The perfect riposte to Monday’s equity market rally has arrived: the latest Global Strategy Weekly from Soc Gen’s Albert Edwards.
And while the headline rather gives things away, here are some selected highlights for all the bears out there.
(NB Edwards has just returned from a two week trip to Asia).
I think the next 18 months will see major ructions in the financial markets.The consequences of a double-dip back into recession next year require some lateral thinking. If the carry trade unwind results in a turbo-charged dollar, any collapse in the China economic bubble will be doubly destructive to commodity prices. A surging dollar, coupled with China moving into sustained trade deficit through 2010, could prompt the Chinese authorities to acquiesce to US pressure for a more flexible exchange rate. But why does no-one expect a yuan devaluation?
Imagine we are in the middle of 2010. Imagine the western economies (plus Japan) are sliding back into recession as the lack of additional fiscal stimulus reduces 2010 GDP growth back to its weak underlying rate (deficits need to widen to boost the economy). Imagine also that in 2010 the Chinese economy is beginning to roll over. China’s vulnerability is perhaps far higher than the bulls suppose, having engaged in the same sort of recession defying stimulus as the US in 2003. The US authorities in no way thought gently tapping the monetary brakes in 2005/6 would end in the biggest economic and market crashes since the Great Depression. Personally, I see the Chinese conjuncture as little different in particular, the markets’ confidence that the authorities are in control of events opens the possibility of a rude shock.
I am reassured that my views are not totally bananas when two of the deepest thinkers in the markets are also concerned about a Chinese economic crash. Edward Chancellor thinks China is a bubble waiting to burst ( – he is one of the worlds’ leading thinkers on bubbles and the author of the seminal book on the history of bubbles – The Devil Take the Hindmost). I was also reading a news report on the views of Jim Chanos at Kynikos Associates. Amid all the bullish hype on China, it is well worth taking some time to read these men’s views.
Any synchronized end in Chinese and US recovery will undoubtedly heighten geo-political tensions and accelerate the inevitable trend towards protectionism. The trend towards competitive devaluation will also increase. And in the case of China, if its economy founders unexpectedly and unemployment soars, no lever to restore growth should be ruled out, including devaluation. With the potential for the dollar to soar, in the same way the yen did in 2008 as risk carry trades unwound, this may be all too much for a beleaguered Chinese economy. With a Chinese trade deficit and a loss of confidence in the growth miracle, China’s reserves will in all probability be in decline. What better way of meeting the American’s call for greater flexibility than to give them what they want?The Chinese may yet respond to the new market pressures and devalue. 2010 could be a very lively year indeed
Happy new year.