At present, the world economy is in the post-COVID-19 era, although the impact of the epidemic on the economy has eased, but the escalation of geopolitical risks in Russia and Ukraine and the withdrawal of major central banks from loose monetary policy have triggered soaring commodity prices, high inflationary pressures have a crowding out effect on the economy, and high corporate credit financing costs, which have pulled major global economies into the brink of recession again. This article is divided into two parts, the first part through retrospective and summary of the characteristics of the previous global economic recessions, the analysis of the post-epidemic era of the impact of the global economic recession factors.
First, a historical review of the global economic recession
Throughout the history of the development of the global economy, the world economic fluctuations have a certain cyclicality, usually 8 to 10 years as an economic cycle, since the 20th century, there have been 8 global economic crises or recessions in the world, of which the more serious ones are the Great Depression of the global economy from 1929 to 1933, the two oil crises in the 1970s, the US sub-debt crisis in 2008 and the subsequent European debt crisis in 2009.
(i) The Great Depression of the Global Economy of 1929-1933
The Great Depression originated in the United States and then spread to britain, France, Germany, and Japan, making it the longest-lasting and most wide-ranging global recession of the 20th century. The recession is set against the backdrop of the end of World War I ("World War I"), which created many structural imbalances in countries to rebuild their homes. On the one hand, the deformity of industrial development in post-war countries led to an imbalance between supply and demand, because the wide application of war technology in machines and industrial production led to the rapid development of emerging industries such as automobile manufacturing, aviation, chemistry, and rubber, but the development of agriculture and service industries was relatively slow, resulting in the inability of countries to absorb the overcapacity caused by the great improvement of production efficiency. On the other hand, financial innovation exacerbates the "false prosperity" of the economies of various countries, in order to stimulate the contribution of consumption to the economy, banks create installment payment methods to sink the consumer base, by stimulating consumption to absorb overcapacity and boost production and supply, the economy presents a "false prosperity" trend; At the same time, banks encourage low-interest loans and leverage in the form of margin, promote speculation and spawn stock market bubbles, resulting in serious imbalances in the development of the real economy and the virtual economy.
As the problem of wild speculation and economic "false prosperity" in the US stock market became more prominent, in 1928 the Federal Reserve restricted the money supply and excessive speculation by raising lending rates, and in 1929 continued to require federal reserve banks to issue only "productive loans" and refused to issue all loans for securities investment. The Fed's tightening of monetary policy brought the four-year bull market in the U.S. stock market to an end, and on October 24, 1929 ("Black Thursday"), the U.S. stock market suddenly plummeted, and the cumulative market value evaporated by more than $30 billion in just two weeks. The bursting of the stock market bubble pierced the "false prosperity" of the US economy, triggering large-scale bankruptcies of enterprises in the United States, and from 1929 to 1933, about 130,000 industrial and commercial enterprises in the United States went bankrupt, and the failure rate of enterprises was about 50%; Corporate bankruptcy dragged down the safety of bank credit, nearly 10,000 banks went bankrupt, and the bank failure rate was about 49%; U.S. industrial output, price levels, and average wages fell by 46 percent, 32 percent, and 35 percent, while the unemployment rate soared from 3.2 percent before the stock market crash to 24.9 percent, and from 1930 to 1934, the average real GDP growth rate in the United States fell to -13.8 percent, plunging the economy into a severe recession. As the United States became the world's largest creditor country after World War I, the US recession severely weakened the FINANCIAL SUPPORT of the United States to European countries, and the Great Depression had a domino effect on the world, and the crisis soon spread to Germany, the United Kingdom and France.
Two oil crises of the 1970s
The two oil crises of the 1970s were caused by the Fed's "water release" and soaring energy prices, which gradually triggered the "stagflation" in Europe and the United States and the debt crisis in Latin America. Specifically, on the one hand, in the early 1970s, the Federal Reserve adopted an accommodative monetary policy and lowered the federal funds rate to a long-term reduction of the federal funds rate to the range of 2% to 3%, resulting in excess liquidity in the US dollar, and the ratio of M2 to GDP in the United States rose to 62.8% in 1972, an increase of about 8 percentage points from the time when monetary easing was not started in 1969. On the other hand, the fourth Middle East war broke out in 1973[1], the Arab countries demanded that the Western world change its attitude of asylum to Israel, using oil as a weapon to raise the price of crude oil in the Gulf region by 17%, and as the war further fermented, Middle Eastern oil producers cut off oil supplies to the United States and other Western countries, resulting in a global oil supply shortage, and international oil prices rose from less than $3 per barrel to nearly $12, triggering the worst global economic crisis since World War II. In addition, at the end of 1978, the Outbreak of the Iranian Islamic Revolutionary Movement, Iran's suspension of oil exports led to a sharp rise in the crude oil gap in the international market to 5 million barrels per day, in February 1979 Iran stopped exporting oil for 60 days, resulting in a sharp rise in international crude oil prices, the same year's Iran "hostage crisis[2]" and the outbreak of the "Iran-Iraq War" the following year once again pushed international oil prices higher. From 1970 to 1981, the current price of crude oil in the Arab region climbed from $1.7 / barrel to $32.5 / barrel, an increase of 18.5 times during this period, and the import price of crude oil in the United States also surged from 3.0 US dollars / barrel to 37.1 US dollars / barrel, an increase of 11.5 times.
The surge in international oil prices has plunged European and American countries into serious "stagflation", the US inflation rate climbed to 14.8% in March 1980, hitting a new high since June 1947, and the high inflation had a serious crowding out effect on the economy, and the US economic growth rate in the third quarter of 1980 fell to -1.6%, and the economy fell into recession. Against this backdrop, then-Fed Chairman Paul Lopez was forced to resign from the Federal Reserve. Volcker embarked on a hard line of monetary tightening. First, the Fed expanded the scope of bank reserve payments, played a role in reducing the money multiplier and shrinking the broad money supply, in 1980 the ratio of M2 to GDP in the United States fell back to 56.2%, gradually achieving the goal of aligning M2 growth with economic growth; second, the Fed raised the benchmark interest rate, raising the federal funds rate from 7.65% (August 1980) to 22.00% (July 1981), an increase of 1,435 BP. Intensive and rapid strong tightening of monetary policy has served to curb inflation; The third is to strictly control the size of the balance sheet, and the size of the Fed's credit assets in the late 1970s and early 1980s fluctuated in a narrow range between 4.5% and 6.0% of GDP, with an absolute size of no more than $160 billion, which played a role in preventing the disorderly expansion of the Fed's credit. Inflationary pressures in the United States eased under Volcker's strong monetary tightening policies, but economic activity was also severely suppressed, and the U.S. economy fell into recession in 1982 (-1.8%). At the same time, the risk of the Fed tightening monetary policy is transmitted to Latin American countries, because Latin American borrowing rates are adjusted on a 3-month or 6-month LIBOR basis, and when interest rates rise sharply, interest repayment pressures rise sharply, from $7 billion (1972) to $133 billion (1981). The Federal Reserve's tightening of monetary policy has led to the gradual strengthening of the US dollar, the reversal of international financial flows and the decline in commodity prices have made Latin American countries unable to meet their balance of payments, and the decline in current account income and shrinking foreign exchange reserves have greatly weakened the external debt service strength of Latin American countries. As a result, credit risks in Latin America have been gradually exposed and transmitted among many countries, and countries such as Mexico, Brazil, Venezuela, Argentina, Peru and Chile have experienced debt repayment difficulties, announcing the termination or postponement of foreign debt repayment, and finally spreading to nearly 40 developing countries debt restructuring.
(3) The 2008 US sub-debt crisis and the subsequent European debt crisis
The 2008 US subprime debt crisis is global and long-term, and the crisis is mainly based on four premises: First, in 2000-2003, before the crisis, the Federal Reserve adopted an expansionary monetary policy and lowered the federal funds rate from 5.75% to 1.00% after 16 times, a decline of up to 475 BP in three years. Second, the Fed's loose monetary policy has allowed excess liquidity to flow from real enterprises to the real estate and stock markets, pushing the housing price index to a peak, and by the end of the first quarter of 2007, the US housing price index (OFHEO) climbed to 380.87, a record high, breeding a large number of asset bubbles. Third, the US government promotes the concept of "home ownership", in the case of the basic saturation of the demand for housing in the wealthy class, through legislation requiring financial institutions to issue loans to people with low credit ratings, resulting in a large number of subprime mortgage loans. Fourth, in the environment of low interest rates, investors' high requirements for investment returns have prompted financial institutions to shift their risk appetite upwards, and many financial derivatives such as residential mortgage securities (MBS), credit default swaps (CDS), and collateralized debt certificates (CDOs) have emerged, thus pushing up the leverage ratio of the financial system. Overall, the Fed's accommodative monetary policy combined with high housing prices and financial innovation has left the U.S. economy in a double bubble of capital and assets.
After the outbreak of the subprime debt crisis in 2008, it was first transmitted to the financial sector, and then to the physical sector and dragged the European and American economies into recession. First, in order to dilute the economic bubble, the Federal Reserve raised the federal funds rate to 5.25% for 17 consecutive times in 2003-2006, with a cumulative increase of 425 BP, and the continuous and intensive interest rate increase became an important guide to puncturing the real estate and capital market bubbles. Secondly, the rapid rise in interest rates led to credit tightening, which not only inhibited resident consumption but also put pressure on the repayment strength of residents' housing mortgages, and as residents' repayment ability was frustrated, the housing vacancy rate in the United States continued to rise, and the default of subordinated housing mortgage debts became increasingly obvious. Banks recovered a large number of mortgaged properties and put them into the market, so that the price of housing fell accordingly, in December 2007, the US housing price index increased from positive to negative, and the negative growth continued until June 2012, seriously dragging down Real Estate companies such as Freddie Mac and Fannie Mae. Third, financial derivatives transmit real estate credit risk between financial institutions and entities. In 2008, the total mortgage portfolio market in the United States reached $6.1 trillion, of which subprime mortgages accounted for 9%, reaching a highest level of all. The housing mortgage loan is only the underlying asset, the upper layer can nest and leverage multiple financial derivatives, and the financial derivatives (MBS, CDS, CDO) with the housing mortgage as the underlying asset pool will spread the default risk among financial institutions through the leverage effect, resulting in the expansion of risks and risk solvency of banks, insurance and other financial institutions that purchase related financial derivatives. Finally, the deterioration of the balance sheets of financial institutions eventually dragged down the financing of entity companies, a large number of entity companies fell into bankruptcy, and the US economy fell into recession in 2009 (-2.6%).
In order to adjust its own economic bubble and follow the rhythm of the Fed's interest rate hikes, the European Central Bank raised interest rates by 200 BP in 2006-2008 to a record high of 4.25%, and the eurozone 10-year Bond yield also soared to an all-time high of 4.8% (as of June 16, 2008), and high interest rates caused market financing costs to rise sharply, leading to the bursting of the bubble in the real estate market in many European countries. Since the fourth quarter of 2008, the euro area housing price index has turned from positive to negative year-on-year, and has been negative for 6 consecutive quarters, and the decline in housing prices has shrunk the assets of investors who bought high-priced houses in the previous period, coupled with a sharp increase in loan interest rates, which has greatly weakened the residents' willingness to pay and solvency, and finally transmitted to bank subordinated home mortgages and a large number of bad debts. In addition, the ECB's interest rate hike pressure has also exposed sovereign debt risks. Italy, Greece, Portugal, Ireland, Spain and other countries ("PIIGS" countries) have climbed to 5.6% in 2008 due to long-term expansionary fiscal policies, imbalances in fiscal balance structures and heavy government debt burdens, and climbed all the way to 13.7% (2010), exceeding the warning line requirement for fiscal deficits (3%) in the Masherrit Treaty; The average level of government debt in the "PIIGS" countries also climbed to 74.9 percent in 2008, with Greece and Italy both exceeding 100 percent, exceeding the threshold requirement for government debt levels (60 percent) in the Mashrrit Treaty. The ECB's interest rate hikes have left "PIIGS" countries heavily indebted in the field of international lending and exceeding their own solvency, resulting in insolvency or having to postpone debt repayment. In December 2009, the European sovereign debt crisis was first highlighted in Greece, and then the three major international rating agencies successively downgraded the Greek sovereign credit rating, and the subsequent sovereign debt default risk was transmitted to Portugal, Italy, Ireland and Spain, and the European debt crisis dragged the eurozone economy down to -4.4%.
Second, the global economic shock factors in the post-epidemic era
By combing through the history of global recessions since the 20th century, it can be found that every time the global economy falls into recession, there are some necessary conditions, such as a serious bubble in the economy, a significant tightening of monetary policy by the Federal Reserve, and a systemic external shock. We follow the historical analysis of the post-epidemic era to locate the current economic stage of the global economy.
(1) Economic bubbles in the post-epidemic era
According to the history of economic recessions since the 20th century, economic bubbles are the most important endogenous cause of recessions. Economic bubbles can be reflected in stock market bubbles (the Great Depression of 1929-1933), housing bubbles (the US subprime debt crisis of 2008), and debt bubbles (the 2009 European debt crisis), and multiple bubbles have been superimposed in the current post-pandemic era.
1. Global stock market bubble
The global stock market bubble has been rising since the COVID-19 pandemic, with the ratio of total market capitalization to total nominal GDP of the global stock market reaching 133.6%, the highest since data statistics were found in 1975, and 20 percentage points higher than the high points of the stock market in 1999 and 2007. Among them, the ratio of the total market capitalization of the stock market to the total nominal GDP of high-income countries is as high as 169.8%, especially in Japan (132%) and the level on the eve of the ten-year recession in 1989; the ratio of the total market capitalization of the stock market to the total nominal GDP of low- and middle-income countries is 78.8%, which is relatively in a healthy range. Entering the post-2022 epidemic era, the global stock market has entered a period of shock adjustment, according to QUICK FactSet data, the total market value of the global stock market has evaporated by about 25 trillion US dollars, The MSCI All Countries World Index, which targets 47 major countries, fell to 702.8, down about 20.7% from its recent high on January 4, indicating that global equities have fallen into a bear market, the second time since the early days of the COVID-19 pandemic (March 2020), and the risk of a bursting global stock market bubble is high.
2. Global real estate bubble
After the outbreak of the new crown epidemic, many countries around the world have adopted ultra-loose monetary policies and superimposed large-scale fiscal stimulus in response to the crisis, causing housing prices in most regions to climb to record highs. The global real estate price bubble rate in 2021 was 14.4%, up about 5.3 percentage points from 2020 to the peak level since 2008; among them, the real estate market in developed economies performed particularly strongly, with the bubble rate expanding by about 7 percentage points in one year; while the emerging market economies performed relatively smoothly, with the bubble rate expanding by about 3 percentage points year-on-year. The rise of the global real estate bubble further lifted the pressure on household leverage, exacerbating the pressure on residents' debt. As of the end of 2021, the leverage ratio of residents in the world's advanced economies was 76.7%, the highest since 2012; among them, Australia (119.0%), Canada (107.5%) and South Korea (106.6%) ranked in the top three, all of which are closely related to high domestic housing prices. Residents in emerging economies saw their leverage ratio rise to 51.9 percent, the highest since data was counted in 2008, and India, South Africa, and Brazil saw significant increases in recent years, driven by rapid economic growth and rising housing prices. High housing prices have overwhelmed residents, and coupled with the shift in monetary policy of major central banks around the world, there is a great risk of bursting the property bubble.
3. Global debt bubble
After the covid-19 pandemic, the world has released unprecedented liquidity, due to the limited absorption capacity of the production and consumption ends, the marginal output of capital has shown a certain downward trend, and most of the liquidity released by monetary authorities will be transferred from the real economy to the high-yield financial or real estate sector. Under the loose monetary policies of major economies, international reserves and currencies such as the US dollar, the euro and the yen have flooded the world, further fueling the expansion of global credit bubbles. Global private sector credit rose to 147.4% of GDP in 2020, the highest since 1961, and credit inflation spawned a debt bubble. According to the International Finance Association (IIF), by the end of the first quarter of 2022, the size of global debt reached $305 trillion, the highest debt size since 1970. From the perspective of debt burden, there are 29 countries with a total of more than 100% of global government debt equivalent to more than 100% of GDP in 2021, of which 10 are developed economies, of which Japan is the most developed economy with the heaviest debt burden in the world (263.1%); there are 19 emerging economies, of which Venezuela (307.0%) is the emerging economy with the heaviest debt burden. Emerging economies have smaller absolute debt size due to their late start-ups; However, due to their relatively weak economic foundation and strong fiscal expenditure rigidity, the relative value of debt is larger, so the debt vulnerability of emerging economies is significantly greater than that of developed economies. From the perspective of debt warning lines, more than half of the world's economies have fallen into debt alerts, with emerging economies increasingly breaking through the debt warning line, but due to their small economic size, despite the sovereign debt crisis, the impact on the global economy is relatively small; However, it is worth noting that the debt pressures of advanced economies, which account for about 40% of the global economy, exceed 90%, and the sustainability of the debt economies of advanced economies is fragile. Especially in the context of global central bank rate hikes in the post-epidemic era, rising pressure on debt payment interest has had a huge impact on the debt solvency of countries with greater debt pressure, especially highly indebted poor countries.
(2) The Fed's monetary policy tightening risks and transmission paths
1. Risks of Monetary Policy Tightening by the Federal Reserve
The global economy has obvious cyclical laws, changes in each economic cycle are often accompanied by the adjustment of the financial cycle and the credit cycle, and the Federal Reserve plays a decisive role in the formulation of global financial and credit policies, so it also plays an important role in the development of the global economic cycle. On the one hand, the tightening of the Fed's monetary policy directly affects the credit expansion of countries around the world and the prosperity of the capital market, the Fed often adopts a loose monetary policy to boost the economy, driving the government, enterprises and residents to increase credit leverage, and the previous loose financial policy and credit policy correspondingly bring excess liquidity and asset and capital bubbles; When the speculative bubble restricts the development of the real economy, the Fed needs to tighten monetary policy, and the consequence of a strong interest rate hike is a hard landing of the economy, exposing debt or financial risks under high leverage, which in turn triggers a financial or debt crisis, and eventually transmits to the real economy and produces a recession. On the other hand, the adjustment of the Fed's monetary policy directly affects the stability of the global economy, such as the sharp tightening of monetary policy may puncture the virtual bubble to expose the economy to the risk of hard landing, which will correspondingly exacerbate the credit crisis of enterprises, financial institutions and even national sovereignty. According to historical data, the Fed will have a recession in 6 to 12 months after the annual cumulative sharp interest rate hike of 150 BPs.
2. The transmission path of the Fed's monetary policy tightening
In 2022, the Fed officially entered the interest rate hike cycle, and the current round of Fed interest rate hikes is similar to the background of the Fed's interest rate hikes in the late 1970s and early 1980s, which are based on the previous loose monetary policy and the sharp rise in energy prices. Based on historical experience, the impact of the Fed's monetary policy tightening will be transmitted to the global economy through the money supply path, the credit cost path, and the international capital flow path. First, the Fed raised the Fed funds rate, the rediscount rate is based on the benchmark interest rate as a reference and then higher, because the currency multiplier is inversely proportional to the rediscount rate, so the currency multiplier falls accordingly, the Fed can reduce the liquidity supply to the US dollar by raising interest rates. The size of the US M2 soared from $16.1 trillion (March 2020) to US$21.9 trillion (March 2022) during the COVID-19 epidemic, an increase of more than 36%; since the Fed began to raise interest rates in March 2022, the size of the US M2 in the US has fallen by about US$210 billion to US$21.6 trillion in April-June. The tightening of liquidity has caused significant constraints on economic activity in the United States, and the US SME Optimism Index fell to 89.5 in June 2022, which is 1.4 lower than the worst performance of the severe period of the new crown epidemic period (90.9), of which the expansion opportunity indicator of small and medium-sized enterprises fell to the level of the most severe period of the new crown epidemic (April 2020), and the economic good expectation index of small and medium-sized enterprises fell to -61, refreshing the lowest since data statistics were recorded in 2003.
Second, since long-term Treasury yields are floating upwards based on benchmark interest rates, the Fed's interest rate hike will drive the 10-year Treasury yield higher, as of July 25, The 10-year US Treasury yield has risen to 2.81%, up 118 BP from the beginning of the year, and 229 BP from the low of 0.52% in 2020; correspondingly, the financing cost of US corporate bonds has increased by about 225 BPs, and the financing cost of high-yield corporate bonds has risen sharply by about 430 BPs. In addition, the 3-month and 6-month US dollar LIBOR has shown a sharp upward trend since March 2022, as of July 25, compared with the first annual interest rate hike of the Fed on March 16, up 182 and 203 BP respectively, the borrowing interest rate of short-term funds between banks will also be transmitted to the loan interest rate of enterprises and residents, and the debt default risk of highly indebted poor families or enterprises will further increase, which will have a serious restrictive impact on residents' consumption capacity and corporate investment ability.
Finally, the Fed's monetary policy changes will be transmitted to the value of the DOLLAR's currency, the 1980s, the 1998 Asian financial crisis and the 2008 US subprime debt crisis and other periods of the Fed interest rate hikes accelerated the dollar rose by about 5%, the current round of Fed interest rate hikes also led to the strengthening of the US dollar, as of July 29, the US dollar index has climbed to 105.84, up more than 10% from the beginning of the year, in the context of the strengthening of the US dollar index, the euro, the yen and the renminbi and other major currencies exchange rates have fallen. As an international settlement and reserve currency, the US dollar will affect the international capital flows of emerging market countries and the balance of payments balance, after the First Official Interest Rate Hike of the Federal Reserve in March, emerging economies in April from capital inflows to capital outflows, the net outflow of funds from emerging economies rose to $9.8 billion, a new high since the outbreak of the crown epidemic, and continued to maintain a net outflow of funds in May and July. In addition, the cost of borrowing and lending in the US dollar and changes in market liquidity will directly affect foreign currency debt denominated in US dollars, which will have a direct impact on the debtor's external debt service strength, resulting in a significant increase in the risk of foreign debt default in countries with weak foreign exchange reserves, and the increase in external risk exposure will seriously weaken the economy.
(3) Russian-Ukrainian conflicts and supply chain disturbances
By combing the history of global recession since the 20th century, it can be found that the global economy has obvious cyclical laws, the world economy often takes 8 to 10 years as a cycle, and each cycle is based on four types of exogenous shocks, including global systemic shocks, specific country shocks, specific industrial shocks and specific shocks. War shocks have played an important role in the economic downturn since the 20th century, with the attributes of specific industrial shocks or global systemic shocks depending on the degree of war, and the Fourth Middle East War and the "Iran-Iraq War" in the 1970s plunged the world into the worst global economic recession since World War II.
The outbreak of the Russian-Ukrainian conflict is more complicated than the Middle East war, which not only makes the geopolitical interest game between major powers more intense, but also revolves around the Western countries led by the United States and the former Commonwealth of Independent States led by Russia, and may also reformulate and reshuffle global energy rules, economic and trade rules and military rules. In addition, as an important member of "OPEC+" and a major global natural gas exporter, Russia has a large voice and decision-making power over global energy supply, and has great uncertainty about global commodity prices led by energy and capital market fluctuations. In the second quarter of 2022, the global commodity price index soared to 255.0, of which the energy price index, metal price index and grain price index rose to 381.6, 229.1 and 152.8 respectively, hitting new highs since the record in 2014, and the rising commodity prices caused huge disruptions to the global supply chain and caused a serious impact on the global trade environment and industrial production.
[1] Egypt and Syria attacked the Sinai Peninsula and the Golan Heights occupied by Israel, respectively, and as great powers intervened to expand the war, Egypt and Syria received armament support from Arab countries and the former Soviet Union, while Israel also received strong support from European and American countries.
[2] A crisis in which 52 U.S. diplomats and civilians were held hostage after the Occupation of the U.S. Embassy in Iran after the Islamic Revolution began on November 4, 1979, and lasted until January 20, 1981.
This article originated from the financial world