Weekly Economic Commentary • Principal Global Investors
Covering the week ended May 16, 2014 — Published on May 22, 2014
India Votes for Change
India's 550 million voters delivered a searing indictment against the incumbent Congress party-led government, delivering its worst defeat since Indian independence in 1947. The electorate gave a resounding vote of confidence to the right-ofcenter Bharatiya Janata Party (BJP), led by the charismatic but controversial Narendra Modi. With final votes still to be tallied, the BJP has nevertheless comfortably secured well over the 272 parliamentary seats required out of a total of 543 to form the next government, and has thus been clearly handed a mandate for change.
This is a historic victory for the BJP, making it the first right-of-center party to be given an overwhelming mandate. It also enables the BJP to form the first single-party majority government in 30 years, giving it unprecedented stability. India voted against the corruption that plagued the Congress's second term in government as well as for the hope of strong economic growth and jobs that a traditionally pro-business BJP championed as its main electoral plank. Indeed, India's equity markets and currency, the rupee, rallied in recent weeks because opinion polls increasingly suggested a strong mandate to the BJP.
ECB Monetary Policy: The German Influence
The Bundesbank has just one of the 24 votes on the European Central Bank's (ECB) Governing Council and policy decisions are made by majority vote. But the German central bank has always factored very heavily into any ECB policy decision. Germany has spent much of its history as a member of the ECB Governing Council in vocal opposition to many of the ECB's policies. In particular, Jens Weidmann, the Bundesbank president and present member of the ECB Governing Council, has been a fierce critic of the ECB's primary anti-crisis program, that being the Outright Monetary Transactions (OMT) bond purchase mechanism launched in 2012 to stabilize bond yields in stressed Eurozone nations.
Perhaps because the OMT program, though never used, proved so successful in stabilizing the Euro and arguably saving the 18-member European Monetary Union (EMU), the Bundesbank has become much more conciliatory in its commitment to the ECB and appears to be fully engaged in curbing low inflation and open to using a broad array of monetary-policy tools. This shift in the direction of more support of ECB policies began about a year ago when Weidmann agreed with the commitment to keep interest rates at current or even lower levels for an extended period.
U.S. Economy: Five Years Beyond the Trough
Although it may not feel like it, the current economic expansion in the United States is nearing its five-year anniversary. Growth in real GDP has been ongoing for 58 months and as a result has now exceeded its post-war median economic expansion duration (42 months) and is tied with its average expansion duration. So there is little doubt that the current expansion will go into the books as being longer than average (and possibly considerably longer). But it will also likely be remembered for being more of a tortoise than a hare in terms of pace of recovery, although the tortoise is hopefully on the verge of an accelerated pace.
Of the 10 recessions in the post-war era, the median subsequent rebound in total-real GDP above its prior recession peak has been 19% (and the average rebound has been 23%). Stated another way, if the U.S. economy had reached a zenith of say 100 at any given cyclical peak since 1945, then after falling into recession and subsequently climbing out of it, the economy had typically managed to advance to 119 before once again falling into its next recession.
Needless to say, the U.S. is nowhere near that median peak rebound yet, as current real GDP is only about 7% above its fourth-quarter 2007 pre-global financial crisis peak. Part of that is the size of the hole it dug itself into, having seen a peak-to-trough contraction of 4.2% in real GDP from 2007 to 2009. And of course its recovery climb is not over yet.
Around the Globe in 800 Words
For the first time in some months, European economic data clearly lost momentum. Like the U.S. report for the first quarter, the advance European GDP data for the same period surprised to the downside. For the Eurozone as a whole, economic output grew 0.2% quarter-over-quarter compared to an expectation of 0.4%. Only six out of 18 countries had accelerating GDP including Germany (0.8%) and Spain (0.4%). Economic activity contracted significantly in both the Netherlands (-1.4%) and Portugal (-0.7%). Growth also stagnated in Italy (-0.1%) and France (0.0%).
In contrast to the weak Eurozone-GDP report, the Japanese-GDP report surprised to the upside. Activity grew 5.9% on a quarter-over-quarter annualized basis, compared to market expectations of 4.2%. Consumer spending increased at an 8.5% annualized rate, the best pace since the first-quarter 1997.
Chinese data for April continued to point to a slower pace of growth, in the 6.5 – 7.5% range. Retail sales increased 11.9% year-over-year, slightly below expectations of 12.2%; industrial production increased 8.7%, the slowest pace since 2009; fixed asset investment increased 17.3% year-to-date, the slowest since 2001.
April data for the United States was mixed. Retail sales and manufacturing activity stalled last month after reasonably strong gains in the prior month. Headline retail sales increased only 0.1% after robustly accelerating in March (an upwardly revised 1.5%). Industrial production dropped 0.6% after increasing 0.9% in the previous month. Within the industrial sector, utility production dropped 5.3% with the end of the extremely cold winter. But manufacturing activity also declined, down 0.4%, after increasing 1.5% and 0.7% in the prior two months.
Geopolitical risks remain in the headlines, as Ukraine separatists have now held referendums in two regions, claiming that both show majority support for joining Russia. And geopolitical tensions exist elsewhere, as China territorial disputes have moved beyond just Japan. In Vietnam, tensions continue over a Chinese oil rig near the disputed Paracel Islands in the South China Sea.
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