The huge fall in energy and other commodity prices towards the end of 2014 has driven the overall rate of inflation of prices of all commodities down. Combined with faster growth in GDP and employment in the US, this suggests a more optimistic scenario for capitalism in 2015. Lower gasoline prices means that American and other households can spend more money on other goods and so boost demand.
At least, that is the argument of the optimists among the mainstream. This argument was recently well presented by Gavyn Davies, former chief economist of Goldman Sachs and now a columnist for the FT (http://blogs.ft.com/gavyndavies/2015/01/04/demand-side-gains-for-the-global-economy-in-2015/).
As he put it: “After several years in which inadequate demand has seriously constrained activity in the global economy, causing repeated downgrades to growth forecasts, 2015 should see an improvement. Lower oil prices and a more demand-friendly fiscal/monetary policy mix should result in faster growth in aggregate demand. ….This will be a year in which excess capacity in the global economy will start to be absorbed.”
Davies pins this forecast on the apparent pick-up in demand and employment in the US. With ‘potential’ long-term growth in the US fixed at about 1.7%, Davies expects the US economy to grow some way above that in 2015. He recognises that the Eurozone and Japan are struggling to avoid a new recession, but hopes the European Central Bank (ECB) will introduce quantitative easing although “It is very doubtful whether this will be enough to restore inflation expectations fully to the ECB’s target, considering that headline inflation will dip to zero as oil price effects feed through the system”. Nevertheless, real GDP growth should improve in 2015. As for the emerging economies, China may be slowing down but will still manage 6-7% a year, so that overall global growth would reach 3%, up from 2014.
Well, all I can say about this forecast is that is full of holes. Just 3% global real GDP growth in 2015 – hardly a boom! And that depends on China not slowing down, Europe and Japan avoiding a deflationary depression and the US continuing to accelerate as consumers spend more from the extra income they get from falling gasoline prices.
When we consider the evidence of the first week or so of economic data around the world, it is not encouraging for Davies’ assessment. Take Germany, the only powerhouse of growth in the Eurozone. Factory orders there fell 2.4% in November, much more than expected. Germany factory output was also much weaker than economists had forecast in November, falling by 0.1% from the previous month. It is now falling by 0.5% yoy.
UK industrial production and construction output also unexpectedly contracted in November, falling 2% month-on-month, a bad miss from expectations for a rebound after October’s shrinkage. Construction output is up 3.6% yoy, – well short of hopes for a 6.7% reading. That’s a sign that the driver of UK growth in 2014, the property boom, is coming to an end. French industrial production also fell last November last year by 0.3% after a fall of 0.8% mom in October.
The US economy is now the global growth driver. Last year, its real GDP rose in absolute terms more than any other economy, including China. It contributed 18% of global real GDP growth, more than any other. But will US growth be enough to stimulate the rest of the world? Well, the latest figures of factory goods orders were not promising. In November, they fell 0.7% so that the year-on year figure was down 1% compared to a rise of 2.1% in October.
The US jobs figures for December came out last Friday. The headline figure of 252k looked pretty good and in 2014, the number of jobs rose more in any year since 1999. The unemployment rate ended the year at 5.6%, the lowest since the Great Recession. But when compared to those of working age, the share of Americans with jobs or actively seeking employment fell back to a three-decade low of 62.7% in December.
And the level of long-term unemployed remains well above that before the Great Recession.
But most important, average hourly earnings rose only 2.3% in 2014. By comparison, wages for those workers advanced 3.7% in 1999, after growing 4% in 1998. So more jobs has not produced better pay and higher real incomes from work. Indeed, in November, hourly earnings for private sector employees fell by five cents to $24.57—marking the largest monthly decrease since at least 2006. What seems to be happening is that those getting jobs are doing so in low-paid sectors like retailing and in part-time holiday work. These ‘entry-level’ workers get paid less.
However, hours worked in a week for those working has reached a post-recession high, so weekly earnings recovered. In sum, employment is better, but pays less, so people are managing by working longer hours if they can get them.
And worldwide, the latest economic activity indexes suggest a slowdown, not an acceleration. In the graph below I have constructed a composite index of national business activity indexes (PMIs). I find that developed capitalist economies (DE) are still expanding (above 50), but at a much slower rate than last summer, while emerging economies (including China) are not accelerating. So the world economy (green line) is in a lower gear than a year ago.
While Gavyn Davies may be optimistic about global economic growth in 2015 because of ‘higher’ demand, Tim Adam, the president of the Institute of International Finance–a group that represents the world’s largest banks, pension funds and insurance companies is much less so: “The question is, can a wealth effect in a liquidity-juiced U.S. economy provide the engine of growth for the global economy… One could have a fairly pessimistic outlook on global growth if you take all these things into consideration.”
The slowdown in most economies combined with the sharp fall in energy prices has raised the spectre of deflation in the major capitalist economies for the first time since the Great Depression of the 1930s. In December, the Eurozone fell into deflation for the first time in more than five years. Japan is nearly back there and US and UK annual inflation rates are well under central bank targets of 2% a year.
The Economist magazine is worried (http://www.economist.com/news/briefing/21627625-politicians-and-central-bankers-are-not-providing-world-inflation-it-needs-some). As the magazine explains: “The drop in oil prices is in part due to higher supply, but it is also the product of slowing growth around the world. China’s slackened appetite for raw materials has hit emerging-market commodity suppliers particularly hard. And an energy-induced drop in prices, though good for consumer purchasing power, risks reinforcing expectations of lower inflation overall; it is part of the threat’s pernicious nature that such expectations easily become self-fulfilling.”
While lower prices may benefit average households in reducing their energy bills so that they can spend more on other things, it puts downward pressure on the profitability of capitalist production. This might inspire the introduction of new technology to lower costs. But there is little sign of that at present in the major capitalist economies. The energy producers are cutting back on investment globally (some 40% of total capital investment), but other sectors are not compensating.
On the contrary, most capitalist firms are continuing to try and boost profitability through raising profit margins by holding down wages. A recent staff paper by the Federal Reserve Bank of San Francisco argued ‘wage stickiness’ had hampered American firms’ ability to adjust costs during the Great Recession (http://www.frbsf.org/economic-research/publications/economic-letter/2015/january/unemployment-wages-labor-market-recession/). The paper argues that wage rates stayed up ‘too much’, so firms would rather not raise wages now in the recovery. Now if sales demand and price rises should slow again, there could be a ‘pent-up’ demand to cut more jobs. So the improvement in the US jobs market could grind to a halt.
The other problem with low inflation and/or deflation is that the real value of existing debt owed by firms and households rises and if the Fed goes ahead with its plan to raise interest rates later this year, then the cost of servicing that debt will rise, hitting the ability of companies to invest and households to spend. Since the financial crisis struck in 2008 the world has become more leveraged; total public and private debt reached 272% of developed-world GDP in 2013, according to a report put out under the aegis of the Geneva Reports on the World Economy (see my post, https://thenextrecession.wordpress.com/2014/09/30/debt-deleveraging-and-depression/).
The European Central Bank will shortly announce a new round of credit injections or quantitative easing designed to provide the banks and big corporations with virtually free money to invest or spend. So far, QE in Japan, Europe and even the US has failed to convince as a weapon to avoid slow or deflating economies. The spectre of deflation remains.