Monday, October 13, 2014

The Real versus the Paper Economy

The Real Economy vs The Paper Economy

To know the state of the economy, look beyond stock market performance as measured by stock market Indices. The stock market is more a reflection of short term expectations and paper gains. It may go up and up, even in times of fundamentally weak economic activity. But demand for commodities that are required in economic activity, are a better indicator of the state of the economy. 

In the charts below, you can see the prices of Coal, Copper and Oil dropping over the past year. Why are crude oil prices dropping despite the turmoil in the Middle East? It is because the U.S. new fracking technology is now able to extract oil and Gas from its extensive Shale rock formations and the U.S. now imports less oil, leaving a larger supply from Middle East producers to compete on the world market. Copper is a good indicator of modern economic activity as it is being used in the electronic and automotive industries, there is no public Exchange to determine Iron Ore and Steel spot prices. Iron and Steel are of course required for the manufacturing, construction and transportation sectors but unfortunately there are no public Exchanges for Iron and Steel spot prices.

Most importantly, why are Bond prices (U.S. government 10-year Treasuries) holding up i.e. yields are dropping to a record low, even as the end of the Fed’s Quantitative Easing is in sight, and the beginning of the rise of interest rates is foreshadowed? Bond prices only go up in deflationary times, and times of low economic activity.

From hope for a period of greater economic growth, the world has now reversed to what seems like a period of slower economic growth ahead. Japan’s Abenomics has not yielded results, Germany the powerhouse of Europe is showing signs of slowing growth. The U.S. growth is erratic, and still fragile, and job creation, the ultimate precondition for sustained growth is still spotty, with structural unemployment still persistent.

Fortunately Singapore will benefit from economic growth in China and the ASEAN countries.
China now plays a very important role in world economic growth; witness its effect on the Australian economy as a result of a slowdown in China’s demand for Coal and Iron. Despite a cooling down in its real estate sector, and excess capacity in Manufacturing, its domestic Services and Consumption based on its huge population continues to grow, and may underpin a future rebound. The ASEAN countries with their huge populations (Indonesia, Vietnam, Philippines) will also continue to grow based on domestic consumption. They are also young economies which can still generate strong growth, unlike the more mature Singapore economy.  

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