November 26, 2007 | posted by Michael Baxter in IABN | comments (0) |

Two pieces of news broke on the UK housing market over the last few days and its difficult to think of two words to better sum up the findings than: “Oh, dear.” The national media has awoken to it all too with, for example, the BBC trying to tell the story but, once again, “Oh dear” seems to be the most tactful way we can describe the BEEB coverage.

First, here is what happened. This morning, Hometrack said that it has house prices down 0.2 per cent in November. This follows a fall of 0.1 per cent last month, which followed two months of zero inflation and then prior to that one month of price rises of just 0.1 per cent. Mind you, prices went up by 0.3 per cent in June of this year, so prices today are still up a tiny bit up on the level from six months ago.

During the last year, Hometrack has recorded monthly house price inflation as follows: 0.6 per cent last November, then 0.3, 0.4, 0.7, 0.8, 0.7, 0.6, 0.3, 0,1, 0, 0, -0.1, and then -0.2 in November just gone. In short, if we have many months like the last few, annual house price inflation will soon be negative.

And then, looking all the way back to Friday, The British Banking Association revealed a tale of woe. October saw just 44,105 mortgages approved for house purchase, 37.4 per cent down on a year ago, and 54,881 mortgages approved for re-mortgaging, 17.1 per cent down on a year ago. In fact, house purchase approval numbers fell to a record low.

As you know, the fact that the UK housing market is in difficulty has fallen within the media’s radar. Up to now, however, most of the coverage out there has missed the point.

Take as an example, the BBC on Saturday morning. In a report, it put the current decline in the housing market down to three things: The credit crunch, higher interest rates, and HIPs. It also quoted Jeremy Leaf at the Royal Institution of Chartered Surveyors talking about confidences, saying confidence can take a long time to build, but goes away quickly. The report also mentioned how the Nationwide is now predicting that house price growth will be zero next year, but said others are “less gloomy.”

But what we found shocking was what the report did not say. It did not point out that perhaps the main reason for the decline in market conditions is that house prices are too high.

It talked about high interest rates, but omitted to mention that actually interest rates are not that high at all, it’s just that they are higher than they were when compared with the recent period of ultra-low interest rates.

It said “others are less gloomy” than the Nationwide, but omitted to mention that others, such as Capital Economics, the IMF and Alan Greenspan, are a good deal more pessimistic.

Above all, it got caught up in the confidence thing, and overlooked that perhaps the real reason for the difficulties now is too much confidence over many years, confidence which was in part whooped-up by the very media now talking about it. The BBC, with its glut of programs on the housing market, all of which seem to be based on the implicit belief that house prices only ever go up (we have actually heard a BBC reporter say those exact words), has sat at the vanguard of creating what to our way of thinking is an unsustainable property bubble.

The media is quick to criticise when things go wrong. Quick to call for tighter regulation, quick to point out irresponsible lending and selling. So when will the BBC launch a watchdog investigation into its coverage of the property market?

November 23, 2007 | posted by Michael Baxter in IABN | comments (0) |

Inflation in China is surging, leaping to 6.5 per cent recently. Some say it’s just down to blue ear disease in pigs, and once this goes, prices will immediately fall back. Others say the problem is deeper than that, and that the economy has been growing too fast.

Actually, there is good reason to think the former theory is right. The savings rate in China is running at 25 per cent, investment has been soaring faster than consumption, so there would be appear to be plenty of spare capacity out there.

Sustained inflation occurs when demand is greater than supply, and this is simply not the case in China.

If the Chinese consumers did start to spend more, and China became a bigger importer, it would help the global economy too.

But Capital Economics reckons that the current rate of inflation could also be helping to re-balance the Chinese economy anyway.

Mark Williams, International Economist at Capital Economics, says, “Higher prices have helped many food producers: real incomes are now growing faster in rural areas than in the cities. Families also seem to have reacted to higher food bills by running down their savings rather than cutting back elsewhere. In other words, the current bout of inflation is not harming consumption and may even be helping to reduce inequality, which should give a helpful nudge to the long-awaited rebalancing of the economy.”

November 23, 2007 | posted by Michael Baxter in IABN | comments (0) |

Germany has done it the hard way. While the US has boomed on the back of consumer spending, Germany has done it the old-fashioned way. It has grown through producing things.

It has not been easy, and earlier this decade it hit recession, twice.

But, at last, the cost of reunification is as good as paid. This year, Germany is expected to have a budget surplus, government debt as a percentage of GDP has fallen right down and its balance of payments continues to enjoy a very healthy surplus.

What is more, while all around stock markets have been in crisis, the German DAX has done alright. Sure, it is down on the year high, but only by about 6 per cent, much less than in the US, UK or Japan. Furthermore, the index is now up about 15 per cent on the start of the year, so all in all, not a bad performance.

And now the latest figures on its GDP are out. In the third quarter of this year, Germany grew by 0.7 per cent, taking its overall growth to 2.4 per cent.

And at last, domestic demand is rising. In the second quarter, domestic demand slumped by 0.9 per cent, but the good news, in the quarter just gone, it grew by 0.9 per cent, making up for the previous loss.

But it does seem that next year the baton needs to be passed to the German consumer. Recent evidence suggests that German manufacturing is slowing, and with the euro so strong against the dollar, a slowdown in export growth is likely.

But Jennifer McKeown, European economist at Capital Economics, said, “On balance, though, with the labour market still in very good health, we expect only a moderate slowdown in overall GDP, from 2.7 per cent this year to around 2.2 per cent in 2008.

November 23, 2007 | posted by Michael Baxter in IABN | comments (0) |

Back in 2005, our Gordon contributed to the debate. While he was still having to put up with the ignominy of being the UK’s number two, but was at least revered as a man with the golden touch, GB did some sums.

In 1980, reckoned the previous Scottish Chancellor, the EU accounted for 26 per cent of world output. But by 2003 this has fallen to 22 per cent, and by 2015 it will be down to 17 per cent. All figures are at Purchasing Power Parity, by the way.

China’s share of world output was just 3 per cent in 1980, and by 2015 is expected to account for 19 per cent, and in that year it is expected to tie with the US for being the joint largest contributor to global output.

November 23, 2007 | posted by Michael Baxter in IABN | comments (0) |

They used to say that if the US sneezes, the rest of the world catches a cold. So what happens then, when the US is confined to bed with a hot water bottle, a thermometer sticking out of its mouth, and wrapped up in a warm blanket? If there is any truth in that old adage, you would expect the rest of the world to be taking up beds in intensive care. And yet, it’s not like that. A few months ago, and after the credit crunch was kicked off, the IMF projected global economic growth next year to be 4.2 per cent. Okay, that’s down on last year’s meteoric pace of 5.4 per cent, but, nevertheless, is phenomenal expansion by historical standards.

We won’t be dishing out any prizes to anyone who can guess the reason. Thanks to booming China, and to a lesser extent the other BRIC countries, the world is less-reliant on the US today. A few years ago, if someone had told you that developing countries will propel the world forward, no doubt you would have asked your informant if they were feeling alright? So the world has changed, dramatically. But then again, has it really?

If the global economy no longer relies on the US, why is that in the wake of bad news from the US, stock markets across the world have been falling? Why is it, that as of yesterday, the FTSE 100 had suffered a bigger percentage drop from its year high, than the Dow Jones? Why is that in Japan, the Topix is now down by 20 per cent from the year high, twice the fall seen in the US? Remember that, while it’s true that China is now contributing more to global growth than the US, China still relies on trade with the US. If the US consumer lies behind China’s growth, how will the world cope if US consumers retire to their bedchamber?

It’s an important question, because if the US does fall into recession when the rest of the world is still reliant on Uncle Sam, the global decline may be worse that the estimates suggest, and this in turn could make it much harder for the US to recover. After all, right now, the bullish assumption is based on the belief that the falling dollar will mean Uncle Sam will be able to export its way out of trouble. But, how can the world cope as the US tries to turn its huge trade deficit into a surplus?

In 2006, global GDP was around $48 trillion, or so say statistics from the IMF. Of that total the US contributed just over $13 trillion, or 27 per cent of the total. The EU actually notched up slightly more than that, with 30 per cent of GDP but remember, in recent years, economic growth in the EU compared to the US has been anaemic. Japan’s GDP was $4.3 trillion, Germany’s $2.9 trillion, then comes China with $2.6 trillion, followed by the UK with $2.4, France with $2.2, and Italy with $1.8. The next BRIC county was Brazil, with just over $1 trillion. Russia’s economy is eleventh, and India, the world’s second most populous country was in 13th place, with a GDP of just under $0.9 trillion.

Now, it is worth bearing in mind that these figures are in dollars, based on the exchange rate at the end of last year. So the falling down would have impacted on this data. Also bear in mind that GDP measured by the official exchange rate can be a tad misleading, since goods and services in some countries are a lot cheaper. So just because GDP in one country is a lot lower, it does not mean that country is really that much poorer. For this reason, some economists prefer to look at PPP: Purchasing Power Parity, which compares economies by the true cost of goods and services.

But, then again, if we are to look at the importance of the US on the world stage, we have no choice but to compare GDP measured at the exchange rate.

But if instead we look at trade, a slightly different picture emerges. In 2006, the world’s largest exporter of merchandise was Germany, with a 9.2 per cent share, the US was in second place, and China third. The UK was languishing in a sorrowful 7th place with just a 3.8 per cent share. More recent figures from the WTO suggest China is now the world’s largest exporter.

But, actually, that is not the key. The key lies with US imports. In 2006, no less than 10.5 per cent of global imports making up merchandise trade came from the US, while the UK contributed 4.9 per cent. Or to put it another way, US exported $1 trillion worth of merchandise goods, but imported $1,920 billion. At least that’s what figures from the World Trade Organisation (WTO) say.

When we drill down and look at China we find that 21 per cent of its exports in 2006 came from the US.

Japan, on the other hand, saw 22.8 per cent of its exports going to the US and 14.3 per cent to Japan. So a US slowdown would hit Japan hard, but perhaps the key will be the extent to which a US slowdown damages the growth of Japan’s exports to China.

As for Germany, actually it still relies on exporting to its European neighbours, with France its biggest trading partner. The US only makes up 8.6 per cent of Germany’s exports. It’s a similar story in France, Italy and Spain, where the US typically makes up between 4 and 8 per cent of exports. In fact, France exports more to Germany, Spain, Italy, the UK and Belgium then it does to the UK.

But, in the UK, there is a bigger problem. The US buys more British goods than any other country, making up 13.9 per cent of our exports.

There is always a drip-down effect with these things. A slowdown in the US will affect countries like China, Japan, Brazil, India and the UK especially. If these countries slow, how will that affect their trading partners. The question then is how will these countries adjust?

Don’t forget we have not been here before. The IMF and OECD might think they know what global growth will be next year, and the year after, but surprises are always lurking.

The world factbook Central Intelligence Agency

List of countries by GDP wikipedia

US China trade statistics US China Business School

China overtakes US Finfacts

November 22, 2007 | posted by Michael Baxter in IABN | comments (0) |

When that Northern Rock thing first erupted, feathers were ruffled. For one hawkish economist, the ruffling was a little worse. For Sir John Gieve, Deputy Governor at the Bank of England, was the man at the bank responsible for financial stability, and when the treasury select committee got its carving knives out recently to go over the whys and wherefores of the whole affair, Sir John got a lot of the flak.

Maybe that’s why he appeared to morph earlier this month from hawk to dove. For Sir John, along with fellow MPC member, David Blanchflower, voted for the Bank of England Monetary Policy Committee to lower interest rates. As you will no doubt recall, rates were left on hold.

But the big question is this: what clues can we gather from the minutes of that meeting that were released yesterday? Can we read anything into the fact that normal dove, and Sir John’s fellow deputy governor, Rachel Lomax seemed to cross over into the hawk camp voting to keep interest rates on hold?

Well, actually, the minutes seemed to drop a pretty big hint that rates will be coming down very soon. They stated “since a reduction in Bank Rate was not widely expected this month, there was a danger that an immediate cut would be misinterpreted, precipitating an unwarranted further fall in the market yield curve.”

In other words, the MPC feared that an unexpected rate cut would induced panic. Instead, they want to wait until markets expect a cut, and then comply with the wishes of investors. Since markets do seem to expect a rate cut soon, it would appear the odds of a rate cut next month have risen enormously.

The Minutes dropped another big hint too: “The central projection in the Inflation Report was conditioned on a market path which included cumulative interest rate reductions of 50 basis points over the next 12 months and a little more thereafter.” So that’s two quarter of a per cent cuts, and then one more, some time later.

It seems that Good King Mervyn, when he next looks upon the Feast of Stephen from an MPC meeting is likely to announce an early Christmas present: a rate cut.

Even so, with oil up high, with food inflation up, with manufacturers upping prices, it does seem that yesterday’s minutes revealed a change in tack by the Bank of England, and that it is planning to set aside worries about inflation, and just focus on avoiding an economic slowdown, which by the way is contrary to what it is supposed to do. But then again, it seems likely it would only make such a decision to de-prioritise inflation under political pressure, and since the bank is independent, and would never be influenced by the government in the midst of their semi-annis horribilis, that analysis must be wrong.

November 22, 2007 | posted by Michael Baxter in IABN | comments (0) |

As you know, there are many spots across the globe right now where it all looks a bit dodgy. But one of the economies that seems to be most in danger of a sudden and abrupt slowdown, maybe recession, is Spain.

As for the Spanish property market, predictions of gloom have been doing the rounds well before talk of a sub-prime crisis.

Spain’s problem is this. It’s been too successful. Growth has been topping 4 per cent per year and house prices have been soaring, but then so too has the balance of payments deficit, which as a percentage of GDP is much worse even than in the US. In fact the deficit on the US current account is 5.7 per cent of GDP, but the Spanish deficit is 9 per cent. To put that in context, the UK’s deficit is running at 3.2 per cent of GDP.

In Spain, debt is high too, according to figures recently published by the National Institute of Economics and Social Research, Spain’s household debt to income ratio is 1.01. Okay, it’s even worse than that in Japan, the UK and US, but then again it’s much lower in France, Germany and Italy, and it seems clear that Spanish consumers are decidedly overstretched.

And then, yesterday, the latest official figures were out. Quarter on quarter growth is down to 0.7 per cent, compared to 0.9 per cent last quarter and 1 per cent the quarter before that.

But more to the point, in the quarter just gone, government spending shot up and accounted for 0.5 per cent of that 0.7 per cent rise.

The Spanish property market has seen house price inflation fall quite rapidly, and many fear falls in prices are a real possibility soon.

Jennifer McKeown, European Economist at Capital Economics said, “Spanish GDP growth is set to slow relatively sharply, to around 2.5% next year from 3.8% or thereabouts in 2007. While this would leave the economy far from recession, the risks of a harder landing are rising.”

November 22, 2007 | posted by Michael Baxter in IABN | comments (0) |

When is no hope a good thing? Answer: when, by hope, you refer to a company’s p/e ratio.

Those clever economists at Capital Economics got their slide rules out yesterday, and came up with some pretty interesting findings.

First, let’s consider hope. An analyst does not look at hope the way the rest of us do; he or she instead measures hope quite precisely, by taking a company’s projected profit, and dividing it into the company’s valuation.

And here is the good news. Right now, the average hope, or p/e ratio, of FTSE 100 companies is just 11.1. This compares to an average this year of 12.5, a five-year average of 14.7, a ten-year average of 18, and a 30-year average of 14.1

In short, right now, p/e ratios are low. Very low. Despite shares climbing by 50 per cent over the last three years or so, average p/e ratios have fallen. This differs dramatically from the late ‘90s, when p/e ratios took off faster than an Airbus was supposed to.

Dividends are not half bad either. The average dividend yield is 3.3 per cent; that’s higher than the year average, the five-year average and the ten-year average. Interestingly, the 30-year average is higher, however, but then bear in mind that interest rates are much lower these days, so you would expect dividends to be low too.

Actually, the 30-year average for dividends is 4.1 per cent. Bear in mind, however, that inflation is much lower today. In fact the UK RPIX index is currently growing by 3.1 per cent, so the dividend yield is just a fraction down on that. But over the last 30 years, the RPIX inflation rate has averaged 5.4 per cent, so for most of that time average dividends were a lot lower than inflation.

November 22, 2007 | posted by Michael Baxter in IABN | comments (0) |

Who needs Nostradamus when you have got Henry Ford? You will recall, Mr. Ford once said, “You can have any colour you like, so long as it’s black.” Back then, the roads were teeming with black Fords, today it’s economic metaphors that are teeming with that colour (is black actually a colour? Ed.) There was Black Monday, also known as Monday, October 19, 1987, when the Dow Jones crashed. There was Black Wednesday, also known as Wednesday, 16 September, 1992 when the pound was booted out of the ERM, like England exiting from the European Championship, and then there’s Black Friday, which right now, refers to Friday, November 23.

It promises to be a big occasion. Yesterday was a big day too. Once again markets did a tumble. Well, there’s no news there. Markets have been dancing up and down the contours of hope and dismay like contestants in Strictly Come Dancing, all year long. In fact this time the Dow fell by 211 points, taking the drop seen in the last five days to 508 points, and also seeing the index fall to 9.6 per cent below the all-time high set on October 9. It also fell, by the way, below the previous nadir seen on August 16.

As for the FTSE 100, it was down 155 points, 9.8 per cent below the year-high set on July 2, although, interestingly, the index has not fallen to the depths it reached during August.

Meanwhile, yesterday, in Japan, the Topix fell 2.1 per cent, and, more to the point, to a level which was 20 per cent below its 2007 peak. According to Bloomberg, this means this particular market is now bearish.

This time, the bogey man was a man usually seen as a hero. US Treasury Secretary Henry Paulson, normally one of those US optimistic types we wrote about yesterday, was reported in the Wednesday edition of the Wall Street Journal as saying that he expected the potential number of mortgage defaults next year to be “significantly bigger” than this year.

The OECD didn’t help either. It warned that the total losses in the markets for collateralised debt obligations could come in at $300 billion. Now that is significant, because recently the IMF said that sub-prime losses could reach $200 billion, and on that basis predicted US growth next year of 1.9 per cent. If the OEDC is right, then the IMF prediction would appear to be optimistic.

Now bear in mind that a recession is defined as two quarters of successive negative growth, so, if growth for the year falls much lower than 1.9 per cent, there is a good chance two of the quarters will be negative.

So all eyes turn to today, will the US do another tumble? Well, it’s not often we can speak with certainty, but we can guarantee that markets will not fall in the US today, for this reason: it’s Thanksgiving Day, and they are closed. As for the day back, well, the markets only trade for a half day, and with many traders having a day of rest, volume tends to be pretty low, meaning that the chances of a big fall are greater.

The day after Thanksgiving Day is also known as Black Friday. So, if everything is normal tomorrow in the US, then it’s Black Friday. If markets do an even bigger fall than normal, then it’s Really Black Friday. As Mr Ford said, “You can have any colour you like…”

November 21, 2007 | posted by Michael Baxter in IABN | comments (0) |

Two years ago, the ITEM Club from Ernst and Young peered into what at the time was the future, and made predictions on how it thought inflation and growth would be affected by the price of oil.

It looked at three scenarios. Scenario 1 was oil of around $50 a barrel; then it looked at the more-alarmist possibility of oil being priced at $65, and finally, for the sake of completeness, the highly unlikely doomsday-type scenario of oil breaching $100.

Its conclusion: if oil hit $100, inflation would rise to 4 per cent in 2006 and then fall back to 3.5 per cent in 2007. Whereas, if oil was priced at $50, it expected inflation to be bang on the 2 per cent target.

As for growth, if oil reached $100 it expected economic growth to be around a full percentage point less than if it was priced at $50.

But today, of course, that doomsday scenario seems a lot more likely. But, remember, oil has only been above $90 for the last few weeks. In fact since the ITEM club made its predictions, it has averaged around $65, and yet growth has been higher than the ITEM club expected under those circumstances, and inflation lower.

The UK has in part been insulated from the high price of oil by the falling dollar. But even so, at the exchange rate at time of writing, $98.96, oil costs £48. Back in July 2006, when it last spiked, there were a lot less dollars to the pound, but even so, oil was still a lot cheaper. On the 17 July 2006 the black stuff hit a then-record of $78.10. At the time there were 1.84 dollars to the pound, meaning oil was costing £42.40.

These days oil is not quite so important for the economy.

According to the Energy Information Administration, in 2006, energy took a 9 per cent bite out of GDP in the US, but in 1981, energy took up 14 per cent of GDP. According to David Wyss, chief economist at Standard & Poor’s, in 1980, the average American had to work 105 minutes to pay for enough oil to travel 100 miles. By 2006, he only had to work for 52 minutes.

Of course some believe oil will go crashing down, like it always used to. We are not so sure. Demand from the likes of China is set to continue to grow, while there have not been any major oil finds since the 1970s. The peaks and troughs of oil used to be determined by the business cycle. Now the high price of oil is surely down to the combination of permanent rises in demand, while there is less and less oil out there to be exploited.

In the medium-term, however, alternatives to oil could yet come on stream, which in turn will reduce demand, and who knows, maybe save the planet too. But right now, the only alternative to oil in common use, biofuel, seems to fail on many counts. For one thing it’s not very environmentally friendly. In Brazil, fuel grown from sugar cane often comes at the expense of deforestation. While fuel created from corn, as is popular in the US, requires almost as much energy to be created as it saves when used.

In any case, when food crops are used for fuel, the result is higher food prices and, right now, not only is oil up in price, so too is food.