The Approaching Economic Storm

By PNW Staff October 24, 2016 Share this article:

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The next recession appears likely to hit in the spring of 2017, and many experts are expressing increased concern over the weakened position of the Federal Reserve. 

After years of low rates from the Federal Reserve and massive stimulus programs from China, there may be very little left that governments can do to push back against this macroeconomic tide. What is worse, it is widely believed that the Fed is planning to raise rates in December of 2016. 

Whereas its intention may be to provide room to lower rates later in a crisis, there is also a strong chance that this could help precipitate the recession.

Though notoriously difficult to predict, financial cycles are an inescapable part of a fiat currency system based on fractional reserve banking. 

A currency model built on debt and controlled with the imperfect levers of interest rates set by central banks, the sin of usury, writ large across the globe, will expand and contract. The only warnings of the coming crash are a set of leading economic indicators, perhaps six months to a year in advance. 

With many calling the recovery from the 2008 recession both weak and artificial, the stage is set for a devastating economic pullback. But why are financial experts predicting the chances of a recession in the next year with estimates ranging from as low as 25% to a 60% or higher?

Home Price Inflation

With the memory of the last housing bubble still fresh, home prices in the US have risen sharply since 2012 and are now nearing the pre-crash highs of 2006. 

This rise in asset prices has outstripped the slowing rate of income growth. Low interest rates have fueled a paper-recovery that could very soon prove to be unsustainable at these levels.

Decline in Corporate Profits

We are now in the fifth quarter of declining corporate profits, a key leading indicator of overall economic health. Stock prices can be manipulated, asset values can inflate and unemployment numbers are notoriously unreliable, but corporate profits drive economic expansion, hiring and tax revenues. 

The effects are not immediate on a macro level but instead lead the cycle by between six and nine months. But dwindling liquidity levels are now being felt globally. Michael Howell of CrossBorder Capital Group stated this month that "We are seeing a serious deterioration on a monthly basis." He went on to say, "We think the US is heading for recession by the Spring of 2017. 

It is absolutely bonkers for the Fed to even think about raising rates right now." The cut-backs corporations are now imposing will soon be felt globally.

The Fed Using Repos to Pump Liquidity into Markets

The Federal Reserve has been using a macroeconomic lever known as "reverse-repos" to inject additional liquidity into the market. With little room to drop the Fed Funds Rate any further, the American Central Bank has turned to other methods to stimulate the economy in the face of shrinking corporate profits. 

According to the analysts of CrossBorder, the liquidity levels in the US are now nearing the same inflection points seen a shortly before the recessions of 1990, 2001 and in November 2007, just over a year before the Lehman Brothers implosion. 

Fed Funds Rate Hike Expected in December 2016

Even the vice-chairmen of the Federal Reserve, Stanley Fischer, admitted this week that the Fed has little left in its toolbox after keeping interest rates so low for so long and that this, "could therefore lead to longer and deeper recessions when the economy is hit by negative shocks." 

His solution? Raise the interest rates now while the economy is still in motion to create what he has called "a buffer", or room to lower rates again in the coming recession. 

This move however, is considered by many market experts to be extremely dangerous because it threatens to act as the catalyst for the recession it hopes to cure.

The Treasury Yield Curve

The analysts at Deutsche Bank, led by Dominic Konstam, point to a narrowing in the rates between the three-month and ten-year US treasury bonds. This yield curve is an important predictor of the future economic conditions and if the natural rate differences are taken into account, this curve has already inverted. 

Deutsche Bank's analysis now believe that this indicates a 60% chance of a recession occurring in the US within the next nine months.

 

Sovereign Debt Ratios

The ratio of national debt to countries' gross domestic product is, though not a perfect metric for stability, an often-cited statistic for national monetary policy. 

Looking at the ratios across both developed countries and emerging markets, we now see debt ratios approximately 35% higher than they were at the beginning of the last major financial crisis that brought the world's economic system to the brink. 

While not itself indicative of a crash in the short term, such dangerous debt ratios in nearly every country mean that governments have few options left to pull their economies back from the edge. Thus, the depression that government stimulus may have avoided eight years ago may no longer be avoidable. China, for example, will not be able to step in to save the day. 

Beijing is far past any reasonable or safe limits on credit to the tune of nearly $30 trillion in loans, and Fitch Ratings believes that bad loans in their banking system are as much as 1,000% the official claim. 

Weakness of GDI to GDP

The ratio of gross domestic income to gross domestic product is another leading indicator that now mirrors the previous recession. 

Albert Edwards of Société Générale points out that this indicator has been flat for the previous two quarters and that "The pronounced weakness of GDI relative to GDP might be an ominous omen, for it may well be indicating that a US recession is already underway - just as it was in 2007." 

Uncertainty

Economic cycles are influenced by natural disasters, human psychology and millions of unobserved factors in addition to the management of government, so there remains ample room for doubt. 

But when we consider that we are already in the fourth longest recovery in 150 years, the list of leading indicators begins to look all the more ominous. 

Taken alone, any single indicator can be ignored, but together they paint the picture of economic storm clouds on the horizon.