Mish's Global Economic Trend Analysis

The Dating Game: Michael Pettis Challenges The Economist to a Bet on China
Obama Budget Defeated 414-0; Obama vs. Ryan Budget Showdown Revisited
Geithner Wants to Throw Still More Taxpayer Dollars Down the Fannie & Freddie Toilet
Eurozone Retail Sales Contract 5th Consecutive Month, Year-on-Year Sales Decline 10th Month
Egyptian Opposition to US Aid Hits 82%; So Why Did Obama Restore Aid, and Why Did Hillary Insist Upon It?
Question of the Day: What is the Commodities Sector Seeing that the Stock Market Doesn't?

The Dating Game: Michael Pettis Challenges The Economist to a Bet on China

Posted: 29 Mar 2012 10:54 PM PDT

The Economist says "China's GDP, measured in nominal dollars, will be the world's largest by 2018". Michael Pettis at China Financial Markets disagrees and says I would like to make a bet with The Economist.

I recently read in The Guardian an article by enthusiastic orientalist Martin Jacques in which he says that The Economist has just predicted that China's GDP, measured in nominal dollars, will be the world's largest by 2018. Earlier estimates, he says had China becoming the largest economy in the world by 2027.

I have always been a little skeptical about the 2027 claim ... given how much we would have to assume about the sustainability of Chinese growth, about the likelihood of current GDP numbers not having been vastly inflated by an over-investment boom, and about the unstable range of political outcomes. It seemed to me to be a prediction about as valuable as the world-beating predictions about the USSR in the 1960s or Japan in the 1980s.

Still, this 2018 prediction deserves I think more than a little questioning — it requires that nominal Chinese GDP growth in dollars outpace nominal US GDP growth by 12% a year.

So I am wondering whether we could set up a friendly bet — not for too large stakes. I would like to bet that by the end of 2018 China will not be the largest economy in the world.

If I win, perhaps The Economist could invite a very cool underground Chinese band of my choice to perform at their next big conference, whereas if I lose I could buy four-year subscriptions (student rates, please) to a group of Peking University freshmen. Everybody would end up feeling pretty pleased with themselves no matter who wins, right? So?

The Dating Game

Inquiring minds are looking at an interactive chart on The Economist in an article called The Dating Game.

AMERICA'S GDP is still roughly twice as big as China's (using market exchange rates). To predict when the gap might be closed, The Economist has updated its interactive chart below with the latest GDP numbers. This allows you to plug in your own assumptions about real GDP growth in China and America, inflation rates and the yuan's exchange rate against the dollar. Over the past ten years, real GDP growth averaged 10.5% a year in China and 1.6% in America; inflation (as measured by the GDP deflator) averaged 4.3% and 2.2% respectively. Since Beijing scrapped its dollar peg in 2005, the yuan has risen by an annual average of just over 4%. Our best guess for the next decade is that annual GDP growth averages 7.75% in China and 2.5% in America, inflation rates average 4% and 1.5%, and the yuan appreciates by 3% a year. Plug in these numbers and China will overtake America in 2018. Alternatively, if China's real growth rate slows to an average of only 5%, then (leaving the other assumptions unchanged) it would not become number one until 2021. What do you think?

Snapshot of The Economist Baseline Assumptions

The interactive graph is too large for my blog, but the above screen snapshot shows The Economist baseline assumptions. To play around with the numbers, click on the above link.

I share a viewpoint with Pettis that The Economist is way too generous in their estimate of real GDP growth for China.

Pettis thinks China will average 3% growth and I already posted I found that number reasonable. As far as Yuan appreciation is concerned, I am not at all convinced the Yuan is undervalued at all, yet I plugged in a nominal 2% annual appreciation.

Assuming a "Real GDP growth" of 3% and Inflation at 4% yields a chart that looks like this.

Snapshot of Mish Baseline Assumptions

Even still, I wonder if the year 2030 is still far too optimistic from the standpoint of China.

I strongly believe peak oil and energy consumption is going to put a serious damper on Chinese growth, and that is on top a necessary and very painful shift away from an entirely unsustainable growth model based on exports, housing, and fixed investment.

I share Pettis' view regarding "inflated GDP numbers, an over-investment boom, and the unstable range of political outcomes" adding my own energy concerns and yuan valuation concerns on top of it all.

Thoughts on Chinese Growth

March 23, 2012: Excellent Document on Decoupling and Global Supply Chains by ECRI; Why BRIC, and U.S. Decoupling Won't Happen
February 29, 2012: World Bank Warns of Economic Crisis in China; Only 3% Growth for Decade Says Michael Pettis
September 21, 2011: Misleading Indicators - China's Growth Won't Last; Chanos on Chinese Property Bubble and Growth
August 22, 2011: Michael Pettis on Long-Term Outlook for China, Europe, and the World; 12 Global Predictions

I find the arguments by Pettis, the ECRI, and Chanos compelling. Add to that the restraint of peak oil coupled with potential political instability and the proper conclusion is that long-term Chinese growth of 7.5% is Fantasyland material.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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Obama Budget Defeated 414-0; Obama vs. Ryan Budget Showdown Revisited

Posted: 29 Mar 2012 01:01 PM PDT

Not a single Democrat endorsed the budget proposed by president Obama. The scorecards reads as follows Obama budget defeated 414-0.

President Obama's budget was defeated 414-0 in the House late Wednesday, in a vote Republicans arranged to try to embarrass him and shelve his plan for the rest of the year.

The vote came as the House worked its way through its own fiscal year 2013 budget proposal, written by Budget Committee Chairman Paul D. Ryan. Republicans wrote an amendment that contained Mr. Obama's budget and offered it on the floor, daring Democrats to back the plan, which calls for major tax increases and yet still adds trillions of dollars to the deficit over the next decade.

But no Democrats accepted the challenge.

Senate Democrats have said they will not bring a budget to the floor this year, though Republicans in the chamber have talked about trying to at least force a vote on Mr. Obama's plan there as well.

Last year, when they forced a vote on his 2012 budget, it was defeated 97-0.

National Debt vs. Public Debt

In my post Obama vs. Ryan: Budget Showdown - Deficit and Total Debt Projections Through 2021 - Interactive map one reader caught a mislabeling of public debt as national debt.

Mislabeling is corrected. Here is the Budget Showdown once again, this time with the corrected word change.

Note: Tableau has a server issue right now and the interactive buttons may not be working properly. This should be corrected shortly.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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Geithner Wants to Throw Still More Taxpayer Dollars Down the Fannie & Freddie Toilet

Posted: 29 Mar 2012 11:29 AM PDT

Not satisfied with wasting close to $200 billion of taxpayer dollars bailing out holders of Fannie and Freddie Bonds (notably PIMCO and China), Geithner is back at it with another proposal sure to cost US taxpayers plenty if adopted.

The proposal this time is for taxpayers to pick up 63% of the cost of mortgage principal reductions. Geithner made the offer to Edward J. DeMarco, Fannie Mae and Freddie Mac's overseer.

Bloomberg reports Geithner's Math Puzzle Beyond Numbers for DeMarco

Geithner, the U.S. Treasury secretary, is offering new incentive payments to the two government-supported mortgage financiers if DeMarco drops his opposition to principal reductions for homeowners whose loans are backed by the companies.

It's not just a question of whether the numbers add up, DeMarco said in an interview at Bloomberg's headquarters in New York yesterday.

"We've got to consider all of the ramifications of principal forgiveness relative to other tools."

Proponents from Martin Feldstein, a chief economic adviser to the late President Ronald Reagan, to activist groups such as MoveOn.org have called on DeMarco to allow writedowns. Congressional Democrats including Rep. Elijah Cummings of Maryland have accused him of blocking a recovery and called on him to resign.

FHFA is not yet convinced principal reductions are the best answer, DeMarco said, in part because the agency still must examine how offering loan writedowns would affect the behavior of underwater borrowers who are still making their payments on time. Until now, the agency hasn't specifically focused on the issue of whether loan forgiveness would create a moral hazard by providing an incentive for borrowers to default. That's because without the extra incentives offered by the government this year, debt forgiveness was more costly than forbearance as most underwater borrowers would stay in their homes if given a low enough payment, according to its analysis.

Violating Legal Responsibility

The U.S. government has spent $190 billion to shore up the companies since they were taken into federal conservatorship in 2008 after their investments in risky loans soured. DeMarco said adding to the firms' costs would be a violation of his legal responsibility to restore them to financial health.

Using principal forbearance instead of forgiveness so far has been better for taxpayers, DeMarco said. Forbearance reduces monthly payments while requiring borrowers to pay back the full amount of the loan when they sell the house.

"If the borrower is successful on the modification, allows them to stay in their house and they stay in their house and start making mortgage payments, the taxpayer gets to share in the upside of that borrower's success," DeMarco said in the Bloomberg Television interview. "If we forgive the principal up front and the borrower is successful, that upside all goes to the borrower and is not shared with the taxpayer."

Vote Buying

This is not about doing what's right for taxpayers. It's about doing what's right to help Obama's reelection chances. Of course Hedge Funds and PIMCO like the buyback idea because it immediately puts a bid in for Fannie and Freddie bonds they hold.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
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Eurozone Retail Sales Contract 5th Consecutive Month, Year-on-Year Sales Decline 10th Month

Posted: 29 Mar 2012 09:28 AM PDT

Eurozone retail sales fell only slightly this month, but it was the 5th consecutive month, and the worst quarter since the 1st quarter of 2010.

Please consider Markit Eurozone Retail PMI® March 2012.

Retail sales in the Eurozone fell only marginally at the end of the first quarter, according to Markit's latest PMI® surveys. The average rate of decline over the first quarter matched that seen over the final three months of 2011, which was the worst quarter since Q1 2010. The survey data again highlighted marked disparity between growth in Germany and falling sales at Italian retailers, while sales in France were again broadly flat.

The Eurozone Retail PMI is a single-figure indicator of changes in the value of sales at retailers. The PMI is adjusted for seasonal factors, and any figure greater than 50.0 signals growth compared with one month earlier. The PMI remained below 50.0 in March, signalling a fifth successive monthly drop in sales revenues. Sales have fallen ten times in the past 11 months. But the index rose for the second successive survey, recovering further ground from January's 35-month low of 42.9 to post 49.1. The latest figure signalled only a marginal decline in sales revenues. The latest PMI figure suggested that the pace of decline in retail sales as measured by the EU's statistical office Eurostat (on a three-month-on-three-month basis) will ease in the coming months.

Eurozone retail PMI figures are based on responses from the three largest euro area economies. March data signalled that the Italian retail sector remained mired in a steep downturn, posting a thirteenth successive monthly drop in retail sales. The rate of contraction was slower than January's record low, but still marked nonetheless.

German retail sales continued to rise in March, extending the current sequence of growth to 18 months. This is the longest period of expansion since monthly sales data were first collected in January 2004. The rate of growth slowed since February, but was broadly in line with the average for 2011.

Year-on-Year Sales Decline 10th Month

Retail sales in the Eurozone continued to fall on an annual basis in March. Year-on-year sales have fallen for the past ten months, the longest sequence since that registered from June 2008 to March 2009. Moreover, the rate of decline accelerated since February, reflecting a sharp reversal in the year-on-year sales trend in France. German retail sales registered the fourth-fastest annual increase in sales since the series started, but Italy posted another substantial decline.

Other indicators from the latest surveys underlined the ongoing weakness of market conditions in the retail sector. The value of purchasing activity fell for the eighth month running, while retail employment was broadly flat for the second successive month. Retailers' gross margins remained under substantial downward pressure, and original sales plans were missed again.

Commenting on the retail PMI data, Trevor Balchin, senior economist at Markit and author of the Eurozone Retail PMI, said:

"Across the Eurozone, retail sales fell only marginally during the month but were down sharply compared with one year ago. Compounding retailers' difficulties, wholesales prices continued to rise at a steep rate, squeezing margins which have already been under intense pressure from the need to offer discounts to stimulate sales."

Markit Clings to Hope

Once again Markit clings to every bit of hope that things are about to get better. Here is the key sentence: "The latest PMI figure suggested that the pace of decline in retail sales as measured by the EU's statistical office Eurostat (on a three-month-on-three-month basis) will ease in the coming months."

Why?

Why are sales in Europe going to get better? Once again I propose it is far more likely for German sales to slip as its vaunted export machine takes a hard tumble.

I said the same thing two months ago regarding Manufacturing PMI when Markit was hoping Germany could keep Europe out of recession.

The no-recession idea bit the dust on March 22 as noted in "Eurozone Slides Back Into Recession" Says Markit PMI News Release; Sharp Decline in German Export Business; Misguided Decoupling Theories.

Markit then shifted its stance from hoping for no recession in the Eurozone, to hoping for no recession in Germany and I responded with:

What's with the Markit "Pollyanna" Forecasts?

This month Markit is talking about Germany avoiding a recession. Even more amazingly, just last month Commenting on the flash PMI data, Chris Williamson, Chief Economist at Markit said:

"A retreat back below the 50.0 no-change level for the Eurozone PMI is a disappointment, and highlights the ongoing risk that the region may be sliding back into recession.

That "risk of recession" became a sure thing as Markit threw in the towel on non-recession hopes as noted above.

On February 22, in Eurozone PMI "Worse Than Expected" and Back in Contraction; Expect German-Periphery Divergence to Resolve to the Downside for Germany I stated:

Expect German-Periphery Divergence to Resolve to the Downside for Germany

The idea that Europe can avoid a recession is complete silliness. Europe is clearly in a recession already.

The amazing thing is things have not deteriorated more than they have. Unlike the Chief Economist at Markit, I expect the divergence to resolve to the downside for Germany, not for the divergence to continue for some time. Given conditions in Europe and Asia, the odds that Germany is immune from the global slowdown are essentially zero.

Sure enough, German exports took a dive in March, and it's reasonable to assume another dive in April.

Conditions in Europe are deteriorating badly, and a general strike looms in Italy. Spain, Greece, and Portugal are basket cases. The odds that weakness does not spill over into Germany are near-zero.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Egyptian Opposition to US Aid Hits 82%; So Why Did Obama Restore Aid, and Why Did Hillary Insist Upon It?

Posted: 29 Mar 2012 08:26 AM PDT

A Gallup Poll in Egypt shows 82% of Egyptians Do Not Want US Aid.

Egyptians' opposition to U.S. economic aid continued to climb in early 2012. More than eight in 10 Egyptians in February said they opposed U.S. economic aid, up 11 percentage points since December and up 30 points since April 2011 when Gallup first posed the question.

Poll Question

So Why Did Obama Restore Aid?

The New York Times reports Once Imperiled, U.S. Aid to Egypt Is Restored.

An intense debate within the Obama administration over resuming military assistance to Egypt, which in the end was approved Friday by Secretary of State Hillary Rodham Clinton, turned in part on a question that had nothing to do with democratic progress in Egypt but rather with American jobs at home.

A delay or a cut in $1.3 billion in military aid to Egypt risked breaking existing contracts with American arms manufacturers that could have shut down production lines in the middle of President Obama's re-election campaign and involved significant financial penalties, according to officials involved in the debate.

Since the Pentagon buys weapons for foreign armed forces like Egypt's, the cost of those penalties — which one senior official said could have reached $2 billion if all sales had been halted — would have been borne by the American taxpayer, not Egypt's ruling generals.

The companies involved include Lockheed Martin, which is scheduled to ship the first of a batch of 20 new F-16 fighter jets next month, and General Dynamics, which last year signed a $395 million contract to deliver component parts for 125 Abrams M1A1 tanks that are being assembled at a plant in Egypt.

Mrs. Clinton's decision to resume military assistance, which has been a foundation of United States-Egyptian relations for over three decades, sidestepped a new Congressional requirement that for the first time directly links arms sales to Egypt's protection of basic freedoms. No new military aid had been delivered since the fiscal year began last October, and Egypt's military has all but exhausted funds approved in previous years.

Mrs. Clinton's decision provoked sharp criticism from lawmakers across the political spectrum, as well as human rights organizations. Senator Rand Paul, Republican of Kentucky, criticized it as "beyond the pale."

Referring to Egypt's recent decision to prosecute four American-financed international advocacy organizations, Mr. Paul added, "It sets a precedent that America will not punish its aggressors but instead give them billions of our taxpayers' dollars."

The M1A1 components are built in factories in Alabama, Florida, Michigan, Ohio and Pennsylvania, several of them battleground states in an election that has largely focused on jobs. Because the United States Army plans to stop buying new tanks by 2014, continued production relies on foreign contracts, often paid for by American taxpayers as military assistance.

Senator Patrick J. Leahy, Democrat of Vermont, who added the certification requirements to legislation authorizing military aid to Egypt, called the decision to waive them regrettable, and the resumption of aid "business as usual."

Let's piss away billions of dollars on aid to countries that don't even want it.

Note that Mrs. Clinton waived a requirement that she certify Egypt's protection of human rights as a condition of aid.

Yes indeed, this is "business as usual", so much so that even Democrat senators are complaining about it.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

Question of the Day: What is the Commodities Sector Seeing that the Stock Market Doesn't?

Posted: 29 Mar 2012 12:26 AM PDT

Please consider a series of chart my friend "BC" put together of various indices vs. the Morgan Stanley Commodity Related Equity Index ($CRX).

$SPX vs. $CRX

click on any chart for a sharper image

$CYC vs. $CRX

$TRAN vs. $CRX

$DJUSRR vs. $CRX

What is the Commodities Sector Seeing that the Stock Market Doesn't?

The answer from my friend Pater Tenebrarum who also saw these charts is "the coming economic bust in China - which has likely already begun."

That idea is in-line with several of my recent posts ...

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com
Click Here To Scroll Thru My Recent Post List

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Mish's Global Economic Trend Analysis

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