Yves here. This post from our colleagues at MacroBusiness looks at the economic impact of the coronavirus, first on China, then the knock-on effects around the globe. Skeptics have long thought that China’s high levels of private debt and dependence on increasingly not-very to un-productive investment would lead to a retrenchment and potentially even a Japan-style slow-moving credit crisis.
Some readers may regard this forecast as unduly dire. There are claims, for instance, of anti-viral cocktails reducing the severity of the infection in bad cases. But only a very few people have been given various mixes, and at least out of two tested on a particular cocktail had an allergic reaction. Plus these medications are expensive, so it’s not hard to imagine that even if they worked, they would be used selectively. That is a long way of saying I would not place a lot of stock in these reports until a formula or formulas have been tested successfully on a reasonable number of patients.
If nothing else, this coronavirus take will provide useful grist for discussion and further analysis, although I’m not keen about the “pox on the old” ending (although this may be an even bigger issue in Oz with its moonshot housing bubble). The members of various wealth cohorts, like the 10% and the 1%, have much more in common with each other than people in general who happen to be their age.
By David Llewellyn-Smith, founding publisher and former editor-in-chief of The Diplomat magazine, now the Asia Pacific’s leading geo-politics website. Originally published at MacroBusiness
I am not going to sugarcoat this. There is enough of that in the mind control property media to make a freedom-loving liberal chunder. Australia faces calamity.
The formulation of the gathering catastrophe is simple. Coronavirus is loose in China. The Chinese Communist Party has declared war upon it and must win lest it jeopardise itself. As the virus explodes, the base case for that is now to progessively shut the country down for six-to-nine months. There is still an upside risk case that the CCP succeeds in choking the virus sooner, or a miracle drug appears, but with each passing day material economic harm well beyond SARS is being done to China. And there is an even higher probability risk case that the CCP fails and the world succumbs to a pandemic unseen since the Spanish Flu of 1918.
The second component is that Australia has the worst government in living memory. Morrison’s administration is much worse than that of Tony Abbott or Malcolm Turnbull. It is stupid, corrupt and entirely absent policy process. It can’t manage good times and it is fantastically inept in the bad.
A six month Chinese shutdown puts at risk $7tr in economic activity. Who knows how much of it will be lost. Enough is the simple answer.
Enough, that is, to trigger a credit event in China. Nothing so crude as a banking freeze. The government owns the banks. They will lend. But interest rates will rise with a rush of bad loans as private sector credit sources dry up and blow away like ashes in a Wuhan crematorium. Regardless of stimulus efforts, which won’t work when nobody can leave home, China’s massively over-leveraged corporate sector will go under. Expect a deluge of monetary support and crashing yuan, which may destroy the trade deal.
In the broader sweep of history, this will materially accelerate China’s historical slowdown as its great credit machine turns zombie, accelerating the process of ‘Japanification’ by several years, and turning what was a managed policy goal, of exiting the high debt investment model, into an acute adjustment of balance sheet recession.
When the virus passes, there will be an impressive snapback in activity but China will never fully recover as its economy will have to chew through a Himalaya of bad debt for as far as the eye can see, made worse again by another misallocated stimulus wave, as well as accelerated supply chain exits.
The global fallout from this will be equally large. Europe and emerging markets are very export-dependent upon China. In the base case, both will see growth crash. Europe’s broken banks will see casualties in the recession.
Across the Atlantic, the US fortess economy is largely free from direct Chinese contagion. But it’s stock market is exposed to a global recession via shrinking multinational profits, probably made worse by a rising USD safe haven bid. Wall Street is wildly overvalued for the good times, let alone the bad. The base case will drop it by one third, enough to destabilise corporate balance sheets fully loaded with debt for buybacks that have so inflated shareprices. Pain will be exacerbated by the oil price plunge that drives up spreads in the junk bond market.
Which brings us to Australia. All commodities will be wiped out in the next six months including, and perhaps most especially, iron ore, both coals and LNG. There’ll be some offset in gold and an Australian dollar nearing 50 cents.
As commodity prices hit bowel shaking lows, and the local Chinese-fed services ponzi implodes, the Australian budget will turn deep red just as the domestic economy cries out for stimulus. There will be some spending but nothing like during the GFC. The Morrison Government will always keep one bung eye on the sovereign rating and constrain public spending, even though there is absolutely no need to do so in a world of QE. As budget revenue is gutted, the faltering fiscal pulse will not be enough to prevent a big spike in unemployment.
Nor will the RBA’s last two rate cuts and quantitative easing. Indeed, the last will be needed not as a growth measure but as a crisis management tool to prevent bank spreads from blowing out with the global debt crunch. The banks won’t pass on the cuts. Indeed, they’ll be having acute balance sheet problems of their own as the consumer bunkers, under pressure from economic fallout amd possibly the virus itself. Without enough policy support for the economy, not to mention the calamitous newsflow from abroad, a multi-generational shock will roll house prices into a double dip recession as immigration craters.
A global coronavirus shock is not just a cyclical event. It is structural shunt that leaves everything changed; the bursting of the “everything bubble” created by central banks in the aftermath of the GFC. In a sense its final chapter. If the virus goes global, it could be depressionary.
For Australia, this calamity widens every crack in our already sick economic structure: Chinese over-exposure; household debt borrowed from offshore; reliance on mass immigration over productivity policy; distortions of the resources curse, and the rise of the psychopolly to cream it rather than manage the national interest. The end result of choked incomes will turn income implosion.
It is almost as if nature itself has gotten fed up with the aged generational bulge that disgorged a misshapen world of bottomless greed. It’s decided to kill them off and liberate the young to finally buy it all on the cheap.