Global financial crisis 2015: is it really possible? Below you’ll find the answer, as I dive into the global financial crisis causes and what today’s economic events have to say.
Global Financial Crisis Explained…
It’s only been a few years, but there are already reams and reams of articles and books written about the global financial crisis of 2007–2008. The who, what, why, when, where, and how; the devastating effects; and how we can prevent it from happening again have all been covered.
But the fact of the matter is that it is happening again. And just like in 2007, few seem to be ringing the alarm bells. Why should they? After all, the U.S. stock markets are at record-highs. The S&P 500 is up almost 50% since 2013, and the Dow Jones Industrial Average is up 35%.
We should be concerned about a global financial crisis in 2015. Flashbacks to 2007/2008 remain vivid, as tanking oil prices, currency issues, a weak global economy, geopolitical tensions, and Greece and Japan prove our troubles are not over yet.
Actions by the Federal Reserve and central banks around the world may have put a band-aid on the economic crisis, but the wound is still there. And investors could be in for some unpleasant surprises in 2015.
Oil Crisis in 2015 Affecting Global Economy
Between July 2014 and the end of October, oil prices dropped more than 22%, from $105.00 per barrel to $81.00 per barrel as a result of increased supply and a weakening global economy—the worst metrics from a supply/demand perspective.
Things got even worse in late November after OPEC (Organization of the Petroleum Exporting Countries) announced it would not reduce its output. Since then, oil has fallen even further, currently hovering around $47.00 per barrel; that means oil prices have plunged more than 55%.
While the oil crisis in 2015 has temporarily stabilized, investors are hoping for a rebound. Unfortunately, they’ll be waiting an awful long time; $40.00 oil could be the new norm, and a move further to the downside isn’t out of the question.
While the average consumer is enjoying a break at the pumps, longer-term, lower oil prices will hurt the economy. It is already forcing many producers to cut back on exploration, and unprofitable producers could call it a day.
Already more than 800 rigs have been shut down. Based on growing stockpiles of oil, hundreds of additional rigs are expected to be axed. If the price of oil hovers around $40.00 per barrel for too long, thousands of rigs could be shut down. (Source: Business Insider, March 20, 2015.)
Lest we forget, a sustained oil crisis could result in serious civil unrest in countries that rely heavily on oil revenue, including Russia, Venezuela, Libya, Kazakhstan, Nigeria, Iran, United Arab Emirates, and Kuwait.
The low price of oil will also hammer the economies of first-world countries. In Canada, crude oil accounts for about 14% of exports. Continued low oil prices will negatively impact the country’s gross domestic product—it already is.
Central Banks Creating Global Financial Instability
To encourage lending and kick-start the economy, central banks have been easing their monetary policies. The Federal Reserve initiated three rounds of quantitative easing (QE) to help guide the U.S. through the global economic crisis, snapping up bonds and lowering its key lending rate to virtually zero.
What did three rounds of QE accomplish? They increased the Fed’s portfolio of bonds by roughly $4.0 trillion, caused the national debt load to soar, destroyed retirement savings, fuelled an underperforming stock market, made borrowing money easier, and widened the gulf between the rich and the poor, so much so that the once-thriving middle-class is disappearing.
Thanks to the weak global economy, other central banks have followed the Fed’s lead in a race to devalue their currencies. So far this year, 30 central banks from around the world have slashed their rates; more than a dozen have done so twice.
Sweden and Switzerland have cut their benchmark lending rate into negative territory. That means banks have to pay to park their cash with their central bank. Rates are down, lending is up, and economies worldwide are still in the dumps.
Aside from the U.S., central banks are cutting rates and buying bonds—mostly because they don’t know what else they can do. There’s nothing left in their playbooks for financial manipulation.
While it’s really nice that global central banks are doling out cheap money, the fact remains that central banks cannot be the foundation of an economic recovery. A true recovery comes on the heels of job creation, revenue growth, and wage increases—not the continuous flow of credit.
Global Economy Anemic
Despite years of low interest rates and a helping hand from global central banks, the global economy is anemic; there’s no other way to put it.
The International Monetary Fund (IMF) said recently that growth trajectories in China, Russia, the eurozone, and Japan will stunt global GDP growth at 3.5% in 2015 and 3.7% in 2016. China, the world’s second-biggest economy, is predicting its slowest growth rate in the past quarter-century. (Source: International Monetary Fund, January 20, 2015.)
The Russian bear is hibernating. The country will slip into a recession in 2015 with negative GDP of -0.3%, rising to a dull thud of -0.1% in 2016. The eurozone, the world’s biggest trading region, is expected to grow just 1.2% in 2015 and 1.4% in 2016. Japan’s economy will advance a measly 0.6% in 2015 and 0.8% in 2016.
Low oil prices have forced the Organisation for Economic Co-operation and Development (OECD) to slash Canada’s growth forecasts to 2.2% this year, down from its 2.6% forecast announced this past November. It gets worse… Canada’s growth forecast will sink even further next year to 2.1%; the previous estimate was 2.4%. (Source: OECD, March 18, 2015.)
What is Canada doing to counter the effects of falling oil prices? In January, the Bank of Canada lowered its benchmark interest rate from an even one percent (where it has been pegged since September 2010) to 0.75%. If the cost of oil remains low, there is a good chance the Bank of Canada will need to cut its rate even further in the coming months.
The only mildly bright spot is the U.S., where 2015 growth projections held steady at 3.1% in 2015. But, estimates retrace a little in 2016 to an even three percent.
Overvalued Stock Market
The stock market is only as strong as the stocks listed on the exchanges, and stocks are only as strong as the economy supporting them. Neither the U.S. economy nor the global economy is doing that well.
Yes, I know the unemployment rate has fallen to around 5.6%. But most of the jobs being created today are low-paying, part-time jobs. The underemployment rate, on the other hand, has been above 11.0% since 2008.
Not surprisingly, wages are stagnant, retail sales data have been disappointing, and inventory levels are on the rise. Weak oil is supposed to help boost consumer spending. It isn’t. That’s bad news for a country that gets roughly 70% of its GDP from consumer spending.
Despite the weak underlying economic indicators, the U.S. and global markets are soaring. Why? Artificially low interest rates have been fuelling the stock market higher since early 2009. With banks providing zero returns, income-starved investors have nowhere else to put their money but the stock market.
And they’ve been willing participants. Retail investors continue to buy U.S. stocks at a record pace. In March, investors injected $46.8 billion into equity mutual and exchange-traded funds, the highest monthly inflow since October 2013. (Source: The Financial Post, March 23, 2015.)
The strong U.S. dollar and weak oil are beginning to take their toll on U.S. corporate earnings. Earnings growth for S&P 500 companies is projected to fall 3.1% in the first quarter…as opposed to posting a 5.3% gain.
It gets worse. For all of 2015, S&P 500 earnings growth is going to crawl in at 1.3%; the lowest rate since the Great Recession (the first one) and way down from the 8.1% growth rate expected at the beginning of the year.
Still, investors, in love with low interest rates, continue to pump the stock market higher—and not in any rational way. According to the CAPE ratio (a valuation measurement based on earnings) of the S&P 500, the stock market is overvalued by 68%; the ratio is at 27.85. That means that for every $1.00 of earnings a company makes, investors are willing to pay $27.85. The last time investors lifted the ratio to those heady levels was back in late 1999, just before the dot-com bubble put everything into perspective. (Source: Yale University web site, last accessed March 24, 2015.)
The Federal Reserve could douse the Wall Street hootenanny when it raises interest rates later this year. Not only could it further exacerbate the worldwide economic crisis and make investing in the stock market less attractive, it would also increase the cost of borrowing, which is widely expected to negatively impact corporate America.
The U.S. dollar is on fire, gaining around 20% over the last 12 months when compared to a basket of leading major currencies. It’s also gained tremendously since the beginning of the year. Why will this further the global financial crisis in 2015?
On December 31, one euro was equal to USD$1.21; today, one euro is worth about USD$1.09. On December 31, one U.S. dollar was worth CA$1.16; today, one U.S. dollar is worth CA$1.25. On September 30, one U.S. dollar was worth 119.90 yen; today, one dollar is worth 120.94 yen.
On the one hand, a strong U.S. dollar means the U.S. economy is getting stronger. On the other hand, a strong U.S. dollar makes it more difficult for foreigners to do business in the U.S.
A strong currency is also tough on U.S. companies that derive a portion of their sales from abroad. Revenue and earnings from foreign markets are worth less when converted into U.S. dollars. On top of that, costs become less competitive when compared to businesses operating in countries with declining currencies.
There are fears that the strong U.S. dollar will result in an “earnings recession,” defined as at least two successive quarters of declining earnings on a year-over-year basis. Historically, a 25% gain in the U.S. dollar in a 12-month period correlates with a 10% decline in the market’s earnings per share.
Case in point, roughly 20% of all the S&P 500 companies have revised their first-quarter earnings guidance lower, with half mentioning the negative effects of the stronger U.S. dollar. And the impact of the significantly stronger U.S. dollar could negatively impact U.S. corporate earnings for years. (Source: FactSet, March 20, 2015.)
Geopolitical Tensions Contributing to Economic Crisis
Finally, a global economic crisis could arise out of geopolitical tensions and easily derail both the U.S. and global economies. Tensions remain between Ukraine and Russia (and the eurozone), between the U.S. and Russia, and between China and Japan. Then there’s the internal conflict in the eurozone with Greece, in particular, but also Spain, Italy, and Portugal.
The rise of ISIS continues to keep the world on edge, as does China’s territorial conflict with Japan, the Philippines, Vietnam, and Taiwan.
This is bad news for global peace and economic integration. Geopolitical tensions mean multinational companies will think twice before investing abroad. Those that already have could shut down once-profitable operations, others could be forced to run unprofitable operations, while still others could have their properties confiscated.
The U.S. economy might look stable right now but it is just as, if not more, susceptible to a global financial crisis in 2015 as it was in 2007.