20 May 2019
The price of crude oil slumped below US$28 per barrel last week. Photo: Bloomberg
The price of crude oil slumped below US$28 per barrel last week. Photo: Bloomberg

Global economy to struggle further amid structural imbalances

The Baltic Dry Index (BDI) is considered a leading economic indicator.

The gauge surpassed 10,000 points twice, in 2007 and 2008, over the last decade, soaring to its peak of nearly 20,000 in May 2008.

However, the BDI plunged to about 700 in late 2008 as a result of the financial crisis.

The benchmark has kept weakening thereafter, slumping to a historical low of 354 points this month, off 97 percent from its peak.

A weak BDI reflects struggling global trade and a weak real economy.

The world’s real economy failed to rebound despite massive quantitative easing (QE).

By contrast, financial assets have enjoyed a boom thanks to abundant market liquidity.

US equity indices all climbed upward and set new highs after the US Federal Reserve launched the first round of QE in late 2008. And loose monetary policy also bolstered bond markets.

Companies got busy with mergers and acquisitions amid booming equity and debt markets.

Financial assets have become increasingly detached from real economic growth.

And policy directions hold sway in equity market movements.

While the stimulus from QE kept inflating the prices of financial assets, global trade posted subdued growth between 2011 and 2015.

Commodity prices are slumping. The price of crude oil slumped below US$28 per barrel, and coal plunged to about US$45 per tonne.

Prices of copper, aluminum and other metals have fallen more than half. Commodity currencies like the Australian dollar and Canadian dollar have suffered.

In the meantime, macroeconomic growth has shown little improvement.

In the United States, the labor market has also disappointed. The labor force participation rate slid to 63 percent from 66 percent in 2008, although the unemployment rate dropped to 5 percent recently from its peak of 9.9 percent.

And the core US consumer price index hovered below 1.5 percent last year.

The manufacturing sector is struggling, as the purchasing managers index and industrial production keep declining.

Rising inventory and excessive capacity are putting pressure on economic restructuring.

The mismatch between population and jobs and the redistribution of wealth in the capital markets have worsened the income gap. The middle class is becoming poorer.

The Fed maintained a monetary easing policy for as long as six years in the hope that low interest rates will stimulate the demand for financing and overall economic growth.

In reality, the demand for financing from the real economy remains subdued, and monetary easing has had limited impact on real economic growth.

By contrast, massive liquidity has inflated the prices of financial assets substantially, and they may undergo a deep correction in the absence of support from the real economy.

Looking into 2016, the Fed might halt its rate hikes or even launch a new round of QE or rate cuts given the unexciting economic recovery in the US.

Printing money won’t save the economy. In fact, monetary stimulus has failed to bolster economic growth, as we’ve seen in many economies over many years.

Apart from ineffective monetary policy, the global economy also grapples with structural imbalances and resource mismatches.

It has yet to come out of the woods.

This article appeared in the Hong Kong Economic Journal on Jan. 27.

Translation by Julie Zhu

[Chinese version中文版]

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General Manager, Head of Investment, Investment Management, Bank of China (Hong Kong)

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