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What I say here may sound like a broken record, but credit has been the driving force in the global economy since the 1980s. all.
From assets and stocks to growth and price pressures.
there is two The main reasons for this are:
1. Real wages have remained roughly flat for 40 years. So you need credit to subsidize spending (and if wages can’t keep up, you need debt).
2. The hyper-financialization of the global system (the process by which institutions, markets, producers, etc. increase credit-based growth) exploded It is behind the securitization that accompanies economic growth.
CDOs (Collateralized Debt Obligations), MBS (Mortgage Backed Securities), ABS (Asset Backed Securities) and many other complex credit products like this alphabet soup are proliferating through this system.
With these products, financial institutions can (as they believe) reduce risk (cause moral hazard) while extending huge amounts of credit.
These two facts make it important to study credit flows to gauge the momentum of the economy and asset prices.
Remember, trust is essentially lifeline It drives economic activity.
So what does the credit stream tell us?
Well, it looks pretty pessimistic.
This is why I believe the global economy is becoming increasingly fragile as credit tightens everywhere. It leads to slower growth, asset price volatility, and deflation.
Put another way, when the credit tap is turned off, so are all other features in the margin.
Let’s take a look at some of these credit flow indicators. . .
The global credit impulse: declining fast and fast
Now, an important way to look at total credit flow is the credit impulse measurement.
“What the hell is a credit impulse?”
Simply put, it’s a term coined by former Deutsche Bank economist Michael Biggs that measures the change in new credit issuance (flow) as a percentage of growth (GDP).
And it has a great track record as a driver of economic momentum.
For example – according to ARP investment – The six-month credit impulse is at an all-time high. number one Historical indicators of GDP growth.
So when the credit impulse increases, so does growth.And when the economy goes down, so does growth..
So what does the credit impulse look like now?
well they are in decline three largest economy.
1. In the US, the credit impulse – according to bloomberg – The year-on-year contraction is expected to widen further into 2023 as banks continue to tighten lending.
We have already seen banks tighten their lending standards dramatically Performance for all major loan categories over the past year. From business and commercial real estate to auto and consumer loans.
Meanwhile, the net percentage of banks reporting increased loan demand has also fallen negatively across all these categories (I wrote more about this recently – see here). here).
And this trend is set to continue.
2. Eurozone credit impulse – according to EFG International – plummeted to -6% as of Q1 2023. It shows that the flow of credit to the private sector is very poor.
No wonder, then, that Germany, the eurozone’s largest economy, is in crisis. recession Last week (Germany’s GDP fell -0.3% in the first three months of the year after contracting -0.5% at the end of 2022).
However, across the Eurozone as a whole, growth was only 0.1% in Q1 2023 and remained flat at 0% in Q4 2022.
On the other hand, there is certainly demand for financing. jump in A financial crisis erupted across the four major euro economies – France, Italy, Germany and Spain – as banks tightened credit across the board.
This trend is expected to continue.
3. China’s credit impulse index (6 months ahead) is also very high anemia – Indicates a weak manufacturing cycle.
After China reopened its economy in December 2022, the credit impulse rose briefly. But then things changed as China dealt with anemic consumers.
It is important to note that since 2008, the global economy has been driven primarily by Chinese credit (fueling excess demand).
As the graph above shows, when China opened the credit floodgates, after each major slowdown (e.g. the 2008 and 2011 euro crises, the 2015-16 global recession), manufacturing and the global economy Growth accelerated.
whats the problem with this?Well it was created Large scale China’s debt bubble.
For example, China’s macro leverage there is already 280%–GDP ratio – And this doesn’t even take into account local government debt (aka LGFV).It is – according to IMF – Estimated at approximately $9.5 trillion (approximately 50% of GDP).
What makes things worse, as I have experienced, is wrote beforeChina has hit the law of diminishing returns.
To put this into perspective – China’s Incremental Capital Output Ratio (ICOR) has surged nearly 300% over the past decade, despite unprecedented growth.
This means that for half the growth, we will have to spend much more and provide huge amounts of credit.
And since the law of diminishing returns is inevitable, trying to inject more credit into the system than ever will no longer work. And there will only be more excessive speculation, more debt, more illicit investments (which will only make the current situation even stronger).
So even as the Chinese government seeks to revive its post-lockdown economy, more credit is likely to only lead to ever-decreasing returns and increased volatility.
In any case, I expect China’s credit impulse to remain fairly weak.
It is therefore clear that credit flows are eroding globally (at least in key regions) and will likely continue to be a headwind for growth.
But there are other credit issues that signal that liquidity flows are drying up. . .
Chicago Fed’s Financial Conditions Index flashes red flags
Chicago Fed’s NFCI (National Financial Conditions Index) 105 indicators It tracks U.S. financial activity and even the “shadow banking” system, including what’s happening in the money, debt, and stock markets.
All of these combined provide a relatively easy way to measure market liquidity.
But let’s break it down further. . .
NFCI is three Main sub-index:
1. Risk Sub-Index – Captures the volatility and funding risk of the financial sector.
2. Credit Sub-Index – Measures your credit standing.
3. And the Leverage Sub-Index – Measures Debt and Equity.
It’s important to look at all three, but I think the leveraged subindex is the most important.
First of all, it is “leading indicators” (aka economic factors that change before the rest of the economy starts moving in a particular direction).
And second, we live in a credit-driven world, so leverage is key. drive cycle of boom and bust.
For example, if the leverage is cheap (lower interest rates and lower credit standards), the private sector will have easier access to debt. Hence more marginal spending/investment capacity increases (boom period).
However, when leverage is applied, expensive (higher interest rates and tighter credit conditions), the private sector will borrow less for consumption/investment. And they often liquidate risky assets to pay off their debts, pushing prices down (the bankruptcy stage).
So what can we learn from this important subindex today?
Well, as of mid-May 2023, we can see that leverage has tightened. Significantly for the past few months. And it’s back to its highest level since the 2008 financial crisis. . .
Be careful what the NFCI reads. vice versa – A reading above zero means tightening financial conditions (tight liquidity). And when it goes below zero, it indicates easing financial conditions (more liquidity).
This shows that leverage costs have become much more expensive. And if history means anything (as I believe it does), it will point to further downsides for the economy and financial system ahead.
To put this into perspective, already Huge Wall of Corporate Debt It will mature in the next 34 months (estimated at approximately $6.51 trillion – 30% percentage of total corporate debt). And most of them are held by companies with a BBB credit rating, just one step away from being downgraded into the junk category.
and, Commercial real estate tsunami Debt, especially for offices, continues to be extremely volatile by the day.
These areas are likely to see increasing stress on the financial system in the coming months.
The conclusion is
The overall decline in credit impulses globally suggests headwinds to future growth.
And since credit is the lifeblood of an overfinancialized and indebted global economy, careful monitoring of these credit flows is crucial.
And as the Federal Reserve and major central banks continue to tighten (shrink their balance sheets), this trend will only get worse, increasing the fragility of the economy and financial system.
To make matters worse for global credit and liquidity, the US Treasury just passed a deal to raise the debt ceiling.Comes with 2 if you pass drag.
First: – When the Ministry of Finance replenishes the TGA (Be expected expected to surpass $600 billion by the end of June), soaking up a huge amount of liquidity.
Remember. When the Treasury issues bonds, cash comes in.
And this is a huge amount being siphoned out of the financial system at a time when US bank reserves are already dwindling.twenty five% Global liquidity plunged year-on-year.
To put this into perspective: Andreas Steno Larsen – When TGA replenishes its coffers, it tends to have a negative impact on equities (which is not surprising given the tight liquidity situation).
And second, the debt ceiling deal caps federal spending, adding to the downside.
Keep in mind that finances are also an issue. two Major liquidity taps (the other being financial).
why?
Because of the “fiscal multiplier” – Also known as the impact of an increase in government spending on a country’s economic output or GDP.
Therefore, if the Treasury cuts interest rates, return In terms of spending, this means less liquidity in the economy (more spending and vice versa).
So both the Fed’s tightening and the Treasury’s last-minute spending cuts are amplifying the slowdown.
Jack Ablin – as Chief Investment Officer at Creset Capital Management – I got it, “It’s an important development. It’s been more than a decade since monetary policymakers and fiscal policymakers steered in the same direction.”
Therefore, as a macro speculator, it’s important to discern what drives momentum.
And now things look bleak.
A black swan lurks. . .
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