Weekend Economists Examine (E)sc(h)atology January 24-26, 2014

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41. The World Got A Major Wake-Up Call From China

http://www.businessinsider.com/chinas-wake-up-call-2014-1

The market declined significantly in the face of the unexpected drop in the Chinese Purchasing Managers Index, following closely on the heels of China’s declining GDP growth and potentially serious credit problems. According to HSBC, China faces a cash shortage in its financial system, creating a dilemma for the Chinese leadership that is focused on rebalancing the economy and reining in credit. The market’s decline was on target, as the disappointments cast doubt on the widespread consensus of recovering global growth. Without the impetus from the Chinese growth engine, the global economy cannot recover and is likely to fall into recession. This is particularly true since U.S. economic growth has still not reached “escape velocity” at a time when the Fed seems set to wind down Quantitative Easing (QE) by year-end.

While the stock market seems to have accepted the prospect of an end to QE, the rationale for the continuation of the bull market has shifted to a belief in accelerating growth in the economy and in corporate earnings, both globally and domestically. For the last few years the market was able to accept tepid growth on the grounds that QE would provide enough liquidity to move stocks ahead. But without the prospect of continuing boosts to liquidity, tepid growth is no longer enough, and, unfortunately, it looks as if that is the most we are likely to get.

Despite the belief of most strategists and economists that the U.S. economy is picking up steam, it is far from evident in the data. Examination of the evidence indicates to us that the economy is still not at a point where we can conclude that growth is now self-sustaining in the new world of Fed tapering.

Where is the so-called consumer resurgence? Year-over-year real retail sales were up 4.1% in December, compared to an increase of 5.2% in the year ended December 2012 and 6.2% in December 2011. Similarly, overall consumer spending increased 1.2% in the year ended November 2013 compared to 2.1% in the year ended November 2012. Anecdotal information from retailors does not indicate much of a pickup, if any, in December. And remember that consumer spending accounts for about 70% of GDP. These results should not be surprising, since real disposable income was up only 0.6% year-over-year in the latest reported period.



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