Although Double Dip Recession is Expected and Numbers Justify it, I still don't believe in it.

Yesterday's Housing report sent shock wave in economists in US and there are more and more people saying about Double Dip Recession. Graph Below clearly shows direction towards south in Home Prices.

US Housing Price Graph in % Change.  Ref : http://foreclosurenv.wordpress.com/2010/12/01/united-states-housing-prices-still-crashing/

In India, Graph Below shows Interest Rates rising again towards "Previous Crash" level. So definitely it's another number supporting recession.

India Interest Rates Chart

In China, Interest Rates have started going towards North, and there are reports of Real Estate crash already.

China Interest Rate Chart.

With all these Data many are already concluding that we are entering in Phase 5, 6, 7 of economic cycle and Hence Recession !!! 


However I don't believe that Recession is underway because in western world despite Stimulus, Inflation level has not been out of hand. This will give a clear license to Central Banks to have another Rounds of Quantitative Easing / have more easing under current QEII or Simply Allow banks to lend freely. In emerging markets there may not be Stimulate. And they may raise interest rates in "baby steps", Carry Trade (i.e. borrowing money from places where interest rate is low, and investing in other country) will keep liquidity high.


In 2011 / 2012 time frame I think governments across world will be busy in stimulating economies further and convince people by steps like..


1) Raising Minimum wage.
2) Encouraging Employers for Higher wages to counter higher living prices.
3) Never increasing Interest rates aggressively enough to allow bubbles blast.
4) Ask people to compromise on "Prices vs Unemployment".
5) Redefine Comfort Level of Price Index .. e.g 2 is considered as OK in US they will say let's have 5 as OK. in India 5.5 is considered as "Comfortable Level" They may say Let's have 8 as Comfortable level.
6) Asking banks to resume lending activity more generously to help economy grow again.
7) Keep on telling people that as prices are increasing, so will your wages and everything will be normal.
8) Keep on telling people that it's temporary and everything will be fine soon. 
9) At some stage when inflation goes beyond control they will introduce "Price Control" i.e. to restrict food / essential commodities at government control prices.


Concluding central banks and Governments will Prevent Double Dip. Instead by resuming Lending, they can give very good results in short to mid term of course for Wall Street !! .


It will be however very interesting to see how countries like Germany / Singapore react to all this. There is a very good chance that they may opt for entirely different path towards austerity.

The Ball is in China’s Court. Part 1

Last month I was in my home place in India. While traveling, an article in Times of India (leading Indian News Paper) caught my attention. Article was about CBSE Board (One of the Key Educational System) introducing Chinese Language (Mandarin) in Schools. In article it was clearly mentioned that looking into growing economic importance of China, Mr. Vineet Joshi Chairman of the board has decided to introduce Mandarin in schools.

I was happy to read that article. Breaking the barriers of conventional way of education i.e. Local Language + Hindi (India’s National Language) + English, CBSE board decided to go for Mandarin. Obviously China's growth story deserves this attention. Recently China developed a train that can run at 262 Miles per hours (Fastest in World). It's developing Aircrafts now, There are huge number of patents  by Chinese Scientists. So it’s not just low cost manufacturing anymore and there is a lot that china has achieved over years. Clearly we are today in a world where everyone is ready to accept China in its new role of economic superpower (Willingly or unwillingly). Map Below tells us why.

Map of countries by foreign currency reserves and gold minus external debt based on 2009 data from CIA Factbook

While having all these thoughts in mind I turned some pages of Newspaper and found one more article on China. I don’t remember title exactly but it was related to “Attitude Issues of China with its neighbors”. It was clearly mentioning unhappiness of China’s neighbors e.g. India, Japan, S Korea. In recent incidence of arrest of marine Japan found itself in kind of secondary position. (Historically Japan has upper hand in Wars with China and obviously knowing Japan they won’t forget such insults easily) China has issue with India over Arunachal Pradesh, Stapled Visa for Kashmir residents, and hence is not considered partner of trust by Indians (No matter how many times Wen Jiabao visit to Delhi and whatever he says). All this bad “body language” clearly brings clouds of suspicion on China’s position as economic superpower. As George Soros rightly said, China must understand the advantages and responsibilities that come along with Leadership position, looks like probably they still don’t understand it.

Crash of 2008 has brought turning point in the story of China. Awkward position on reserves may also be a key source of frustration on their side, which fumes out on neighbors as they can’t say /do much to US. But they must understand that winner especially new winner has many enemies and one mistake can turn success story into catastrophe.

In short I think ball is in China’s Court. By building environment of trust and harmony with its Asian counterparts China can make 21st Century truly as “Century of Asia”. Else if they are not able to cope up with pressure / continue with attitude issues, their mistakes even can convert Asia into the battlefield of Major WAR. (May be WW III)

Will my Mortgage Installment (Home Loan EMI) go up or down in coming Years?

Before trying to figure out what’s going to happen in coming years, let’s see what happened in last few years.

As discussed in last article, recently (2002-2007) it became very easy to borrow money as Loans were in distributed easily by banks and Assets e.g. “Real Estate” / “Equity” that were bough with borrowed money were appreciating at much higher rate than rate of interest.

So it was in fact a great time as borrower. While everything was going perfect, somewhere in 2005-06 Rate of interest started going up steadily. This created little discomfort for people in countries like India, China, Brazil as their Mortgage payment (Home Loan EMI) went up slightly. However they were not many foreclosures in those countries mainly because of better regulations e.g. 10 % Down payment, Monthly repayment must not be more than 55% of Salary. So despite slight discomfort of higher mortgage, overall picture was looking good. (This does not mean housing market in India, China and Brazil is healthy one, it’s just that it could sustain at those Interest Rates).

In western world however “system sustainability” to Increase in Interest rate turned out very poor. One may call it as pin for bubble or whatever, but “Housing Bubble Burst” It was obviously due to reasons like no down payment requirements, Sub prime lending etc.

In order to fight with this recession then Central Banks lowered interest rates to historic low and in fact pumped money into system to not allow prices fall further. Due to this borrower got relief on Interest Side but worry shifted on paycheck continuity itself. And it was genuine worry as well.

Now based on this background, let’s figure out where Rate of interest goes from here.?

In order to understand this, let’s see why rate of interest goes up or down in first place and who does it?

Rate of interest is one of the most effective tool for Central banks to reduce inflation / excess liquidity in system. In simple terms when cost of essential commodities (Food cloth and Shelter) goes upside, to curb that inflation Central banks has to raise rate of interest and suck the money out from system. To give simple perspective, if inflation is a smuggler, Interest rate is a police and Police must run faster than smuggler to catch him and arrest. Once the  excess money is removed from system, cost comes in control automatically. Countries like India, China are in middle of inflation already and hence there is no direction for interest rates than going UP. Infact in whole world they have to go up as all Central banks have artificially lowered it during recession and have pumped money. This has always led to very high inflation down the line. As in system we have more money chasing same goods.

So Real Question is how much up interest Rates can go and when?

I can imagine 3 Scenarios here.

Scenario 1) Increase by slow Speed (Interest Rate always lower than inflation)

            This is what is happening now e.g. in US they increased by .25 %. In India reserve rates has been hiked by 25 points on 3 occasions in last few months, (See Chart Below). Though these steps demonstrate willingness to tackle inflation, they won’t be enough necessarily. It’s like catching smuggler that runs faster than police. You can’t catch it just by increasing speed slightly, because then Smuggler runs even faster and you have to catch him at that high rate. So effectively you end up in much higher interest rates and Home Loan EMI in this Scenario. At the same time Home Prices may also appreciate.

Scenario 2) Increase Rate of interest higher than Real Inflation and keeping them there for couple of years.

            In this Scenario Interest Rate  (Police) runs faster than real inflation (Smuggler) Keeps him in custody for couple of Years. It sucks money out of system and actually do not allow that money going back in circulation. Once system is stable, central bank may lower interest rates slightly to make a comfortable level (leaving smuggler in society after 2 years punishment).

            Though, this is the best possible solution, this obviously has side effect. I.e. it can crash real estate market completely and can create “politically Incorrect situation”. It may mean Total outstanding Loan money on Mortgage much more than market value of the Property. Not only in real estate, but also in many other sectors businesses with weak fundamentals will die.

Scenario 3) Let anything happen with inflation don’t raise rate of interest.

            This will be dream scenario for “Borrowers” as inflation itself will take care of everything. Wages will increase in dramatic way making it cakewalk to repay loan, Also asset inflation will be so dramatically high that it will create huge wealth illusion. If there is too much of delay then no matter how high we raise rate of interest, inflation just goes out of control. E.g. in Weimar Republic (Today’s Germany) They raised Interest rates to 900% but it was too late to avoid currency collapse. Also in Zimbabwe recently they raised it to 800% but still inflation was so high that it just could not save currency and economy.

Scenario 4) Continued Recession or Double Dip .. 

              In this scenario also Interest rates will be down for a while. But then Housing prices also will be down. I think this is a very remote chance looking into "commitment" of central banks to fight against it. And even if it happens it will be temporary.

Concluding, Rate of Interest and Mortgage / Home Loan EMI has no direction but to go UP. Sooner Interest Rate  (police) Catch Inflation (Smuggler) it’s better for society in long term. Of course its not comfortable for 
governments. So let’s see how it goes in coming years.

Interest Rate United States

US Long Term Interest Rates US.. Yes they were 21 % in 1980!!

Interest Rate India

Interest Rate China

Thanks

Amaresh Ashok Gangal

Why to Learn Economics

Amaresh Ashok Gangal 

Posted on : Jan 17 2010

Perfect economic system is a system where common man need not learn economics unless he has keen interest in it. He should be able to learn anything of his interest, work for a field he like, innovate, maintain his hobbies and fulfill his family and social responsibilities. However we just can’t compare today’s economic system with word “perfect”.





We will explain the reason why we believe so. Though we broadly believe that we are in recovery phase, we should be deeply concerned about next economic crisis. Of course that does not mean we should stop working now and worry about it, but in fact it mean we should work even hard and invest wisely for next economic crisis.



Reason for worrying for next economic crisis is very important. We anticipate next crisis as “currency crisis led hyperinflation” or “high inflation” followed by “Interest rate shock” We don’t know what will happen exactly but either of these is absolutely inevitable. I.e. we will end up in hyperinflation and currency reforms across the world or we will end up in very painful time where most of the “Zombie” businesses will be allowed to fail.



Either of these situations will not be good for common man. Though later i.e. “High Interest rate” will restore economy in long term, it will be very painful for few years. Timeline wise I believe if we go for Scenario 1 i.e. hyperinflation we can experience very high stock market returns i.e. Dow may run as high as 40000 – 50000 Range (but grocery expenditure will also be 3-5 times) by year 2015-16 and then collapse dramatically or if we settle for Scenario 2, which may happen anytime depending upon call from the central banks and governments we will have situation where asset prices “Real estate” in context of common man will be ¼th of the prices they were bought and Mortgage will be twice than what it is today.



Of course there is possibility of double dip recession in which case both of these scenarios will be postponed to some later date with even bigger numbers. However we believe that understanding the system will help us plan for upcoming decade better and can even give us opportunity to profit from same.