But common sense dictates that households need to save more. The answer lies in households saving more, and the money saved being used to fund investment. But as the fall in business investment shows, this has not happened.

Here is an idea: why doesn’t the government borrow from these savings, and invest the money? Well, if it did it would become a Keynesian government, and we wouldn’t want that, would we?

© Investment & Business News 2013

In 2004, the US Federal reserve upped interest rates. Three years later crisis rocked South East Asia. Some fear a repeat of this, but Matthew Dobbs, fund manager of Asia ex Japan equities at Schroders, is cynical about such cynicism when it comes to the so-called ASEAN countries, and especially when it comes to Thailand.

He said: “Whereas 1997 was a currency crisis, caused by an unsustainable accumulation of US-denominated debt, the country’s foreign-denominated debt, as well as those of its neighbours, is at a far more stable level.

“Thailand’s domestic economic engine is also being driven by policies aimed at growing consumer spending power and accommodating business growth – such as a near-40 per cent increase in the minimum wage that came into effect in April this year as well as a corporate tax rate cut in two phases, from 30 per cent to 20 per cent by the end of 2013. The ongoing urbanisation process in the country continues to spur growth as GDP came in at a salubrious 6.4 per cent in 2012 and is projected to grow at 5.3 per cent this year. Thailand’s latest private consumption growth figures witnessed a healthy increase of over 12 per cent year-on-year in the fourth quarter of 2012.

“Meanwhile, Thailand’s public debt-to-GDP ratio is a respectable 44 per cent, with most debt domestic and baht-denominated. It’s this fiscal room that has allowed the government to take on an ambitious multi-year infrastructure spending plan which seeks to invest up to THB2tn (US$68bn) over the next seven years. This push in spending will mainly go towards transport, with high-speed rail projects, an extension of Bangkok’s MRT and dual tracking of more than 2,000km of existing rail lines all forming part of the government’s vision.”

“On the whole, the region’s finances have seen a marked improvement over the past decade. Sturdier current account balances, along with robust FX reserves means governments have ample room to absorb any volatility the region may experience, while current account balances are significantly stronger than they were in the years before the crisis.

“Furthermore, there has been upside for countries and their credit ratings. Indonesia, which saw Moody’s and Fitch raise their credit rating for the country to investment-grade at the beginning of 2012, was joined by the Philippines as the fellow archipelago was also upgraded by both Fitch and S&P in the past two months to investment-grade status. In addition, Thailand has seen its currency perform the best among the 11 most active Asian currencies so far this year.”

© Investment & Business News 2013

Sometimes data is too good to ignore, and the latest Economics Review from the ONS contains such data. It shows that the star of the recession of 2008 was Canada. In Q1 of this year, Canadian GDP was no less than 5.1 per cent up on the pre-recession high.

US GDP was 3.2 per cent up, German GDP 1.3 per cent up, but French GDP is still 0.8 per cent below the pre-recession peak. In Japan GDP is now 1.3 per cent below peak, and for poor old Blighty, GDP is still 2.6 per cent below peak. Within the G7, Italy has suffered the worst performance, with GDP currently 8.6 per cent below peak.

Japan saw the steepest rate of decline during the recession, however, and at one point GDP was 9.2 per cent below peak before its recovery began.

So far, all is good for Canada. Just bear this mind, however. Levels of household debt in Canada seem high; they have risen since 2007, and are now even higher than in the UK and much higher than in the US. Meanwhile, Canadian house prices to both income and rent, relative to their historic average, seem excessive.

There are parallels between Canada today, and the US and the UK in 2007.

© Investment & Business News 2013

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As we slowly move towards a post QE world, or at least post US QE world, things start to look very different. Countries that seemed unstoppable a few years ago look vulnerable. Perhaps the three countries to suffer the biggest knocks in recent days have been Brazil, Turkey and South Africa – all have seen their currencies fall sharply. In two of these countries we have also seen street protests.

Yesterday it was Brazil’s turn to be seen in an unpleasant limelight, as Brazilians took to the street to protest over a multitude of woes – among them the cost of hosting the forthcoming World Cup and the Olympics. Meanwhile credit ratings agency S&P has downgraded Brazil’s sovereign debt outlook – it is still rated as BBB, but now it is under a negative outlook.

Look beneath the surface and the threats to Brazil look worrying indeed.
For one thing, Brazil’s current account has fallen from a small surplus in 2007 to a deficit worth around 2.3 per cent of GDP in 2012. What Brazil needs is more investment, higher domestic savings to partly fund the investment, and a cheaper currency to give exporters an advantage. Alas it also needs much lower inflation. The IMF has forecast Brazilian inflation at 6.1 per cent this year. Interest rates are currently at 8 per cent. To fight off inflation, Brazil needs a strong currency. Do you see the dilemma?

The savings ratio in Brazil is the lowest amongst both the BRICS and in Latin America. Part of the problem is a very generous state pension scheme. This needs to be reduced, but street protestors may not be too happy with that idea.

At face value, government debt in Brazil does not seem so bad. In fact net debt is 35 per cent of GDP. Wouldn’t the US and the UK love it if their equivalent measure was so low? It is just that net debt is made up of gross debt minus assets, and many of the assets that count towards Brazil’s net debt are highly illiquid and risky. Capital Economics reckons a better measure of net debt would be around 50 per cent of GDP.

Brazil is posting a primary budget surplus, meaning government receipts are greater than expenses before interest on debt – but, thank to high interest rates, Brazilian public debt is rising.

And there is a much deeper woe. Commodity prices have been falling of late, and many, including the World Bank for example, are now forecasting a new phase in what’s called the commodity super cycle, as the massive levels of investment into commodities during the up phase of the super cycle leads to greater supply.

The last few years have been characterised by high commodity prices, poor economic performance in the developed world, and cheap money. As we enter a post QE world, it appears we may also enter a phase of lower commodity prices. For Brazil this may be a perfect storm.

This does not mean that the Brazilian growth story is over, but remember markets tend to overreact and Brazil may be one of the big victims of post QE over-reaction.

© Investment & Business News 2013

In 1994, the US Federal Reserve increased interest rates. The eventual effect of this was the Asian crisis of 1997, then the Russian crisis of 1998 and the collapse of LTCM.

History does not repeat itself, once said Mark Twain, but it does rhyme.

Did you hear that? It is the markets rhyming again.

This week the OECD said: “In East Asia…combined nonfinancial corporate and household debt has increased in several countries, reaching 130 per cent of GDP in China and Malaysia in 2012. For the East Asia region as a whole, private debt has increased by 19 percentage points of GDP since 2007, while in Latin America it has increased by 9 percentage points.

Household debt (only by deposit-taking corporations) in Thailand has risen 15 percentage points since 2007 and now stands at 63.4 per cent of GDP. Total household debt is estimated to be about 77 per cent of GDP in Thailand and almost 80 per cent of GDP in Malaysia.”

Countries across the emerging world where private debt is either around 100 per cent of GDP or even greater than this amount – and listed in order of size of debt to GDP – include: Thailand, Panama, St Lucia, Vietnam, Malaysia, South Africa and China.

Three countries stand out with excessive level of foreign debt. They are Papua New Guinea, Latvia and the Seychelles.

The World Bank said: “Public debt levels are high and proving difficult to manage in countries such as Cape Verde, Egypt, Eritrea, Jamaica, Jordan, Lebanon, Pakistan, and Sudan.”

But as markets panic, and emerging market debt becomes the thing they fear most, expect fundamentally strong economies to be punished too. The markets are like that. In times of either euphoria or panic they don’t tend to discriminate between sectors or regions.

That means opportunities may emerge. Watch out for the countries that make up the Pacific Alliance Trade Bloc, some countries within South East Asia, and the so-called TIMPs – Turkey, Indonesia, Mexico, and the Philippines – in particular.

© Investment & Business News 2013