China is slowing because the world economy is slowing

Sometimes I read what others think and just smack my head in amazement–why didn’t I think of that!

I had that feeling this last week in reading about a brief interview with Wells Fargo’s former CEO, Dick Kovacevich. Mr. Kovacevich said Tuesday that China’s economy has slowed because the rest of the world has decelerated.

This view is in contrast to what many are saying and thinking: that the world economy is slowing because China is slowing. When you think about it, Mr. Kovacevich’s interpretation makes more sense.

China’s economy has mostly been serving as the world’s workshop. Goods are manufactured there and sent to the rest of the world. The inputs that China uses to build all those products come from both inside and outside of China, but mostly outside (iron ore, coal, oil, copper, etc.).

If world growth slowed, that would cause China to slow down production in reaction, which would lead to a lower demand for inputs, which would cause commodity prices to tank–just what we’ve been seeing over the last year.

China isn’t driving demand or creating growth, it is reacting to growth outside China. Of course!

So, why then is the world economy slowing? The quick answer is bad policy. If you look at the Middle East or Russia over the last several years, you see gross government overreach leading to military incursion, loss of lives, destruction of property, misallocation of capital, etc. If you look, too, at places like Brazil, where a massive oil and gas find turned into massive government corruption, you see more bad policy (government ownership/control of oil/gas fields) leading to economic troubles. Then, if you look at Japan, Europe and the U.S., you see central banks trying to create economic growth by fiddling with interest rates and money supply. As Dr. Phil would as, “How’s that working for you?”

The world economy has slowed in reaction to bad policy, and that has turned, first, into significant declines in input prices (commodities), and then, second, into slowing and economic upheaval in China.

A reversal will require either a change from bad policy to good policy (through elections or changed policies due to the threat of elections/being ousted), or for the power free markets to overcome the dead weight of bad policy. Either solution will take time, though, so it wouldn’t surprise me to see markets continue their recent instability.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

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China is slowing because the world economy is slowing

The Federal Reserve plays chicken with markets…and swerves

Most people think the Federal Reserve proactively sets economic policy. I believe the opposite is the case: that the Fed follows markets.

Proof for my view occurred yesterday. After years of preparing markets for a rise in interest rates and making it clear that September was the expected liftoff, the Fed decided not to raise interest rates on Thursday. Why? Because, I think, the Fed was reacting to market prices.

Of course, the Fed had their excuses all lined up: China’s volatile markets, Europe’s problematic economy, crashing commodity prices, etc. Yes, those were reasonable concerns, but I don’t think that was the Fed’s real reason.

You see, markets had already decided the Fed wasn’t going to raise rates. Market participants had looked at the data and come to the conclusion that the economy was too soft to raise rates. You can see this clearly in the remarks of savvy investors like Jeffrey Gundlach and banking executives like Goldman Sachs’ Lloyd Blankfein.

Markets had priced in no raise, and the Fed then caved to that reality. It was a game of chicken between markets and the Fed, and the Fed swerved into the ditch. If the Fed had pressed on with raising rates, markets would have reacted violently–having priced in no raise. Then, the Fed would have been on the hook for explaining why they caused markets to tumble.

You can see the Catch 22 the Fed finds itself in. On the one hand, they are supposed to “take away the punch bowl” when the economic party gets too crazy. On the other hand, if market participants don’t factor that removed punch bowl into market prices, then market crashes can be blamed on the Fed.

Under my way of thinking, the Federal Reserve will raise interest rates when markets expect it and have factored that into prices. If the Fed acts before then, they can and will be blamed for market volatility, a position no set of bureaucrats wants to find themselves in.

So, sit back and watch the Fed’s goings on with amusement. This circus is for the crowd, but it’s not important.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

The Federal Reserve plays chicken with markets…and swerves

New location at WordPress

After 8 1/2 years on Blogger, I moved to WordPress.

I will continue to post here on markets, the economy, financial planning and all things investing-related.

I look forward to hearing from you!

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

New location at WordPress

Falling prices are good, unless you are an imminent seller

When the stock market is tanking, like it has been recently, I find many people are scared to talk to me about it. They seem to think that declining stock prices are like a death in the family–a reason to offer condolences.

But, why is that? I don’t fret if I go to the grocery store and find prices have fallen 20%. When I go to buy gas, I’m quite happy to find prices have fallen. Why is this so different with stock prices?

After all, I’m a net buyer of investments. Only if I had some imminent plan to sell my stocks because I needed the money very soon would falling prices be a bad thing.

I think most people think I’m putting on a brave face or bucking myself up when I say I’m happy to see stock prices falling. They can’t seem to conceive that falling prices are good for buyers of stocks just as it is good for buyers of groceries, gas, cars or even houses.

I think that is because people too closely associate themselves with their current net worth. Instead of conceiving of their net worth as something in flux, that goes up and down like everything in the economy, they feel their current net worth indicates how much they can pull over time.

But, current net worth is a snapshot, not life itself. Just as a picture cannot capture a life, neither can current net worth define your lifetime cash flow.

Even for those close to or in retirement, stock market fluctuations need not be of major concern. If you have money you need to spend next month or next year in the stock market, you are indeed at risk. But you need not bear that risk unless you choose to. Your cash needs for the next three or so years should be in a stable value position, like a bank or money market account, not in the stock market. 

Most people who fret over stock market returns don’t need that money soon, either. They know they will need it in time, but they don’t need it today. 

Market volatility and declines are a benefit to the calm investor who knows that current net worth is just a snapshot. Thought of in this way, stock market drops can lead to higher net worth over time and increased cash flows. That is why I’m happy to see the stock market decline, and I think others should be, too.

Nothing in this blog should be considered investment, financial, tax, or legal advice. The opinions, estimates and projections contained herein are subject to change without notice. Information throughout this blog has been obtained from sources believed to be accurate and reliable, but such accuracy cannot be guaranteed.

Falling prices are good, unless you are an imminent seller