Stimulus Withdrawal

Interesting development here. China is shifting policy from one of growth to that of inflation control due to increasing rates of growth and underlying inflation concerns. This means a paring of stimulus leading to lower lending and an overall tightening of policy.

A popular bearish thesis (including mine) is that rising stock markets and commodity markets have been a result of a tsunami of liquidity and lower interest rates leading to weakening currencies (China and US).

Asian markets sold on the fantastic GDP number on concerns of a shift in policy, further adding to the liquidity induced stock market rally thesis. This could be once again an example also on how gov’t action has dictated market moves in the past.

Expanding on my thesis, I believe that China’s domestic economy cannot pick up the slack that has developed in the export sector despite its large growth over the past couple years. Unless the US consumer (the global end consumer for the last couple of decades) begins to show strong signs of life, global trade flows will not be anywhere near 2007 levels. Eventually we will hear reports of falling production as the export glut continues.

As you can see, while US markets have been rising, the real economy’s positive reaction has been quite muted. Joblessness continues and consumption remains sluggish (though it has been improving a little). Jobs are the lifeblood of any economy. As long as we continue losing jobs instead of creating them, the recovery will be in jeopardy. Given that Americans are very much in debt, consumption would be expected to stay low. A weakening dollar does nothing except increase costs for raw goods. Wages will not grow as labor supply remains very high. Credit is contracting. I just do not see the spark that will lead to higher consumption and thus expansion of the labor force and capital expenditure (mind you we have very low capacity utilization already).

A very simple and idyllic analogy to this whole problem is trying to light a fire with wet wood. You can throw gasoline (stimulus) on the wood and light it up. The flame will be spectacular, but will begin to die down as the gasoline is used up; throw more gasoline, once again the dimmed fire lights up strongly, but again will die down until once again the fire is out. In order to light a fire, you need dry wood, this dry wood equates to a healthy global economic structure. I do not believe we are there yet.

A more cliche analogy is that of taking care of a hangover by boozing all over again, what happens when that high is over (see pic)? Poor guy.

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