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2016: A New Financial Crisis Upon Us?

2016: A New Financial Crisis Upon Us?

The new year has not started particularly well – stock markets are falling, deflation and debt crises in developing countries are concrete risks and commodities prices have reached all-time lows. Many analysts have supposed that the situation is not going to improve and made clear that 2016 will be a year of low economic growth: in fact, both the World Bank and the IMF have lowered their growth expectations.

The world is facing a considerable number of different risks, and it is commonly believed that their drivers are independent of each other. But is it possible to identify a link between them? If so, are we headed for a new financial crisis?

The Chinese slowdown

China, one of the driving forces of global finance, has experienced sublime growth over the past 40 years. In recent times, however, growth rates have lowered: at first, the Chinese slowdown was considered “healthy”, but now it is starting to worry both the Beijing government and stock markets.

Close economic relations between China and the rest of the world will make China the main reason for slow global growth this year. After 2008, China tried to rebalance its economy by increasing domestic consumption and pushing infrastructure investments: this strategy seemed successful for some years, allowing China to continue its growth, but it created market bubbles, which are now bursting.

Consequently, China is importing fewer commodities and raw materials from other developing countries, causing a shrinkage in their prices: there is too much supply and not enough demand for it. This results in a reduction of export revenue for many developing countries in Latin America, Africa and Asia, which are based on exporting commodities to China.

China Annual GDP Growth Rate (1)

The bigger picture

Oil is another matter of concern for markets: its price has dropped at all-time lowest levels and it seems like the trend is not going to change. At the same time, OPEC’s internal rivalries worsened due to the increasing hostility between Saudi Arabia and Iran, resulting in reaching an agreement to raise oil prices extremely difficult. Consequently, some developing countries have suffered due to reduced oil export revenue  – such as Russia, Brazil, Colombia and Venezuela.

 

Crude Oil (1)

In addition to such, the Eurozone economy is still fragile, as the EU remains an incomplete currency union, unable to improve its members’ economic performance, still poor after the 2008 financial crisis: the whole Eurozone grew by only 0.3% in the last quarter of 2015, with some countries showing negative growth rates and others stagnating.Finally, the US economy might be less solid than public perception with a strong dollar meaning in less export revenue for American companies, weakening the US economy in its entirety.

Is there a link?

Insufficient global demand for supporting current levels of production is what links most of the risks the world is currently facing: in developed countries, real wages are not increasing, making economic activity stagnant, and China is causing some turbulence for developing countries’ economies. Global demand is kept afloat thanks to few countries being able to consume more than they produce (namely the US and the UK): however, they are not enough for global economic growth and such imbalances are not sustainable in the long period. After having pointed out the risks the world is facing, it is not difficult to understand the recent agitation. Global production slowdown makes analysts unconfident, affecting stock markets and investment perceptions: many economic activities are no longer safe profitable investments. Therefore, investors sell the stocks they hold across the markets, fearing they are overvalued. In addition, low growth might undermine the sustainability of part of the debts the world accumulated to emerge from the 2008 financial crisis. In fact, a reduction of the income to repay these debts might lead to new crisis across the world: since global finance is now interconnected, no country is protected from the risks.

Can we predict if 2016 will be remembered in history books as the year where a new financial crisis begun?

“I would say it amounts to a crisis. When I look at the financial markets there is a serious challenge which reminds me of the crisis we had in 2008.”

George Soros

No one can be 100% sure, but one thing is certain: the 2008 crisis hit us hard and we are still paying the price for the mistakes we made in the past, which we should have learnt to avoid.

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