Elliot Eisenberg, Ph.D.
GraphsandLaughs, LLC

May 1, 2019

The global economy got off to a weak start in 2019. Equities went into a tailspin, the US government was closed for over a month, the weather was terrible and trade disputes seemed intractable. But of late, things have turned around. The government is open, the US and China seem on the brink of a trade deal, domestic stock markets are at an all-time high, and Q1 GDP came in at a surprisingly strong 3.2%. That said, the global economy really is cooling. At the start of 2018, there was broad-based synchronized global expansion, the broadest since at least 2010. Recently, forecasters have yet again reduced their growth estimates for 2019 and 2020.

It’s tempting to blame President Trump for the reversal. After all, the global deceleration began around the time President Trump raised tariffs on washing machines and solar panels and then worsened as America slapped tariffs on steel and aluminum, and then on an increasing range of Chinese goods. But there is more to the global swoon than Trump’s trade war.

The current global downturn bears a striking resemblance to the economic troubles of 2015. Then too manufacturing faltered and markets also swooned. While it was partly due to the collapse in oil prices, China also played a big part. After massively stimulating its economy during the global financial crisis of 2007-08, by 2015 China’s leaders sought to wean their economy off easy credit, which had grown at mind boggling rates from 2009-14. At the same time, China also liberalized its financial markets, which led to massive capital flight and a stock market collapse. Financial turmoil radiated outwards, threatening to tip large swaths of the world economy into recession.

China quickly reversed itself and re-imposed capital controls and their stimulus taps were turned back on; monetary policy was eased, and their deficit skyrocketed to well over 10% of GDP. Having survived that close call, China once again began to focus on stemming the ever-growing pool of fiscal red ink. To that end, lending to highly-indebted firms was restricted, and the government embarked on a bout of fiscal tightening on a scale rarely seen. Like clockwork, the deficit fell, but domestic demand weakened along with imports. In short, the world economy’s recent ups and downs are most closely related to China’s on-again off-again struggles to reform its economy and curb unruly borrowing.

China should not matter as much as it does. Its tight capital controls keep its financial links with the rest of the world modest and it’s not yet the engine of global demand the way that the United States is. The problem is that the rest of the world is simply unprepared to lean against any Chinese headwinds. Interest rates remain at extraordinarily low levels, and as a result the United States has little room to cut rates while Japan and Europe have none. While fiscal policy could pick up the slack, Europe is unable to coordinate their policies and thus nothing gets done, while the US is already running unconscionably high deficits.

Fortunately, China is once again turning on the stimulus taps, and in the process boosting growth and business and consumer sentiment. As a result, the current slowdown may well be as fleeting as that of 2015, if you even remember it. That said, these episodes show that the developed world has essentially chosen to put itself at the mercy of the fiscal management of the Chinese Communist Party!

Elliot Eisenberg, Ph.D. is President of GraphsandLaughs, LLC and can be reached at Elliot@graphsandlaughs.net. His daily 70 word economics and policy blog can be seen at www.econ70.com. You can subscribe and have the blog delivered directly to your email by visiting the website or by texting the word “BOWTIE” to 22828.