Rebound looms as we surpass 1985 bust

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By Cees Bruggemans

The year/year change in new car sales and building plans passed, critical leading indicators of our cyclical condition, have reached lows that now even surpass the 1985 bust (in its time the biggest recessionary condition since the 1920s and 1930s).

Technically it could still get worse, for while February 2009 was distorted negatively by a leap year in 2008, April 2009 will be marred by its Easter and general election holidays, deducting three working days compared to April a year ago.

But even without these distortions, freefall in motor trade and building activity is reaching levels cyclically unprecedented in modern times (now pushing uncharted territory).

Even so, our fourth interest rate cut looms later this month. Thus the interest rate cycle is already well advanced after four months of cutting. Financial markets keep discounting a further 300 points of rate cuts ahead.

Even if this remaining cumulative 300 point cut isn’t delivered in full by the SARB, there will likely still be further lowering of rates, prime eyeing 11% by June 2009.

This should greatly further ease household affordability, reinforcing their ability to once again accelerate the replacement of credit-based durable goods such as cars, but also building activity.

On this score two more factors are important.

Firstly, crucially, global confidence needs be repaired more fully, focusing on banking and credit, but also on housing, equity and job markets, thereby probably also easing our household anxieties.

Though this repair process is highly technical, and surrounded by mysticism (and secretiveness) preventing many ordinary people from understanding what progress is actually made, financial markets have been positively voting with their feet.

Though much skepticism remains about many pitfalls, more is probably being achieved than meets the eye. Meanwhile, overseas households are still deleveraging debt by raising saving levels and businesses remain defensive by cutting inventories, investment plans and labour forces.

Secondly, however, overseas commentators keep suggesting global households actually stabilized their consumption spending during 1Q2009 (and by implication their savings behaviour) even as global industrial output was cut deeply below final sales.

Such front loading of business cutbacks allowed inventory levels first being contained in the face of lower sale prospects and then being reduced to emergency lows.

Perhaps as important as future sales growth expectations, global businesses acted to free up scarce capital while limiting new capital allocations to bare minimum.

Inventory ties up a lot of (dead) working capital while reduced growth prospects changes need for capex.

With bank credit access having become problematic and more costly due to spread widening (though contained by aggressive rate easing), the worldwide industrial collapse of late 2008 also reflected a major business attempt to reduce dependence on banks.

But if this is the bad news, and fully reflective of the banking crisis spillover into the real economy, the good news is that the larger part of this adjustment is apparently coming to an end.

The 4Q2008 and 1Q2009 were major adjustment quarters, with massive GDP declines, especially in large economies such as America, Japan and Germany, but also smaller ones such as Singapore, Korea and Taiwan.

But 2Q2009 is already evidencing a much slower pace of adjustment, at household, inventory and capex level.

By 3Q2009, America and China will probably lead the global revival as the inventory hit to industrial production ends and government stimuli gain importance.

Any renewed upturn in GDP will take place at very low levels of global resource utilization. Unemployment will only peak next year. Household balance sheet adjustment (deleveraging debt mainly through higher savings) will probably remain a drag on growth, as will lowered business capex, given reduced global activity prospects.

Yet there will also be major monetary and fiscal stimuli and though these cannot compensate fully for all the private adjustment, spending cuts were frontloaded, suggesting recovery rather than further sliding ahead.

Though South Africa suffers a fraction of the trauma inflicted on overseas economies by the banking crisis and its fallout, we certainly have incurred collateral damage, through widespread anxiety and the very real spillover into our industrial sectors as exports fell.

But eventually all cycles turn, especially when publicly boosted. Overseas, equity markets lead the charge (though still termed bear market rallies). US leading indicators have already for some time signaled a change of fortune being in the works.

In South Africa we have so far only a rising stock market doing the signaling. But with our main leading indicators sinking so extremely, yet with global repair and our own interest rate cycle now well advanced, we should see shortly more of our leading indicators signaling the coming turn.

Interest rates, equity prices, and leading indicators such as y/y change in car sales and new building plans have histories of signaling turning points in the economy by between six and twelve months ahead of time.

It makes 4Q2009 the quarter to watch for our next upturn.

Source: Cees Bruggemans, FNB, April 20, 2009.


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