U.S. Economic Recession is Here

Slowdown in the Economy, Trade Wars and Monetary Policy

We are currently in the longest economic expansion in American history but there are several signs that indicate that we might be close to its end.

Although no one can predict exactly when the next financial crisis and recession will hit, there are many economic variables to watch out in order to understand that we are headed towards that direction.

In fact, it’s possible that we already are into a recession and we just don’t know it yet.

Let’s see what happened recently.

Monetary Policy

The recent decision of the Federal Reserve of cutting interest rates for the first time since 2008, by 25 basis points (0.25%), is a strong signal that the economy is not so strong.

Up until now, the FED had a data-oriented behavior in conducting its monetary policy. Right now, what they are doing is stimulating the economy before the crisis shows up.

In his speech Jerome Powell said that “the outlook for the U.S. economy remains favorable and this action is designed to support that outlook. It is intended to insure against downside risks from weak global growth and trade policy uncertainty, to help offset the effects that these factors are currently having on the economy and to promote a faster return of inflation to our symmetric 2 percent objective”.

If the outlook was really that good, is there the need for a monetary policy stimulus?
(The funny thing here is that less than one year ago the talkings were about interest rates hikes)

In addition, by doing that they are putting themselves in a very bad position when the next crisis really comes.

Now, the central bank’s ability to fight off the next recession or crisis is severely compromised.

fed-interest-rates-201907

The Fed will certainly use the lower-interest-rate tool in the next recession to try to fight it back. However, its power has much more weakened from the last time since the starting level is less than a half and interest rates are already declining now.

Yes, lower rates could lead to some temporary lending and growth, but that might not be a good reason to make it harder to fight the next recession.

Trade Wars

Trade wars are a really hot topic and there are good reasons for that. The confrontation between U.S. and China goes beyond international trade and it is a political arm-wrestling.

Yet, trade wars could seriously become on of the catalyst of the coming recession if no agreement is found.

Morgan Stanley estimated that a recession could come in nine months’ time if President Donald Trump goes one step further in his plan to impose tariffs on Chinese-made consumer products.

All these uncertainties and trade tariffs can seriously harm global growth, bringing it to levels considered as global recession.

The problem with tariffs is that they are self-reinforcing as countries respond to each other’s actions.

It’s an impasse that weighs a lot among the uncertainties for economic growth. Probably, if it wasn’t for trade wars, the FED might be rising interest rates and strengthening the dollar instead of trying to counterbalance the uncertainties coming from international trade.

The Bigger Picture

When considering what’s happening right now, it is very easy to shift the attention to the short-term.

Yes trade wars have a significant impact on the global economy and yes the fact that the FED decided to cut interest rates is relevant for your investments.

However, the truth that you can’t really see if you keep your attention focused on these events is that:

No matter what happens today or tomorrow, the economy works in cycles.

And these economic cycles are governed by a succession of causes and effects.

In considering what will be next, it always happen that market participants tends to project the current scenario of what has already happened in the future.

The problem however, is when a given behavior produces big imbalances. In that case, it is guaranteed that a given set of circumstances can’t last indefinitely.

That is exactly what has been going on with monetary policy and debt.

Since the financial crisis central banks have been lowering interest rates and doing quantitative easing (i.e., printing money and buying financial assets) in ways that are unsustainable.

This provided a huge stimulus for the economy but at the same time it led to another increase to the overall amount of debt that is frighteningly high. In fact, the situation since the financial crisis didn’t improve at all.

It may continue to go on for some years, but there is no monetary policy stimulus that can avoid the unavoidable: sooner or later we will have to deal with the problem of debt and liabilities.

Traditional measures won’t be enough, interest rates are already low and it is likely to see other forms of easing like currency depreciation and public debt monetization, with clear effects on the economy, inflation and stores of value like gold.

This might be a solution to the problem of debt. Sounds too strange or extreme? It has already been done many times in the past and what convinces me this time, is that central banks have little choice unless they want to create the worst crisis ever seen and deemed accountable for it.


Thanks for reading!
Did you like this article? Did you learn something new?
If so, feel free to share this article with your contacts and check this page for more articles like this.

This article is for informational purposes only, it should not be considered financial advice. You can read the full disclaimer here.

Ready to get serious about your investments?

Leave a Reply

Close Menu