Friday, November 27, 2009

Note From Dubai: Prepare For The Double-Dip Recession

WHY, YOU MAY BE ASKING YOURSELF, DID the whole world freak out that Dubai World - the state owned development company in the United Arab Emirates - was going to ask for a debt payment moratorium? The amount of debt that is unpayable - $59 billion - isn't as high as that of the Royal Bank of Scotland ($77 billion) or the behemoth insurance company AIG ($85 billion). But it's no small fish either and if it is forced into to default on that loan it will ripple through the system in several ways. The first is directly as all those banks, investment funds, etc. that sank money into Dubai are suddenly holding worthless paper. The second is the chilling effect - like the credit crunch of 2007-2008 - which frightens other banks and makes them not want to lend to each other or to their customers. The third effect is the "flight to safety" as money floods "safe havens" like the US dollar, gold, etc. and out of developing markets, the stock market, etc. In fact, the Dubai fiasco is just bringing to light what some commentators have suggested for a while - that we are at risk of a double-dip recession.
For my money, this isn't a question. In the US the infusion of massive amounts of cash - literally trillions of dollars to keep the financial sector afloat and the $787 billion stimulus package - has barely managed to stimulate a heartbeat out of the economic body of the US. In the last quarter, growth was measured at an anemic 2.8 percent, a downgrading from an earlier estimate of 3.5 percent. Meanwhile, the housing market remains a national disaster with 1 in 7 mortgages are either in default or behind by at least one payment. Because of the fall in home values, 23 percent of mortgages are now worth more than the houses they are applied against. The unemployment rate continues to rise in the US - now at 10.2 percent. US bankruptcies rose 33 percent in the third quarter. Meanwhile, even though the Federal government is offering stimulus, state governments are faced with the likelihood of massive cuts as 31 states face shortfalls worth $53 billion with ten - representing 1/3 of the US population - facing imminent bankruptcy. I'll stop before people start jumping off of buildings. But I'll just note that the big bang of the stimulus package ends this year and with Obama talking about deficits as the big danger facing the economy, I wouldn't expect much more on the table.
And, expect China to hit the wall next year - even if there's some growth in the West, which I highly doubt. China's export-oriented economy has been kept running at full tilt by a $500 billion stimulus package and the massive expansion of credit. But all that money has gone into investment - rather than consumption - to increase the number of factories to produce products for export to a world that can't afford to buy them. And as China manipulates its currency to keep it low - so that its exports are attractive - there is growing anger and the possibility of tariffs in response to Chinese export policies. China is about to find itself with a boatload of capacity and nobody willing to buy it externally and not enough people able to afford to buy it internally. The EU is pushing already for China to let the value of the yuan rise against the Euro and other currencies to begin to overcome trade imbalances (China selling more than it's buying).
Here in Canada, things don't look so hot either. As a big exporter to the US, we're very dependent upon what happens down there. We've been relatively shielded because there wasn't the same build-up of a bubble here in the housing market, which precipitated the crisis down south and locked up credit markets, which deepened the damage. But, as Murray Dobbin notes, the Canada Mortgage Housing Corporation has now effectively become a massive sub-prime mortgage lender as the Tories dramatically loosened lending rules to prop up the housing market. That and the rock bottom interest rates have created a stunning boom that has seen house prices rise by as much as 20 percent in Toronto in the past year. That can't last forever - certainly not in the face of a double-dip recession. If unemployment starts to rise and people on the edges start to default, we could be in for a replay in miniature of what happened in the US. The Tories must have been banking on the recession ending before the problems really reached maturity in the housing market - then employment would rise and all would be good (of course, so would interest rates and thus payments for many people...).
It looks increasingly likely that the "pop" of the debt bubble in Dubai is going to reveal that the entire facade of the recovery in the rest of the world was just that - all surface with nothing of substance underneath. And if it bursts this time there's not going to be the will to try and repeat stimulus spending. Governments, already talking about cutbacks, will pull a Herbert Hoover and try to balance the budget, thus deepening the recession. And then there is the danger they will try to respond by externalizing the problem through the erection of tariff barriers that will disrupt the global economy further - exactly what happened during the Great Depression, facilitating the global collapse.
Now, none of this might happen. I could be totally wrong and Marxists are notorious for predicting 6 of the last 4 recessions. But with the apparent failure of the stimulus packages, I don't see any other possibility. Sorry about that... On the brighter side, today's Friday!
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