How China Can Cause the Next Global Recession

By Mark Eshman, ClearRock Chairman + CIO August 26, 2019 Insights

U.S.-China Relations

Trade War

Trump-initiated U.S.-China trade talks have persisted since early 2018.

After Nixon surprised the world in 1972 as the first American president to visit China, the connection has become one of the most important bi-lateral relationships in the world.  Every America president since Nixon (except Jimmy Carter) has visited China.

Due to its centrally planned economy, its manufacturing prowess, and its low cost of labor, China has emerged as the second largest economy in the world.  The world, in turn, has become dependent on their highly functional supply chain. But they have leveraged their competitive advantages over the years by among other things, misappropriating other countries’ technologies and consistently violating human rights of their people.

Looming Shocks to the Economy

American trade with China was among one of Trump’s lynchpin campaign issues, but his tariffs have had a predictably negative effect on the US economy.  And things could get worse.  Nouriel Roubini, an NYU Stern Business School professor and a leading economist who famously warned of the Great Recession in 2006, recently wrote an article in Project Syndicate entitled, “The Anatomy of the Coming Recession.”

Roubini cites three looming shocks to our economy that could upend the supply side of our economy:

  1. The Sino-US Trade War
  2. The slowly brewing cold war between the US and China over technology
  3. A possible US – Iran confrontation that would increase oil prices

The net result, according to Roubini, would be a full-scale US recession marked by inflation.  In other words, stagflation.  His reasoning is clear:  when the price of goods from China rise due to tariffs and the price of oil increases, consumer spending slows and US aggregate demand comes to a halt.  Since consumer spending represents 2/3 of US GDP, this would be significant.

Jay Powell

Current Chair of the Federal Reserve, Jay Powell.

Unfortunately, Roubini concludes, with interest rates around 2%, the Federal Reserve will have little ammunition left to lower rates to revive the economy quickly.  And any fiscal policies such as tax cuts or a spending bill would accelerate inflation.  Consequently, he says, only a resolution of the supply shock, i.e., solving the China trade issue would lead us out of recession.

So What Now?

The US economy has been in a very long expansion.  Whether or not China and the “Trump Tariffs” will be the proximate cause of the next recession, investors need to be prepared for the next economic slowdown.

We have been advocating a defensive tilt within each asset class by having a more conservative focus on various sectors of the economy, holding longer duration bonds, and implementing some inflation-protection for good measure.  Finally, it’s critical to maintain a globally and broadly diversified portfolio and rebalance periodically.  We believe that’s the best prescription to weather the coming recession.

What You Should Do Next:

Disclaimer:

Some material in this article is based on information from a variety of sources we consider reliable, but we do not represent that the information is accurate or complete. The material provided herein is for informational purposes only. Due to various factors, including changing market conditions, the content  may no longer be reflective of current opinions or positions. Moreover, you should not assume that any  discussion or information contained in this article serves as the receipt of, or as a substitute  for,  personalized  investment  advice  from  ClearRock  Capital,  LLC.  To  the  extent  that  a  reader  has  any  questions regarding the applicability of any specific issue discussed above to his/her individual situation,  he/she is encouraged to consult with the professional advisor of his/her choosing. A copy of our current  written  disclosure  statement  discussing  our  advisory  services  and  fees  is  available  for  review  upon  request.

ClearRock

Author Mark Eshman, ClearRock Chairman + CIO

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