State of the Economy 2016

Our group received a great presentation today on the state of our economy.

Here are a few highlights from the presentation:

China's Currency Policy

  • China's currency has been linked to the US dollar for years but they are now moving it away to trade more freely. The IMF added the Chinese Yuan in October to the Special Drawing Rights basket that includes the Euro, Yen, Dollar and Pound.
  • China is the second largest economy in the world and also has the highest level of debt. Additionally, they are the largest consumer of commodities and most commodities come from the third world. Their economy is slowing and they are transitioning from an export driven economy to one of domestic consumption.
  • Capital flight is a significant reason for the unsteadiness of the Chinese markets. They move more like racetrack betting than investing. This is often due to a lack of confidence in an economy, but can also be for diversifcation. Most of this fleeing capital is coming to the US. This may influence investors in to thinking there is a higher possibility of a stability problem.
  • The PCP is committed to preventing calamity in their financial markets and economy. however, this creates confidence and may increase risk.

Oil Prices

Due to low oil prices, the Ruble is dropping in value. Russia needs to sell oil at $82/barrel to balance its budget but going rate is $30. Their economy is in trouble and there is a rising possibility of a breakdown of the Russian financial system. Brazil is also scrambling.

Oil inventories are higher than they've ever been. Tankers are being used for storage and Iran is reentering the market.

Federal Rate Patience / Recession Predictions / S&P

  • The real Fed. Funds rate is still negative relative to core inflation. We assume the Fed will do fewer rate increases and not reduce their balance sheet. FOMC actually started tightening in Dec. 2013 when it started tapering. That means we are 3 years in to the tightening cycle.
  • We need the Fed to say they will monitor, act cautiously and only raise rates again if economic conditions warrant it.
  • Recession risk in 2016 is ver low even when considering the implications of low energy prices. The last 5 recessions did not start until the Fed Funds rate hit a specific point, this time it would be about 3% with 2% inflation and we are well below that.
  • Banks are overcapitalized with unusually high levels of cash.
  • In 2015, average hourly earnings grew and retail sales were up 4.5%. Household debt is back to where it was in 2000. Inflation is very low and gas prices help. 2016 would be helped by a stronger consumer.
  • S&P projection in 2016 is for it to increase with earnings at about 5%. We had the worst market start on record. However when we look at the 10 worst starts, the majority ended the year higher with 4 recording stellar growth.