For There To Be Decoupling, Something's Already Gone Wrong

For There To Be Decoupling, Something's Already Gone Wrong
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The second step is to run back to decoupling. Each and every time over the last eleven years a global recovery begins to falter it is, at first, waved off as someone else’s problem. That’s only if you don’t want to appreciate the difference in the first place. For there to be decoupling something has already gone wrong.

Therefore, the term itself is damage control, an attempt to downplay rising risk. It’s not just any, though, using the word means doing so knowing, or deliberately forgetting, it has been debunked so thoroughly. Decoupling is akin to desperate.

In 2017, the narrative was globally synchronized growth. As in, the whole world was finally firing on all cylinders. For the first time since at least 2011, if not 2006, the economy worldwide was to be moving all in the right direction. Thus, if you believed in this sort of thing, there wouldn’t be anything to stop a recovery this time.

But that only begs the question, what stopped it in 2011?

We just aren’t supposed to ask. Globally synchronized growth is, apparently, self-evident. Not that there wasn’t a wealth of data for it in 2017. Indeed, nearly all the world’s individual economies were sporting positive GDP’s. That much was true. What was lacking, what is always lacking, is whether or not that by itself leads someplace significant.

History has shown that it doesn’t. Repeatedly.

The original development of the term came to us at the same time Ben Bernanke was telling Congress subprime was contained. Decoupling largely meant the same idea applied in different directions. The growing monetary irregularities would be difficult but only for certain financial institutions, the former Fed Chairman meant. Those using the word decoupling thought the same for any economic difficulties that might arise if subprime wasn’t contained.

In other words, reversing the roles, the rest of the world would fare reasonably well even if the US with Europe fell into some mild recession. Many came to believe, with greater fervor the worse it got, the old adage of how if the US sneezed the world would catch cold had been invalidated by what happened in the 2000’s.

In January 2008, one strategist at JP Morgan Private Bank was quoted by the New York Times excusing the thing:

“Last year, when the U.S. slowdown was driven almost entirely by housing, it made sense that the rest of the world kept right on going. Housing is a domestic story, plain and simple.”

Except it wasn’t. The 2008 panic had very little, almost nothing, to do with subprime. But if you thought that was all there was behind the mess, then why not decoupling?

As now, there was evidence for the theory. In June 2008, a mere three months before Lehman, and already three months following Bear Stearns, the IMF tackled the subject. The original purpose behind the institution was to contribute to global economic stability. The modern, 21st century purpose is to excuse, at all costs, global instability.

There was no appreciation for the latter, Bear, and thus they were blind to the possibility of the former, Lehman, and what that would’ve meant everywhere. As I have written before about Bear, it was a wakeup call to the global monetary system because Bear wasn’t some subprime peddler.

In other words, it was much, much bigger than all that.

Still, the IMF:

“Indeed, a fierce debate is raging about whether global business cycles are converging or whether emerging markets have managed to decouple from fluctuations in U.S. business cycles. The conventional wisdom is coming into question because emerging market growth has continued to be strong despite relatively tepid growth in the United States and a number of industrial countries.”

Not only that, this report would claim, positions may have been reversed. “Some observers have even argued that the United States and other industrial countries have themselves become more dependent on demand from the fast-growing emerging markets.”

Count this particular set of IMF researches among that category. They provided evidence to that end, showing that in the 2000-07 period EM economies had contributed significantly more to global economic growth than had “industrial countries” like the United States and those in Europe. The implication was presumed obvious, and if it wasn’t the report concluded:

“The most striking result is that the relative importance of global factors has waned over time for fluctuations in both industrial countries and emerging markets.”

Sure, OK, but did the IMF identify the correct global factors, or factor, on the wane? Obviously not.

The month this particular IMF “study” came out, Chinese industrial production was growing at a 16% annual rate. That was well within the same range for industrial growth that had developed in the globally synchronized period from 2003 to 2007. It was even an improvement on the initial shock which came in early 2007 – IP slowed briefly to just 12.6% in February 2007, the month before Bernanke went to Congress on subprime.

There were many other statistics that followed the same pattern, inside China as well as outside. Industrial production in Brazil, for example, was rising at an almost 8% rate in June 2008, a solid improvement from a slump that had developed in the middle of 2006 which saw IP contract by the smallest amount in several months.

All that changed around September 2008. Brazil’s IP gained +5.5% year-over-year the month Lehman failed, but by December it had plunged to -16.4%. China’s IP had weakened to +11.4% by the time of the panic, and would drop to a then-shocking +5.4% by November 2008. Anything less than +8% out of China was believed to be near impossible. It’s now a ceiling, by the way.

If the global money system tightens, the global economic system can do nothing about it. That doesn’t mean, however, that it registers everywhere at the same time. Decoupling is really just a misunderstanding of how that tightening is an irregular process, nothing ever goes in a straight line, a blindness to what are, in the end, differences only in timing and intensity.

The 2008 eurodollar event struck first where it started – US housing. Unfortunately for Economists and central bankers, US housing wasn’t a US problem. The eurodollar system had linked together banks from all over the world. When they could no longer fund, in dollars, they were thrown into crisis which brought monetary contagion inside their own borders. The eurodollar had already, for money, erased them.

This was also true of central banks, especially those in EM economies. These eurodollars often formed the basis for their local monetary system, and therefore the disruption in “dollar” flow also meant a domestic monetary disruption far beyond their capabilities.

For EM’s, 2015 was their 2008. Given that, decoupling reversed the roles. In the updated version, beginning use in 2014, the US would be the strong and independent economy while the rest of the world struggled through - something. There was only, as it would often be described, this “overseas turmoil.”

In September 2015, the FOMC would only say:

“After assessing the outlook for economic activity, the labor market, and inflation and weighing the uncertainties associated with the outlook, all but one member concluded that, although the U.S. economy had strengthened and labor underutilization had diminished, economic conditions did not warrant an increase in the target range for the federal funds rate at this meeting. They agreed that developments over the intermeeting period had not materially altered the Committee’s economic outlook.”

“Developments over the intermeeting period” referred, of course, to the dollar’s destructively deflationary path. It may not have “materially altered” their outlook, nothing ever does, but it did radically change their plan for action. The economy was so strong in the US that they couldn’t raise rates.

Based on the economy of 2014, central bank models thought there was a path for the Federal Reserve to follow the 2004-06 recovery policy. These, in June 2015, figured that the invulnerably decoupled US economy would have the FOMC vote for as few as six 25 bps rate hikes, and perhaps as many as nine or ten on the same pace as Greenspan’s Fed had taken ten years before.

Yellen’s band would do only one for this “overseas turmoil.” The US economy had not decoupled; it wasn’t as bad as the EM’s got it, but the direction was the same all over the world.

Three years later, we are back to this all over again. Just this week, Bank of America Merrill Lynch’s widely followed (FWIW) fund manager survey showed:

“Investors are holding on to more cash, telling us they are bearish growth and bullish US decoupling.”

Again, if there is any appeal to decoupling in 2018 then it’s already lost. The negative process, which is all this ever is, has already begun. In June, Reuters noted:

“A rare synchronized expansion among major world economies that was cheered on by markets and policymakers may be already unraveling, with only the near-term prospects for the United States looking significantly better.”

How significant of an uptrend could it have been if it was barely a year old and “may be already unraveling?” To ask the question is to answer it. From 2003 to 2009, it went: globally synchronized growth, decoupling, globally synchronized downturn. From 2010 to 2012, it went: globally synchronized growth, decoupling, globally synchronized downturn. From 2013 to 2016, it went: strong global growth (not synchronized), decoupling, synchronized downturn.

Last year to this year, it has gone: globally synchronized growth, decoupling. What comes next?

Economists and especially politicians will tell you this time will be different. They have their reasons and their evidence. But they always tell you this time will be different. That’s what decoupling always means, to them, in the end. Instead, it is the excuse for the clear breakdown in how it’s not different. OK, maybe the whole global economy won’t make it this time, like we’ve been saying, but at least parts of it will!

The Financial Crisis Inquiry Commission, as noted last week on the tenth anniversary of Lehman, referred to the word “subprime” 784 times in the government’s official history for the debacle. I wrote, “Had the FCIC really been doing its job, subprime would’ve merited zero mentions and eurodollar those 784, if not more.”

Subprime and decoupling spring from the same deficiency. The IMF in the middle of 2008 thought that global factors pulling the world’s economies together were waning. There was only ever the one factor, the one the IMF nor the Fed ever factored. A US housing problem could be a US problem, but if August 9, 2007, couldn’t show them it wasn’t a US housing problem, and Bear Stearns didn’t prove it wasn’t a US housing problem, then Lehman would never conclusively put decoupling to rest.

I wrote in November 2014, as data really began to reverse on the US threatening convergence with weakness overseas:

“If there is a defined trend for global growth, this is it. There is no decoupling, especially since the 2012 slowdown caught all these central banks and their policies completely by surprise. Now they are left trying to explain, in curiously very convoluted terms, why the world economy can ‘suddenly’ be so unsupportive of the established narrative that monetary policy is an unqualified good.”

Decoupling is a stab at a consolation prize for central bankers, especially those in the temporarily decoupled areas. They don’t have any idea what or why globally synchronized growth just up and vanished, they never thought it could, but they are sure, absolutely certain, that whatever it was won’t affect them, or you. They are correct in that no matter what happens it won’t affect them. You are a very different story.

This is the response of an agitated toddler who closes her eyes and plugs her ears so as to keep out anything bad that might upset her fragile, undeveloped psyche, not a serious reaction to what are clearly serious risks. Decoupling has been debunked, available only for the desperate. Decoupling means it’s already lost.

Jeffrey Snider is the Chief Investment Strategist of Alhambra Investment Partners, a registered investment advisor. 

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