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A Framework That Provides Clarity

During periods of “low visibility,” confusion reigns: for every indication of one trend, there seems to be a countertrend. The key is to glean from the collective wisdom of reliable leading indicators a clear signal that the economy is headed for a turn.

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Dark Days


Conventional wisdom says it’s darkest before the dawn. The outlook for the global economy is certainly dark now, and appears poised to grow darker in the next few months.

But economists dispute the notion that we’re falling into another depression, and some are starting to see the glimmerings of dawn, even though clouds may obscure the light of a brighter day to come.

With a better understanding of the interaction among their increasingly globalized economies than their predecessors had in the Great Depression of the 1930s and a more extensive array of tools, policymakers will be able to avoid a global depression, economists say.

They say that reversing the decline of growth among the major industrialized economies in the U.S., Europe and Japan depends in large measure on the massive monetary and fiscal stimulus that major industrialized countries are injecting into their economies.

“Business cycles always turn, and we are not heading into a depression,” said Lakshman Achuthan, managing director of the Economic Cycle Research Institute, a New York-based research firm that compiles a broad array of short- and long-term leading indicators on 18 major developed economies, including India and China. “The way the economy functions today is quite different from earlier in the 20th century.”

The leading indicators from the 1930s reveal that the decline was much greater than what ECRI’s indicators show today. “We’re not in that neighborhood. Nor were we doing any of the policy responses then that we’re doing today,” Achuthan said.

“The danger is that there is so much gloom and doom out there that when things start to turn, we’re still talking about disasters and missing the important thing, which is when some of the early indicators are starting to improve,” said Walter Kemmsies, chief economist of Moffat & Nichol, a Long Beach, Calif.-based port-design engineering firm. “There’s so much policy push on the part of the central banks around the world to get the world economy started, that when it does, it’s going to be very powerful.”

It takes between two and three quarters for the central banks’ easing of liquidity to seep into the world economy, so the stimuli should start to take effect in the second quarter. “It’s not a question of whether there will be a recovery, but of when and how,” Kemmsies said. “It’s coming. It could be earlier if oil prices stay down.”

By no means does this more optimistic outlook for recovery signal a return to the halcyon days that the container shipping industry has enjoyed for the last five or six years. There are too many problems with debt baked into the developed economies. Indeed, it may take a lot longer to work off the excesses of the housing boom and subsequent bust.

And even when consumers in the U.S. and other countries start spending again, it may take months longer before any upturn in demand can start to sop up some of the excess vessel capacity that is hanging over the container trades, depressing rates and forcing carriers to lay up ships even as new vessels are delivered.

The long-term leading indicators compiled by ECRI are starting to show some signs of change. “We have a very dim light at the end of the tunnel,” Achuthan said. “What we see is that the rate of decline has slowed in the financial and price-related components of all of those 18 countries’ long leading indicators taken together. That’s a necessary first step to recovery, although it’s premature to say that it’s definitive.”

Although ECRI’s monthly indicators continue to decline, they are falling at a slightly slower pace. One positive sign is the decline in prices.

“Prices are falling because recessions kill inflation, and at some point those prices become attractive,” Achuthan said.

That’s not enough to generate an upturn, and that will require an increase in pent-up demand and profit opportunities, which have not yet arrived. “You and I and everybody else are holding off from buying some big-ticket items, but at some point, we’re going to say, ‘All right, enough’s enough, I’ve got to get a new car, buy a TV or go on a vacation,’ ” he said.

At the same time, businesses that are laying off people and cutting expenses will return to profitability, stop firing and start to invest in expansion.

It could take more than six months for these factors to come together to spark recovery, and there is no indication whether the recovery will be V-shaped or U-shaped. “A U-shaped recovery doesn’t feel good because it’s unlikely to generate a lot of jobs,” Achuthan said.

The last two U.S. recoveries, in the early 1990s and 2001-02, were U-shaped recoveries, where profits recovered, but the job market did not. The problem with ensuring that the recovery from the current recession is V-shaped and will create jobs is that plummeting home prices are at its epicenter.

“Without a material change in the job market, it’s tough to break the trend in house foreclosures,” Achuthan said.

Mike Andrews, chief economist of PIERS Global Intelligence Solutions, a sister company of Shipping Digest, is among the economists who think the recovery will not begin until 2010.

Andrews sharply lowered his forecasts for the growth of U.S. containerized trade because of what he called “a worsening financial crisis, and tightened lending standards for both households and businesses; a housing crisis that shows no signs of ending; rapidly falling house values and plunging equity prices that have zapped household wealth and confidence; weakening labor markets and a deteriorating outlook for both business investment spending and exports.”

Even ECRI’s shorter-term indicators, which it compiles weekly, are not slowing the way its monthly indicators are, and this could have some troubling repercussions. ECRI’s weekly indicators include The Journal of Commerce/ECRI Industrial Price Index. It peaked in mid-May and drifted downward until mid-July, when it plunged, consistently hitting record lows from which it has not yet budged. The index tracks changes in the prices of 18 raw materials that are used in manufacturing and signals changes in the pace of industrial production about six months in advance.

The abrupt slump in demand for raw materials in China since the summer Olympics has been one of the factors that has depressed the JoC-ECRI index. It is a manifestation of what ECRI calls the “bullwhip effect,” where any small change in demand can trigger a much bigger change farther up the supply chain.

“The farther you are away from the consumer, the bigger your cycle,” Achuthan said. “China and other economies like it are seeing the negative side of the so-called bullwhip effect.”

China had enjoyed the positive aspect of the upturn in demand, but now that there is a big downturn in demand for the manufactured goods it makes from raw materials, the country is suffering from a much larger impact than areas farther down the supply chain in developed markets...