As more countries say the recession is over — Japan just revealed their worst recession in decades has come to an end — a new Canadian Press Harris-Decima survey shows that most Canadians are optimistic about this country’s economic recovery.

According to the survey, six in 10 Canucks think the economy will bounce back twice as strongly as it will down south.

It’s nice to know that people are feeling more confident these days (which hopefully means they’ll start eating more), but it bears repeating that we won’t feel the full effects of an economic upswing until the U.S. starts seeing meaningful growth.

The survey’s respondents understand the connectivity between Canada and America, they just don’t think it’s a big deal. Here’s an expert from the Canadian Press story:

The state of the American economy is another roadblock to a solid bounceback in Canada.

The world’s biggest economy’s housing market has been battered in recent years, and weak consumer spending and massive government deficits threaten to keep the U.S. on the skids for a while longer.

That will weaken growth prospects in all of America’s trading partners, particularly its largest, Canada.

But the poll suggests most Canadians aren’t put off by any of that.

“There’s a sense, number one, that there’s demand for what we’ve got, maybe that’s greater than demand for what (the) Americans’ got,” says Jeff Walker, Harris-Decima’s vice-president.

“The other thing that people say when we talk to them about this is … we were in solid economic position going into this in terms of our debt and deficit situation.”

Another interesting stat from the poll: Conservative supporters were more confident than people who identify with other parties that our economy would fare better than America’s.

Seventy per cent of Tory backers thought Canada’s economy would outperform the United States’, compared to 65 per cent for the Liberals, 62 per cent for the Bloc Quebecois and 48 per cent for the NDP.

You could have just chalked this up to downplaying, which is smart considering much trouble Stephen Harper has previously gotten into for being optimistic on the economy. But then International Trade Minister  Stockwell Day wrote in the Penticton Western News, “I’m not kidding. The recession is over.”

Clearly, the Conservatives need to get on message, but this also points to just how confusing things are right now. As I wrote in an earlier post, while the recession may technically be over, to declare it dead really depends on how you look at it. Expect plenty more contradictory messages from all sides of our government, at least until people stop losing their jobs. (If you missed it more people were receiving EI benefits in May then at any point in the last 12 years.)

Finally.

“At a time when the worldwide economy is still deep in recession and we’ve seen a significant drop in global trade,” Mr. Obama said, “I think we have to be very careful about sending any protectionist signals out there.”

He’s referring to a provision in Waxman-Markey, which passed the House on Friday. It would penalize exports from countries that do not accept limits on global warming pollution by requiring the president to impose a “border adjustment” or tariff on certain goods from countries that do not act to limit global warming emissions.

The provision was, natch, designed to appease Rust Belt state lawmakers concerned about job losses in their high-carbon industries. (The New York Times reported the provision was “inserted at midnight the day before the bill passed.” That doesn’t give the full picture. Though the specific wording may have gone in at that time, aspects of this kind of thinking have been in place since this bill was first drafted, back in March of this year.)

Even if Obama has to spend a bit of political capital here, he’s smart to finally speak out against this particular bill’s efforts to move the goalposts on trade. Such barriers are designed to help American high-carbon industries adjust to a low-carbon future, largely at the expense of those who export to the U.S. Should the bill pass the Senate with this provision intact, it would wreak serious havoc on the business models of most high-carbon industries exporting to the U.S., upending global export flows at just the moment recovery is starting to kick in.

But perhaps it’s finally dawning on Obama that the optics of pulling this kind of trick could destroy America’s credibility as a global leader. It’s beyond absurd for the world’s second biggest polluter – and the country that uses up 24% of the world’s resources annually – to make this kind of move, now that it’s finally decided it wants to go green.

Of course, cautions about sending out protectionist signals come a tad too little too late for this President, given his decision to allow Buy American riders in stimulus spending to be enforced at the state and local levels of government back in February is now inspiring retaliatory measures around the globe. (Canada’s anti-Buy American effort, details of which I’ll be covering off in the upcoming issue of the print edition of Canadian Business, is relatively mild in comparison with the Buy China trade bazooka that that country pulled out a week and a half ago.)

However, given what’s at stake here, Obama’s action Sunday is better than nothing.

Bob Gorman, chief portfolio strategist with TD Waterhouse, was the bullish one. Peter Hall, chief economist at Export Development Canada, was the bearish one. Before listing their main points, here a few highlights from their presentations:

Gorman: although he projects the S&P 500 will finish the year 6% higher, he expects a “substantial pullback in the short term” due to overbought conditions; over the year, there will be a reversal of the flight to quality, so corporate bonds will be better to own than government bonds.

Hall: says we are about 1/3 of the way through the downturn; a rumor (based on a leaked document) apparently shows the IMF is planning to revise upward its estimates of the financial sector’s toxic assets from $2.9 trillion to $4 trillion (US dollars).

Gorman’s points:

• Financial fear indicators have subsided – Libor rates are down to 1.5% and the TED spread is down to 1%

• The yield curve is downward sloping, which helps banks boost earnings since they borrow short and lend long

• Issuance in the corporate bond market is now at a high level, suggesting an increasing willingness to take on risk

• Cash in US money market funds is nearly 50% of US stock-market capitalization, the highest percentage since the 1970s

• The Fed model is quite bullish: 10-year US Treasuries yield 2.8% while the earnings yield on stocks is near 6%

• U.S. 30-year mortgage rates are down to 4.5%, encouraging homeowners to refinance and new buyers to enter the market (housing affordability at historic lows)

• Inventories of base metals as a group have stopped rising and are now mixed; prices are starting to creep up

• In agriculture, grain stocks were at one of their lowest levels ever over the winter period

• Crude oil prices may gave another leg down but OPEC production cuts should support the market; oil consumption has fallen only 2% during the recession, which bodes well for prices as economy recovers

• Valuation is pretty low: with the S&P 500 forward multiple is 13 to 14; insider purchases are significant and indicative of good value in stocks

Hall’s points:

• The downturn will be substantial because the prior expansion period was twice as long as normal – “double the bubble”

• Forecasts of world economic growth for the year ahead have not been this dismal since the 1940s from the IMF (0.4%), World Bank (-2.8%), and OECD (-1.7%); IMF shows a positive figure but it’s historically associated with severe recession

• Singapore exports are down 30% (a bellwether for the world economy)

• Growth in emerging countries is not coming to the rescue just yet – in recent quarters, China’s growth rate has slowed to an annualized rate of 2.5%.

• Excess inventories of houses for sale in US are not expected to be worked off until Q1/2010 (and housing is a leading indicator)

• Five waves to downturn: i) housing market collapse, ii) financial crisis, iii) slower demand, iv) job losses, and v) financial crisis – the second round; we are in the third and fourth stages, headed for the fifth, i.e. the wave of writedowns, loan-loss provisions, etc to be triggered by the collapse in the real economy (when even good loans go sour)

• Fortunately, the huge fiscal stimulus packages in the works from governments around the world should hit just as the fifth wave of the downturn gets underway in Q4 of 2009

Many thanks to the Ottawa Chapter of the CFA Association for the invitation to attend their Annual Forecast Dinner.

Meredith Whitney, the securities analyst who was the first to call the severity of the banking crisis gave her take on what’s ahead for banks. Nouriel Roubini, the Stern School economist who has achieved a level of fame for both his dour economic predictions and his avant garde wall art, gave a general rundown on how down we’re going to get. And Ian Gordon, the Vancouver-based so-called Long Wave theorist, was there to put events into alarming order.

In a conversation backstage the genial and mannered Gordon mused about the speed of human cultural evolution and how particular human patterns can lead to predictable economic patterns.
A whole generation of Canadians suffered through the Depression and been exposed to the destructive role credit creation can play in an economy. But over the intervening years, the cultural attitudes shifted. Those with an immediate memory of that era died off. Lessons from that age were viewed as quaint. The culture moved on. Consumption moved back to the foreground. The dangers of unrestrained credit were downplayed. We rolled back the legislation that grew out of that era to avoid these events. And now we’re now back to where we were. We’ve increased the total amount of debt outstanding (measured as a percentage of GDP) to the point it was at just before the Great Depression.

The problem now, say the bears, is that this debt bubble (accumulating since the early ’80s) is imploding, and this is going to take down the global economy. Consumer spending, the biggest single driver of our economy, was pumped up as the personal savings rate dropped and central banks slashed interest rates lower and lower, which allowed all kinds of home refinancing. But that process is running in reverse now, and companies and individuals will have to readjust. People will lose their jobs. Consumer spending will fall further. Businesses will make less. The debt payments won’t be made. Stocks will suffer. People will feel poorer. More layoffs. Less spending. More declines in asset prices. According to Roubini, who was actually one of the optimistic voices this night, this debt deflation (not inflation) will be the dominant trend through to 2012. “The American consumer is tapped out,” he said.

Meredith Whitney, the bank analyst, agreed. She began her presentation by reminiscing about her early days as a bank analyst who bought into the good story around securitization. By slicing and dicing bundles of loans into Triple AAA tranches and toxic waste tranches, we were able to offer more credit to more people, as well as to people who didn’t qualify for credit before. And that was a good thing in the early days. It led to a cultural belief at the time in the “democratization of credit.” “I believed in that idea, the idea that an immigrant with no banking background could come to North America and buy a house,” says Whitney.

But as we let loose all kinds of new forms of debt (and therefore demand and liquidity) we created a whole new set of instabilities. The process of securitization, which allowed us to put off worries about “risk” and borrow lots more than we would have otherwise, is now the Achilles heel of the economy. The end of securitization will see less credit everywhere and at every level in the economy. We’ll see lower credit card balances and a net decrease in total lending in the years ahead. Bank lending will go back to something more local and “monogamous” (more one-on-one, rather than bundled) “My deposits will be used for your mortgage,” she says. But all of this will affect consumer spending in a negative way and will deepen the deflationary spiral.

The banks in the US have been dealing with this deflation by raising money in various ways. The first attempt to shore up what is effectively a bankrupt U.S. banking sector was through the big “vanity” buys by sovereign wealth funds, many of whom got burned by moving too quickly. Next it was the mergers. And then a bunch of preferred share issues. And then it was the governments stepping in to provide money to shore up the sector.

But that’s not going to be enough said Whitney. Next will be big asset sales on the part of U..S banks that will finally be forced to shed key assets they have so far been loath to part with. They won’t have a choice. Credit card losses will mount. They’ll have to  deal with all the bad commercial mortgage loans outstanding. This will be good for the Canadian banks that could pick up some deals. But the economy as a whole is likely to get worse yet as this debt and asset price deflation moves ahead.

To add one more layer of worry. In a Q&A with Canadian Business before the event, Eric Sprott was asked about the connection to energy issues in all of this. His shop is a believer in peak oil—the idea that we’re in for some large spikes in the price of energy in the years ahead as the rate of ongoing natural depletion of existing fields begins to run ahead of the rate of new oil production. Sprott agreed there could be a cap on any growth in the years ahead as oil prices rise with any attempted recovery. And so whatever recovery we get will be checked by rising energy prices.

There just doesn’t seem to be many reasons for optimism. As Ian Gordon put it, we’re moving into a stage of the economy akin to the winter season. The bounty of the now fading post-war U.S. consumption-led economy (now in collapse) will fall away, and the ground will go fallow for a period. And while this will eventually make way for the new green shoots of spring, the new less consumer-dependent economy that is going to grow out of what is now collapsing is far off yet.

This grey, cold no-growth season with be with us until 2020 says Gordon. It’ll take that long for the old order to break down, and for the new shoots lying underneath to come up. “That’s what I see as a financial historian,” says Gordon. Sprott agreed, suggesting it could be more than 10 years before the debt bubble that began forming in the early ’80s is wrung out of the system. So plan accordingly. There was, of course, a pitch in all of this. Sprott’s new gold bullion fund was mentioned. As was the wisdom of shorting the market.

But if there was one thing to take away from the event it is the notion that the fraction of total debt to GDP climbed to 200% in late ’20s, just before the Great Depression. And we’re back at that point again. “It’s amazing how one era is like another” say Gordon. Is it ever. It may be worrying. But it is amazing.

Also, I’ve been itching to jump in on the AIG bonus saga in this space, but have instead dumped my thoughts into ink and paper–they’re in an Editor’s Note in the next issue. Basically, I argue along similar lines to Tom Watson’s probably unpopular take here.

Finally, as an MSM alert: is it just me, or are you starting to feel sorry for big newspapers? Not only are they shutting down or cutting back all over the place, but last night even Barack Obama dissed them. During his prime-time news conference, he did not as is usual presidential practice field questions from The Washington Post, the New York Times, the Chicago Tribune, the Wall Street  Journal, USA Today or the Los Angeles, reports Howard Kurtz, of the neglected WP. Instead, Obama called on not only the usual suspects from ABC, CBS, NBC, CNN, Fox News, but also reporters for Ebony, Stars and Stripes, the Washington Times (the capital’s second newspaper, with a fraction of the circulation of the WP), Univision and Agence France-Presse.

Expect a return of the Freedom Fries movement any day now…

GLOBE: The future of pensions: Share the risks: About 80 per cent of private sector workers in Canada have no guaranteed company pension, and the number is rising as more businesses ditch their defined-benefit plans. The other 20 per cent do, but many aren’t sure they can count on it. Read more.

NY TIMES: Toxic asset plan foresees big subsidies for investors: The Treasury Department is expected to unveil early next week its long-delayed plan to buy as much as $1 trillion in troubled mortgages and related assets from financial institutions, according to people close to the talks. Read more.

ADAM RADWANSKI: Responds to a Star article about Mike Harris’s return: The headline, “Resurrection of Harrisites boggles mind,” pretty well sums it up. We’ve got “ghouls … rising from the crypt” and prompting Coyle to suffer “an appalling acid flashback to a period of reckless and ruinous excess.” Read more.

FINANCIAL POST: Mid-recession binge lifts retail sales temporarily: Retailers enjoyed their biggest rise in sales since July, 2006, in January as Canadians pried their dusty wallets open and hit the stores. The jump in sales was refreshing, but economists say it was likely temporary and reflected a mid-recession binge to snap up cheap post-Christmas goods rather than a solid rise in consumer confidence. Read more.

Hopefully, the stimulus to be unleashed in Budget 2009 by the Conservatives will help support a sustained recovery in the economy. If it doesn’t, the combination of elevated government spending and shrinking tax revenues might lead to more that a jump in public debt. Maybe this is what Evelyn Jacks meant when she warned that the budget deficits laid out in Budget 2009 “will mean higher taxes for Canadians in future” 

“The United States invariably does the right thing, after having exhausted every other alternative.” Winston Churchill 

“Stop experimenting with your savings.” Ad on Yahoo Finance, promoting ING Direct’s high-interest savings account. 

“When there is a stock market boom, and everyone is scrambling for common stocks, take all your common stocks and sell them,” he elucidated. “Take the proceeds and buy conservative bonds. No doubt the stocks you sold will go higher. Pay no attention to this–just wait for the depression which will come sooner or later.” When this depression–or panic–becomes a national catastrophe, sell out the bonds (perhaps at a loss) and buy back the stocks. No doubt the stocks will go still lower. Again pay no attention. Wait for the next boom. Continue to repeat this operation as long as you live, and you’ll have the pleasure of dying rich.” Fred Schwed, Where Are the Customers’ Yachts? 

1. During recessions, governments typically raise spending on infrastructure projects to get the economy moving again (e.g. China’s recent announcement of a stimulus package worth more than half a trillion dollars)

2. Developing countries have significant growth potential and need to build new infrastructure to support that growth over the long run (for example, it is estimated that by the year 2025 in China, 350 million people will move to urban centers – this will be like building 20 New York Cities from scratch)

3. Developed countries have aging infrastructure in need of repair and upgrading

4. Pension and other institutional investors are increasingly investing in infrastructure assets

5. Infrastructure is seen as a hedge against inflation because a good part of revenues come from tolls and regulated prices (which are set according to cost-plus formulas)

6. Declining commodity prices render infrastructural projects more profitable and make it feasible for suppliers to take them off the shelf

7. Infrastructure stocks have been dragged down by the financial crisis and are now better values.

Several infrastructure exchange traded funds (ETFs) make it easy to gain exposure. But check what’s under the hood before investing. There are significant differences. For example GII is nearly 90% utilities while IGF is 40% and FLM is 0%. They are all global ETFs and so may be affected by currency fluctuations. CIF trades on a Canadian exchange; the rest on U.S. exchanges.

• iShares S&P Global Infrastructure ETF (IGF)
• SPDR/FTSE Macquarie Global Infrastructure 100 Fund (GII)
• ISE Global Engineering and Construction Index Fund (FLM)
• Claymore Global Infrastructure ETF (CIF)
• PowerShares Emerging Markets Infrastructure Portfolio ETF (PXR).

Indeed, the LEIs are beginning to suggest the recession will be at least as long as the 16-month downturn in 1981-1982. If they are right and the S&P 500 bottoms two to four months before a recession ends, then the current bear market will likely continue until mid to late 2009 (assuming the current recession began July, 2008).

What are the LEIs saying? Let’s focus on the 40% decline in the Journal of Commerce Industrial Commodity Price Index since its high in July. That’s the “most since 1949 and worse than the declines before every recession since then,” said Bloomberg.

The collapse in the index shows a collapse in the manufacturing sector. “The industrial sector, which was helping to keep the recession relatively mild, has completely given way and now we need to be prepared for a much more severe recession,” said Lakshman Achuthan, managing director at the Economic Cycle Research Institute, which compiles the Journal of Commerce data. “It’s at least going to look something like what we saw in the early 1980s, but it could be worse.”

The Bloomberg article adds: “The commodity decline coupled with economic data signal the current slowdown will last at least 16 months and spur slowdowns globally, not just in the U.S. and Europe, ECRI’s Achuthan said. The slumps of 1990 and 2001 lasted eight months, according to NBER data. ‘As is usually the case, the commodity index is ahead of consensus right now and indicating just how deep and how long this global recession will be,’ Achuthan said.”

ECRI has one of the best forecasting records within the economics fraternity, in my opinion. It was founded by Geoffrey Moore, father of LEI analysis (and professor to Alan Greenspan). “ECRI is perhaps the only organization to give advance warning of each of the past three recessions; just as impressive, it has never issued a false alarm,” said the Economist magazine back in 2005.

The S&P 500 turns up 2 to 4 months before the end of the recession according to Northern Trust and the average length of the a U.S. recession in the post-war era has been 10 months according to Bespoke Investment Management. So if the recession began in early to mid-2008, we could be near the bottom going by historical norms.

We’ll know when the recession officially started when the National Bureau’s Business Cycle Dating Committee makes its call. A rule of thumb is two consecutive quarters of negative growth in GDP. What can make it tricky are ongoing revisions to GDP growth figures.

Another historical norm suggesting a bottom is the typical decline seen in bear markets. Nick Majendie, a portfolio strategist at Canaccord Adams says “…there have been 12 occasions since 1900 when the Dow Jones Industrial Average has been down more than 40%, and in 11 of those periods, the drop stopped somewhere between 40% and 50%.” That’s where markets were last week prior to the rally.

However, historical norms may not apply this time around considering the severity of the current financial crisis. Indeed, a recent IMF study concluded: “Recessions preceded by banking crises last twice as long on average as those not triggered by a financial crisis, and the loss of output was about four times as great.

Bert Dohmen editor of the Wellington Letter, is bearish too: “Most bear markets, after a major bubble has burst, decline 80%-90%, going back to where the bubble started. In the United States, that’s what happened after the 1929 Crash. During the 1973-74 bear market, the broad ValueLine Index was down over 80%. In 2000-02, the Nasdaq Composite was down over 80%.”

“All stocks are risky, even the safe ones. You can buy the most conservative stocks, focus on the most recession-proof industries and diversify until the cows come home, but guess what? You’ll still get crushed when the market decides to roll over. Why? Because the stock market hates you.”

I’m sure his ten lessons were meant mostly tongue-in-cheek. But, seriously, if one is letting recent volatility influence them and shake their discipline (e.g. Lesson 2: ‘Buy-and-hold, buy-and-schmold’), then they perhaps shouldn’t be investing in stocks.

The current stretch of bearishness has been extreme but investors have to realize it is part of the process. Stocks go up and they go down and one should only be in stocks if they have a long term view and can wait out the downturns. Money needed within five years should never be stocks.

It really does seem true that: “People may read an investing book that tells them they can get an average 9% per year if they only buy and hold stocks over the long term… However, when the market does crater, the actual experience turns out to be a lot different than reading about it in a book. Newspaper headlines are full of doom and gloom. The permabears get more air time and their theories of cataclysmic decline begin to look more plausible And so on: it’s truly a scary time, one that can even produce insomnia for some investors — and waves of selling”  (from Why investors get burned, Jan. 17, 2008)

The thing to do is to stop checking the investment account. If your stocks are already down 30% to 60%, it’s too late to sell. Get busy with other things. The only reason to be watching stocks now is if you want to buy some bargains, do some trading, or rebalance the portfolio — otherwise get busy with work, family, etc. Put the market out of mind, unless it is to visualize what it will look like 3 to 5 years from now when the markets will likely be in love with you again.

For some thoughts on taking it a step further and actually increasing exposure to stocks, see ‘Psyching up to buy.’

The CBOE Volatility Index (VIX) hit an all-time high of 58 on Oct. 6 (in the past, a jump into the 30 to 40 range was a reliable buy signal). Mutual fund outflows in September soared far above the previous monthly high (established in the last bear market earlier this decade). And our era’s investing demigod, Warren Buffett, is on a buying spree.

Still, I lost my nerve today and dumped the double-long ETFs (e.g. Horizons BetaPro S&P/TSX 60 Bull Plus), at breakeven as the higher open retreated within the first hour of trading. After a taking a break from the market (running some errands etc.), the nerves steadied and I plunged back in near the close of trading with an even larger position (and at discount of about 8%, to boot).

Yesterday, the Financial Times of London ran a piece “Markets and cannons.” The gist was that while we may not be sure if an “unstoppable deflationary bust” is unfolding, “what is certain is that there will soon be a tremendous rally – just as there was during the Great Depression. The 1930s saw nine of the 10 best days for US stocks ever recorded.”

And as noted in a previous post to this blog, “the two greatest rallies in U.S. stock markets occurred in the midst of the Great Depression …. Over the three months to September of 1932, the S&P 500 rocketed upward by 150%.” The second rally came after the market had fallen 25%: it gained over 120% during the first half of 1933.

It sure would be nice to see some of that upside action for the double-long ETFs. Maybe the Federal Reserve will soon follow the lead of the Australian central bank and slash discount rates by a large amount.

Lest my friends in the buy-and-hold and passive investing camps shake their heads at this wanton display of market timing and short-term trading, let it be known that the double-long ETF trades are just a part of the explore part of a core-and-explore portfolio.

If you went into those double-short ETFs last week, take the 10% to 25% gains so far and shift into the double-long ETFs. There is a list at Stock-Encyclopedia.com. I myself bought the Horizons BetaPro S&P/TSX 60 Bull Plus ETF (HXU) and the ProShares Ultra S&P500 ETF (SSO – or should the symbol be SOS now?). It could be early and the double-long ETFs could come down fast, but they can come back fast too.

If and when the rally comes, it may be short-lived as attention shifts back to the worsening economic indicators parading through the headlines. So one could don their trader’s hat … or consider buying and holding since it’s hard to imagine stocks staying below this level over the next year to three years. Moreover, the Fed and politicians will likely have a number of other counterpunches lined up after the first rate cut.

Leading economic indicators seem to be suggesting as much: in the U.S. for example, the recent decline in the Conference Board’s Index of Leading Economic Indicators is comparable to the decline recorded in the second quarter of 2001, when the U.S. economy was in recession. While the 2001 recession was mild, inflation concerns this time around have delayed the Federal Reserve’s easing of monetary policy.

As the U.S. economy slides further into what should be a deeper recession, stock markets could remain weak. But the economic slowdown will tame inflation and allow the Federal Reserve to cut interest rates to provide the extra stimulus to get the economy and stock market back on an upswing, perhaps more noticeably by the middle of 2009.

The GDP figures released by Statistics Canada last week were widely presented as a good news/bad news proposition in the media. On the one hand, the numbers stunk — the economy grew at an annualized rate of just 0.3% in the second quarter. But, on the other hand, 0.3% is still growth, and suggest that Canada has so far eluded a technical recession (broadly though inaccurately defined, by everyone in general but no one in particular, as two quarters of economic contraction).

So should business-watchers fret, or breathe a sigh of relief? Well, as David Wolf, occasional columnist for Canadian Business, head of Canadian economics and chief strategist for Merrill Lynch Canada, recently pointed out, the situation for business might be more bleak than even the bleak GDP numbers suggest.

Government spending in Q2 accounted for a 1.0% increase in GDP — which means that nongovernment spending (by you, me, the corner store, the factory in the next county) shrank in the second quarter. Same situation in the previous quarter. Consider that such private sector activity accounts for about 80% of the economy, and you get the picture. It’s not pretty.

How long can Canadian governments delay a full-blown recession? That’s one question.

The other is, what would have happened if our governments, rather than sitting on surpluses for the past few years, had had the foresight to initiate meaningful, swift and smart tax cuts (ie, not the GST reduction) back when they had the chance?

Government is keeping the good times going by spending more (and spending, by the way, has at the federal level been outpacing economic growth for years). Will this be an election issue? One can only hope… 

But it won’t be bad news across the board for emerging countries. “The emerging market universe will split into the haves and have not’s,” claims Bushell, with the dividing line being current account positions. Those countries with good surpluses and foreign-currency reserves, like China, will continue to enjoy access to access to capital while those with deficits, such as India, Indonesia, Vietnam and Eastern Europe, will face more difficult adjustments.

Bushell thinks the impending global growth scare will “quell the inflationary storm.” But if governments in emerging countries find inflation fighting unpalatable, growth may maintain momentum longer “and deliver a boomerang back to the U.S.” in the form of greater inflationary pressures. The implication from Bushnell’s commentary in Perspective Online would seem to be that the world could face an unpleasant choice between hyperinflation and a 1982-1983 style deep recession to bring inflation under control.

Sure, the U.S. CPI hit an annual growth rate of 5.7% in July. But the main cause of the inflation surge, soaring oil prices, is beating a hasty retreat — as are prices for commodities and foodstuffs (other important contributors). Even rising import prices are going into remission thanks to the recent rise in the U.S. dollar.

Look at how financial markets yawned when the CPI figures came out. Futures on federal fund rates barely moved. Yields on inflation-protected Treasuries (TIPs) fell (the spread of the 10-year TIPs yield over regular 10-year Treasuries yield — a proxy for inflationary expectations — has now collapsed from 2.57% to 2.22% in a little over a month).

Retail sales volumes have been dropping despite the tax rebates issued by the U.S. government. Job losses, falling house prices, and credit rationing are taking their toll. With most rebate cheques already disbursed, retailers are likely to pick up the pace of price discounting in the months ahead, says BMO Financial.

The forces of recession do indeed appear to be in the ascendancy. Japan’s economy contracted at an annual rate of 2.4% in the second quarter, its worst performance in seven years. The eurozone economy shrank in the second quarter, the first contraction since the launch of the euro in 1999. The Reuters-Jefferies CRB index has fallen almost 20 per cent since the peak in July.

The Fed’s latest survey of lending officers shows continuing tightening of credit standards. In the three months ended June 30, total bank credit contracted at an annual rate of 3.7% — the biggest drop in 60 years.

A slowdown in loans coincides with a slowdown in bank deposits — which in turn slows growth in the M2 definition of money supply. M2 had annualized growth of only 2.5% in the three months ended July, compared to 13.2% in the three months ended March, 2008. If inflation is “always and everywhere a monetary phenomenon,” as the great economist Milton Friedman said, then a deceleration in the money supply implies a deceleration in inflation.

In fact, the M2 slowdown implies a drop in economic growth when inflation is taken into consideration. The real money supply (adjusted by consumer price inflation) has contracted at an annual rate of 7.3% in the three months to July 30, “the sharpest three-month contraction since early 1980,” according to Northern Trust.