The Markets

One of these things is not like the other… If you find yourself humming that old Sesame Street standard when you think about financial markets and world economies, you’re probably not alone.

To the consternation of many, the FTSE 100 and the Standard & Poor’s 500 Index rocketed to new highs last week just as the International Monetary Fund (IMF) cut its global economic growth forecast for 2013 and 2014.

Many in the media pointed fingers and announced, “That’s the problem right there!” Of course, the fingers were pointing at Ben Bernanke and the U.S. Federal Reserve (Fed) which continued to dither about Quantitative Easing (QE) last week. While it may feel good to lay blame, the Fed is just one tree in the forest of market volatility and economic growth.

Let’s take a look at another section of the forest: emerging markets. They are expected to power 60 percent of the world’s economic activity by 2030. Yet, just last week, China’s exports slumped, and Brazilian and Indonesian central banks raised interest rates (which generally slows growth). Turkey’s central bank may do the same next week. Is slowing growth in emerging markets the Fed’s fault?

While higher rates may hurt emerging markets, many of those countries have problems of their own, including infrastructure bottlenecks and excessive credit expansion. Last March, the Financial Times quoted Deutsche Bank strategist John-Paul Smith who wrote:

“We believe that 2013 will mark the year when economists and investors focus on the underlying imbalances within the Chinese economy and, accordingly, reduce their expectations of sustainable growth over the medium term. The deterioration in the perception of China is likely to have a very disruptive effect on (global emerging market) equities…”

Smith’s forecast proved out. Early last week, the International Monetary Fund (IMF) lowered expectations for China’s growth to the high-seven percent range.

Of course, it’s not easy to predict the future. Irrefutable evidence of that arrived a few days after the IMF’s report when Lou Jiwei, China’s Minister of Finance, said his country’s growth rate could fall to 7.0 percent or even lower. Economists gasped.

China’s official growth target (set by the National People’s Congress) is 7.5 percent, not 7.0 percent or lower. According to The Wall Street Journal, “Such a sharp downshift in China’s growth would send ripples around the world economy, hitting everything from iron-ore demand in Australia to sales of luxury handbags in Hong Kong stores.”