One of the most controversial questions to be addressed at the World Economic Forum 2018 in Davos is:

Can we have a World Financial Crisis in 2018?

After some hesitation and reflection, I decided to offer an assessment  on the various themes that has occupied mainstream financial and macroeconomic discussions around the world, based on my experience and expertise.

I hope to provide bimonthly presentations. As it relates my subsequent presentations, my reflections will address macroeconomic themes in general. My focus in the next presentations, however, will be centered around crypto-currencies and their short term and long term implications.

Today I seek to analyze the two main positions on the notion – Can we have a World Financial Crisis in 2018?

Let us proceed with the discussion of the main arguments of the optimists and skeptics about the possibility of a crisis in the short term.

Presently, it is highly unlikely any economist, or even the most accomplished experts, are able to predict in the next months with certainty a global financial crisis similar to that of 2000, 2008 and others. Complex financial and economic situations depend on multiple factors, notwithstanding extenuating phenomena like threats of war (for example: the USA verses North Korea) Market prices are unable to fully factor in the cost of these circumstances today.

Firstly, let us reflect on the optimists arguments for the possibility of a Financial Crisis in 2018:

Optimists, here, tend to believe the possibilities of a crisis are remote. They do not detect critical imbalances and instability today that can give rise to a reversal of the current financial situation.

1. The global financial system has a lot of liquidity, as the main central banks have developed a very expansive monetary policy.

2. Based on forecasts, world GDP is expected to increase by 3.9% this year; this is said to be the best year of the last decade.

3. Strong generalized growth is now occurring across the world because countries have implemented policies and framework in the past and are now reaping the benefits.

4. Comprehensive growth is now occurring worldwide, in the Americas (North and Central) throughout Europe and Asia, and in particular Japan.

5. Banks are not given as much leverage as in the past. There are now strict regulatory policies.

6. Very low interest rates stimulate economic growth worldwide, because they are now adopted in most regions of the globe.

Now let us look at the evidence for the skeptics’ arguments for a short-term financial crisis:

“Governments no longer control their monetary policies, black clouds approach” (Risk report of the World Forum)

1. In the last 10 years, the main Central Banks of the world (EU, Europe, Japan) have developed an extremely aggressive liquidity-injecting monetary policy facilitated through very low interest rates. This will be unsustainable, as full employment is already being achieved in some regions, particularly in the USA.

The 3 main Central Banks of the World have very high levels of debt, debt extending beyond the criteria of reasonableness. In accumulation they bought about 8.35 trillions of USD and injected it into the world economy. In the region (the USA, Europe Japan) their GDP in this same 10 year period only grew to about 2.2 trillions. The remaining GDP was distributed by the other regions.

2. The price of shares \ assets at World-wide level were very high, with a large ratio compared to profit. In the last decade the value of companies in the Stock Exchange has gone from 35 Trillion USD to a forecast of 85 trillion USD at the end of this quarter. This is what constitutes a large “bubble” in power.

3. The new tax policies implemented by the US, tax exemption for companies are very aggressive and not compatible with further growth of net domestic product, as it is almost full employment and entail a rapid deterioration of its domestic savings.

4. China also chose to use its domestic savings by way of macroeconomic policy to heavily invest domestically.

5. The US has already begun to stop buying treasuries to stimulate its economy and at any moment interest will begin to rise which will dilute the inflationary tensions, related to wage increases (given the almost full employment in the US that is already in a more advanced cycle than Europe and Japan).

Conclusion:

At first glance, the optimists seem to have sound arguments. There is a sense of prosperity such as: new business opportunities, low interest rates, technological leaps and strong GDP growth globally.

Citizens get a sense that his life is improving, and above all there is an illusion of being in a phase of great stability – increasing economic and financial results that will improve the standard of living in the short term for all entrepreneurs and citizens of these countries.

That’s not my opinion!

I think we are nearing the end of the World-wide Cycle of Prosperity in the Great Economies, particularly in the US (they are more advanced in the Cycle)

Soon, Europe, Japan and the remaining countries with significant GDP will progress and conclude their cycles.

This is a result of a monetary policy of the central banks too aggressive.

As the World is still heavily dependent on the US dollar, any adjustment made by the US will have exponential effects throughout the rest of the world and will slow down the development of the later cycles in their exhaustion process – as in Europe and Japan.

What strong impacts will we see at the end of 2018 and during 2019-2020?

An increase in US interest rates of 0.75% by the end of this year and probably 1.5% more in 2019, with a continued increase in 2020.

-Drastic liquidity reduction, given increasing inflationary prospects, with full employment in the US and then elsewhere in the world.

 -Immediate consequence- the decrease in liquidity in the system will provide a rush on devaluations of assets in particular in the Stock Exchange, which can reach at least 30% and in some cases a rapid 50%.

Generally there is great worry and anxiety as it relates to the future growth of the world’s largest economies, especially considering new investments.

The Financial Crisis will take effect during the second half of 2019 and will expand immediately on the global level, with consequences very difficult to predict today!

It would be great news if I am wrong!

19 \ 01 \ 2017

Armando Faria
Economist
CEO of Trade by Trade