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Crisis - what crisis? Stock markets surge as the global economy tanks

David Chance


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Taking stock: Traders wear masks as they work on the floor of the New York Stock Exchange. Photo: REUTERS

Taking stock: Traders wear masks as they work on the floor of the New York Stock Exchange. Photo: REUTERS

REUTERS

Taking stock: Traders wear masks as they work on the floor of the New York Stock Exchange. Photo: REUTERS

Millions have lost their jobs, but US stock markets are at or close to all-time highs. In Ireland, the Government deficit is set to hit €30bn and thousands of companies are surviving thanks only to State supports, but shares in Dublin are racing towards pre-Covid levels.

US billionaires added more than $430bn (€380bn) to their wealth as the financial markets went into overdrive in the past two months, but the World Bank is warning that we are in one of the biggest recessions since the 1870s. So why is the S&P500 - the most widely watched stock index in the world - at a record high, and how come Dublin's ISEQ 20 index of leading shares has added more than 300 points since its March low, to sit just 150 points off its year highs?

It is not just stock markets that are roaring ahead. There are now negative yields on the 10-year bonds issued by eight governments. This means you must pay the state when you lend money to them.

Ireland was inundated with €66bn of bids of when it borrowed on the market this week despite a return for investors of just 0.28pc.

The first thing to note is that the market is not the economy.

"When the dust settles from the pandemic, the environment will return to modest economic growth, low interest rates and benign inflation," Michael Arone, a senior strategist at State Street Global Advisors, the world's third-largest asset manager, wrote in a recent report.

"Towering debt levels, aging demographics and the disinflationary forces of technology will only accelerate the trends. This backdrop will continue to reward owners of financial assets, but it will fail to reignite the broader economy," Mr Arone wrote.

At the same time as governments are looking to fill their coffers with record borrowing, companies are also piling on debt at an unprecedented pace, with the US blazing a trail and others following. China, for example, is also seeing double-digit annual credit growth.

You can understand why. First-quarter earnings from the companies in the S&P500 were half the level recorded in the final quarter of last year and were down by two-thirds before write-offs.

According to Charles Dumas and Andrea Cicione, of consultancy TS Lombard, a fair amount of "financial engineering" has been going on.

"Suppose I am the CEO of a major US company. And then suppose investors say they will 'look through' any dip in 2020 earnings. How might I respond?" they wrote in an earnings analysis.

"Well, obviously I'm as pure as driven snow - but even I will be tempted to stuff whatever special charges I might possibly justify into my 2020 profit and loss account. As Oscar Wilde is said to have said: 'I can resist everything except temptation'. So, what has happened? Temptation has been running rampant!"

With all those charges out of the way in 2020 earnings, the likely 2021 rebound fuels a huge stock market rally that enriches investors. At the same time, trillions of dollars, euro, yen and pounds have been pumping into economies for a decade and more by central banks.

The "big four" heavy hitters of the central banking world - the Federal Reserve, European Central Bank, Bank of England and Bank of Japan - have now printed so much money their combined balance sheets stand in excess of $20 trillion.

That figure is equivalent to the entire economic output of the US. This has been given a fillip by the massive expansion of government spending in response to the pandemic.

Even the notoriously frugal Germans have decided it is time to open the spending taps with an additional economic package announced last week that was worth an eye-popping €130bn.

All of this money has had to find a home, and given that firms are not by and large investing, that home lies in financial markets. While stock and bond markets can ride this surge of liquidity to new highs, it may not help the real economy. After the fears of the pandemic evaporate, there still will be a huge loss of production. Bankruptcies and job losses on an unprecedented scale will follow.

According to a World Bank report, since 1870 the global economy has experienced 14 global recessions and current projections imply the Covid-19 global recession will be the fourth deepest in this period and the most severe since the end of World War II.

"Current projections suggest that the Covid-19 recession will involve a 6.2pc decline in global per capita GDP, making it the deepest global recession since 1945-46, and more than twice as deep as the recession associated with the global financial crisis," the bank said in its latest assessment of the world economy.

"Among the 14 global recession episodes of the past 150 years, it would rank as the fourth deepest."

The question may not be why financial markets have powered ahead of economic recovery, but rather when they will reconnect to economic reality.

Irish Independent