The fall in oil prices is good news for consumers. But the market strife behind it certainly isn’t
Imagine two children with ten pebbles each. We’ll call them Lily and Cillian. The two children have three metal buckets: one red, one green and one blue. If they get enough pebbles into the right bucket, they are given a prize.
Let’s look at Lily first. Like Cillian, the way she allocates the pebbles determines the size of the prize she gets. Lily is a portfolio manager, with a portfolio of pebbles to manage. She doesn’t care about the buckets, or the pebbles, or who owns those pebbles. She just cares about her prize. If She thinks there is something wrong with one of the buckets, she’s going to try to move her pebbles out of the bucket as quickly as she can.
Now let’s bring Cillian in again. He sees Lily moving her pebbles out of the bucket and thinks something like this: Lily knows something I don’t, or she’s making a mistake. Either way it’s a better bet for me, personally, if I get my pebbles out, too. One buckets gets quickly emptied as a result. Note that nothing has changed, except the expectations of the two prize-driven, pebble-moving children.
This is exactly what has happened to the markets in the last few days. Market participants are often worse than children. They don’t get sent to their own room in the house, in fact when they make mistakes you typically buy them the house.
Of course, each market participant just wants their bonus and so is extremely myopic. That’s at the microeconomic level, where individual decisions are made.
At the macroeconomic level, when we add up the actions of all the Cillians and Lilys, we know markets are not the smoothly adjusting mechanisms we see in textbooks. Markets boom, they bust, and sometimes they collapse and fall around the place for what seems like no good reason at all. Like children.
The Chinese economy has been stuttering for some time now, with industrial production, a fairly reliable measure of its economic activity, tanking.
US crude oil prices touched a 12-year low on Thursday. Many developing countries have borrowed heavily in debt instruments denominated in US dollars. Now these countries are getting whacked with an additional debt-service burden because of the US dollar’s now multi-year appreciation.
The Obama recovery is good for almost everyone, but not absolutely everyone. In international economics, everything is relative. For one economy to rise, it may be relative to another staying still, or even falling behind.
Speaking of falling behind, the Chinese stock market lost an estimated $1 trillion in one day as pebble-throwers decided to move their particular pebbles out of Chinese equities and into something else, in order to save faces, cover arses and secure bonuses.
The move prompted a sell off of almost everything in other buckets (or asset class, you get the metaphor), as everyone even remotely worried about what might be related to the Chinese economy got the hell out of Dodge.
Before collectively hyperventilating, we need to remember that 99 million rich people who trade on the stock market in China losing a bit of their money doesn’t reflect the true strength of the economy composed of 1.4 billion people who live and work in the real economy there.
Besides the fact that state intervention can be relied on to prop up the stock market, the extent of financialisation in China – the importance of the financial markets – is much less in China than in the US or Europe. The weakening exchange rate is a much better indicator of the health (or lack thereof) of the economy.
Chinese households and businesses have been trying to get their capital out of China, causing reserves to drop in the Chinese central bank, to the extent that capital controls have been tightened to reduce the outflow. The weakening can clearly be seen across any index of the Chinese currency, the renminbi.
What does any of this have to do with Ireland? A tiny, open economy on the edge of western Europe, we are benefiting from demand for our sovereign bonds and property assets going way up. This week, you could get an Irish ten-year benchmark bond at a yield of 1.156 per cent, which is as close to free money as you’re likely to get in this lifetime.
Those are the good points. The threat for Ireland is that if China collapses as a market for our goods and services, it means the markets for other economies we trade with are in trouble, too. Given our reliance on exports for growth, Ireland is much more exposed than Britain or France.
For perhaps the first time in the last 50 years, when China gets a cold, we are all in danger of getting it, too. It’s not just smaller countries like Kazakhstan (which exports massively to China) which will be hurt, either. A country like Australia exports 36 per cent of its stuff to China. Brazil, a country already suffering from the collapse of prices for its exports, sells China 19 per cent of its stuff.
On average, the G20 sells China 10 per cent of all of its stuff. If China only buys 6 per cent in 2016, these economies are bunched. And with global growth stuttering, the emerging emerging market crisis (no pun intended at all) will challenge the growth prospects of the rich global north.
So the second real threat to Ireland is the weakening of economies across the developing world, beginning in China but taking hold in countries like Saudi Arabia, where, for the first time in a very long time, oil revenues cannot be counted on to buttress the monarchy’s repressive regime. Instead there will be fiscal austerity and a sell-off of state assets such as Saudi Aramco, a prized state asset if ever there was one. The Saudis privatising Aramco would be like Ireland privatising the Skelligs or Daniel O’Donnell. It is an integral part of their national identity.
An inescapable irony of our current run of good luck is that despite cheaper-than-cheap oil, a rapidly growing economy and a relatively benign international environment, we are choked with debt and can’t lever up to plug our infrastructural gaps at the very moment that it is ideal to do so.
Like kids throwing pebbles into coloured buckets, in the short term, greedy rich people moving money around affects no one. In the medium term, if a global malaise gets a grip on emerging markets, and with the fiscal and monetary engines in the global north tapped out after the crisis of 2008, we may see giants collapse.
It’s yet further reason to limit our spending increases on day-to-day items, and store up the fruits of our good luck period of economic growth for the downturn to come, rather than handing them out to buy votes and power.