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Fears of a global recession mounted this week, as a host of factors combined to send investors retreating to the safest havens they could find and forced policymakers to make plans to counteract a possible global economic slowdown.

The issues giving everyone pause are numerous and are largely interconnected. Looming over everything is the United States’ aggressive stance on trade with China, which has devolved into a trade war with global implications.

The Chinese and U.S. economies, which between them account for a major share of global economic production, are both suffering. Additionally, Germany, which counts on China as a major importer of its manufactured goods, saw its economy shrink in the second quarter of the year. Meanwhile, Britain stands on the brink of a disorderly exit from the European Union, with unknowable — but likely dire — economic consequences, and markets are nervous about another volley of tariff threats from President Donald Trump that would hit German cars and French wine, among other things.

Larger question

While these may all seem only tangentially related, each of the different factors currently troubling the global economy is part of a larger question that economist Nicolas Véron, a senior fellow at the Peterson Institute for International Economics in Washington, says everyone is currently trying to answer: “Is global economic integration as we have known it over the last few decades sustainable?”

Recent years have seen an unprecedented intertwining of global supply chains in manufacturing, retail and agriculture. Now, investors are asking themselves whether leaders of some of the world’s largest economies, Trump chief among them, are really going to try to pull those relationships apart, and what will happen if they succeed.

“Is the trade war a real thing, or is it going to peter out? Is the U.S. really going to decouple from China? These are big questions associated with apparent change of direction of U.S. policy with the Trump administration mostly, but are echoing various strands of economic nationalism in other places in the world,” said Véron.

The current uncertainty may be adding to the problems that a major realignment of global trade policies would create.

Across the globe, many investors are so spooked about the future that they are literally paying the governments of economically powerful countries to hold their money for them. Typically, sovereign debt issued by a major industrialized nation is viewed as a very safe asset. That’s why governments — particularly the United States, but also Germany, Britain, Japan and others — can borrow money at very low-interest rates.

However, over the past several weeks, the yield on many government bonds has turned negative, meaning that purchasers agree in advance to suffer a loss, presumably because they expect that they would lose even more in any alternative investment. Early this month, a Deutsche Bank analysis determined that 25% of current government bonds around the world now offer a negative yield, three times the percentage in October 2018.

This is bad news for multiple reasons, not least of all because it means that money that might have been invested in growing businesses is instead tied up in government bonds.

Bond market warning

Another negative signal from the bond market appeared in the U.S. this week when the price of two-year Treasury notes rose above the price of 10-year notes.

That phenomenon, known as an inverted yield curve, occurs when short-term investments in Treasurys pay more than the long-term kind. If that sounds economically nonsensical, that’s because it is. Lending for 10 years is riskier than lending for two years and ought to command a higher rate of return.

Inverted yield curves are driven by many factors. These include investor panic, but there are systemic issues at work as well, such as large investment funds that are required by their promises to investors to keep a certain percentage of their holdings in bonds — even when doing do requires them to overpay.

Whatever the ultimate cause, inverted yield curves have preceded every recession in the U.S. for the past 50 years, though often the inversion and the onset of the following recession were separated by as much as 18 months.

The increasing possibility of a recession in the U.S., particularly with an election year looming, has drawn mixed reactions from the Trump administration. While administration spokespeople continue to insist that the economy is strong and getting stronger, the president himself seems to be preparing for the possibility of recession by preemptively deflecting blame from himself.

Pointing toward Federal Reserve

Trump has suggested that any downturn in the economy will be the responsibility of the Federal Reserve, which sets interest rates. Trump has consistently criticized the central bank for slowly increasing rates over the past few years, accusing the Fed of hampering economic growth.

Even after a quarter-point cut last month, which left the rate target in a range of just 2% to 2.25%, Trump called for an immediate additional cut to forestall the possibility of a recession.

However, there is sometimes only so much policymakers can do. Economies move in cycles, and those cycles inevitably include periods of recession.

Also Read: Gold Price May Increase to Rs 40,000 per 10 Gram by Diwali

“The U.S. has its own cycle,” said Véron, of the Peterson Institute, and that cycle is separate from those of other countries. However, the U.S. is now in the longest economic expansion in its history, and factors like the yield curve inversion suggest that it may be reaching its end.

“There is an indication that we’re at the late stage of an expansion,” he said, “but that doesn’t necessarily mean it ends tomorrow.” (VOA)


Photo by Tim Mossholder on Unsplash

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