Macro Weekly – Is that Godot in the distance?

by: Han de Jong

  • Confidence data continues to strengthen
  • Asian trade data continues to impress
  • Asian output data following suit
  • Iron ore: the canary in the coal mine?
Macro-Weekly-24-March-2017.pdf (236 KB)

The global economy has been characterised by strengthening confidence data and lagging hard data in recent months. I have been writing about why this was happening for weeks, if not months. Today I want to address several different questions. First, when will confidence data stop rising? Second, will hard data follow and if so when? Third, do we have useful canaries in the coal mine and what is happening to them. Last, I want to briefly talk about what Chinese regulators are doing against bogus divorce

Not an exact science

Business cycle analysis is not an exact science. The way I see it is that it is like a jigsaw puzzle with hundreds of small pieces. An economist’s challenge is to fit the most relevant pieces together to get an idea of what the total picture looks like. You do not need to complete the puzzle to know what the overall picture is.

Confidence data series are important as they are timely and comprehensive. Business confidence in particular provides an excellent impression of the state of the business cycle. As I just mentioned these confidence measures have shown improvement in recent months. In fact, they started improving around the middle of last year, but only gained impressive levels towards the end of last year. What impressed me apart from the level reached recently was that this is a development happening more or less everywhere.

As confidence measures cannot rise without limit, it is reasonable to ask when this remarkable strengthening will stop. It is impossible to know the answer, but at least for now, one can safely say: not yet! Preliminary eurozone Markit PMI data for March show that the march is still continuing. The eurozone manufacturing PMI rose from 55.4 in February to 56.2 in March. This was an impressive rise given the already high level. The only two countries for which individual data has been published, Germany and France, actually both showed an even larger increase. The services sector is also adding further momentum. The services sector PMI rose from 55.5 to 56.5.


Elsewhere, confidence also strengthened further. The Kansas Fed business confidence gauge for example, rose to its highest level ever in March (20, versus 14 in February). The very notable exception was the preliminary Markit PMI data for the US as a whole. The two series, for the manufacturing as well as the services sector, both weakened in March, and for the second consecutive month. It must be said that the competing, and perhaps more authoritative ISM indices ros handsomely in February (the March data is set for release on 3 April and 5 April). So this is something that bears watching

Not yet!

So to the first question I raised, when the rise in the ‘soft’ confidence indices stops, is still a ‘not yet’ for me, but we are closely watching the US data.

Will hard data follow suit?

As I mentioned, hard data on GDP growth, output etc has not been as strong as the confidence data might have suggested. My view has been that this is just a matter of time. The improvement in soft data is so widespread and so strong that something odd has to be going on for the hard data not to fall in line. Businesses around the globe, filling in these surveys, cannot be conspiring together to create a misleading impression. And it cannot be a coincidence either. That just would not make any sense. I am convinced the global economy is gaining momentum in a sustainable and material way.

Trade data in Asia has been the first type of hard data to show a meaningful improvement. Recent numbers are indicating this trend is continuing. Asian trade data covering the first couple of months of the year can be volatile due to the Lunar New Year celebrations which move around on the calendar the rest of the world uses. Nevertheless, all the data points are small pieces of the larger puzzle. And if a bunch of pieces of a puzzle have the same colour, they probably add up to a larger total. Japanese exports were up 11.3% yoy in February, though, admitted, import growth was only 1.2% yoy, compared to 8.5% in January. Taiwanese export orders were up 22.0% yoy in February, orders from Hong Kong and mainland China were particularly strong: +40.5% yoy. Korean trade data for March (the first 20 days) also shows strength. Export growth fell back from 26.2% yoy in February to a still very respectable 14.8%, while growth of imports actually accelerated from 26.0% to 29.4% yoy.

Meanwhile industrial output data in Asia has recently also produced some impressive numbers, although they are very volatile from month to month. Taiwan’s industrial production in February was 10.6% higher than a year earlier, versus 2.8% in January. February industrial production in Singapore was up 12.6% yoy, after a plus of 3.8% in January.

Investment spending

Pieces of the puzzle that are still missing are data points related to corporate investment. For any acceleration of growth to become self-sustaining, stronger corporate capital expenditure is crucial. Some tentative data is pointing in the right direction. The earlier published Philly Fed index of business confidence in the district of the Federal Reserve of Philadelphia contains encouraging signs of a nascent strengthening of investment spending. In February, the subseries on capital expenditure plans for the next six months reached its highest level since 2000. Even in the euphoria of the internet bubble, the series was higher than its current level only during one month. To find a period of sustained higher readings, one must go back to the late 1980s. Still, this is all ‘confidence’, not hard spending or even orders for capital goods.

US durable goods orders rose a stronger than expected 1.7% mom in February, after an upwardly revised increase of 2.3% mom in January. That is starting to look like it. Durable goods is a wide concept however. For a closer look at capital expenditures it is better to look at capital goods. The graph on non-defense capital goods shipments excluding aircraft and parts shows things are improving. A significant decline occurred late 2015 and continued in 2016 until the middle of the year. Since then, shipments (a proxy for corporate investment) are on the rise. The increase since October amounts to 3.2%, or some 10% annualised. That, too, is starting to look like it.

Canary in the coal mine

I have a tendency to get carried away when I see a very convincing flow of data. It would be wrong to just extrapolate positive trends into the future. In my opinion, the improvement in economic momentum globally is caused by a range of factors. An important one of those is the remarkable strength in Chinese import growth. That is really great on the one hand, but on the other, Chinese imports cannot continue to grow at a rate of almost 40% yoy as they currently are, according to the most recent data. A significant slowdown in Chinese imports would be a threat to the positive outlook for the global economy. We therefore need to watch variables that could provide clues on this. One area of remarkable action has been the market for iron ore.

China needs to import most of the iron ore it needs. Along with stronger overall import growth, iron ore prices, which had been coming down for several years until the end of 2015, have recovered since early 2016. After the start of 2017, prices rose further, to a peak late February/early March some 35% higher than year end 2016. But since the beginning of March, iron ore prices have fallen by some 20%. Perhaps this is speculation being squeezed out or just a temporary correction in a very strong market. But this is something that bears watching. The recent drop in iron ore prices could also be the first sign that the efforts by the Chinese policymakers to slow economic activity in certain sectors is starting to bear fruit. A material slowdown in China would have noticeable effects on momentum in the rest of the global economy. We will keep you posted, but for now, things are looking promising for the global economy.

Want a home loan? Get divorced. Regulators respond

The housing market in China is hot. Regulators have taken various measures to cool it down. Minimum down payments for properties in Beijing were raised in September. For a first home, the down payment was raised to 35% and for second homes a range was given of 50-70%. This was not enough and the range for second homes was raised last week to 60-80%. However, couples eager to buy a second property but not having enough funds to make the 50-70% down payment for the second home apparently filed for divorce so they could buy a second property with ‘only’ 35% down payment. The regulators have now responded and brought in a new rule. The down payment of 35% only applies to divorcees who have been divorced for at least 12 months. This seems like a creative, out-of-the-box effort to limit divorce.