Sometimes, a quiet week can go by without much happening that affects our model. Other times, like today, we get confirmations on three separate parts of our forecast. In Germany, manufacturing data for April missed Reuters’ targets by 1.5 percent. In China, Goldman Sachs seems to have realized what we have long been saying: China’s growth rates, which fell to under 7 percent last year, are fueled by debt and are not sustainable. In Central Asia, a spate of incidents in Kazakhstan, headlined by a shadowy coup allegation, warrant a second look. These are all crucial points related to our 2016 forecast, and we will address each succinctly.
Geopolitical Futures has forecast a crisis in Germany – what happens here is central to Europe’s future. In a special report for Mauldin Economics published last month, we explained in great detail why we expect Germany’s export-dependent economy to struggle with reduced global demand for its goods.
Today, Germany’s Federal Statistical Office announced that price-adjusted new orders in manufacturing had decreased in April 2016 – seasonally and working-day adjusted – by about 2 percent compared to March 2016. This is the steepest fall in nine months. Reuters had forecast a drop of merely 0.5 percent. Germany’s troubles stem from the domestic economy’s inability to compensate for a decrease in foreign demand, as China slows down and some of Germany’s traditional trade partners experience economic woes. In April 2016, domestic orders increased 1.3 percent, but foreign orders decreased by 4.3 percent compared to the previous month.
Germany has worked to boost exports to markets like the U.S. and U.K., while return on capital has diminished and some German companies have begun cutting prices in an attempt to maintain export levels. These tactics, however, are ineffective in the long term, and we are watching closely for indications that Germany’s economy is slowing down – which is why these particular numbers are very important.
As for China, a major U.S. investment bank – Goldman Sachs – published a study that concluded China’s debt is far greater than current statistics indicate. The discrepancy is amounts to almost $1 trillion (roughly 9 percent of China’s GDP).
The main point behind the Goldman report is that a government statistic called Total Social Financing (TSF), like so many other Chinese statistics, has been found wanting. TSF was created by the Chinese government in 2011 to track lending and liquidity creation by Chinese banks but also non-state entities ranging from non-financial institutions to individuals.
Goldman suspected that TSF data was not registering opaque loans, shadow banking and credit extended by Chinese banks that is not on their balance sheets. By focusing more on money instead of credit, Goldman reached two conclusions. First, supply of credit surged in China last year when compared to previous years. Second, the measurement of money flow was around 25 trillion yuan ($3.8 trillion), or 36 percent of GDP – much more than TSF data would have suggested.
While the specifics are novel, the overall conclusion of this report is not a revelation to us. To sustain even its current growth rates – which are the lowest in China in the past 25 years – we believe Chinese banks and other entities are lending massive amounts of money based not on the profitability of corporations or the ability of households to repay, but rather to keep the system going. This leads to a hollowing out of the financial system and requires even greater sums of money to be pumped in to maintain the status quo.
We don’t expect China to fall off a cliff in the next year by any means – Japan faced a similar problem and against the prognostications of experts has continued to survive, and even thrive all things considered. But China is not Japan, and over time, China will struggle mightily to maintain the system. It already is struggling mightily. It would seem that the rest of the world is beginning to realize it too.
The slow destabilization we forecast in Central Asia is continuing apace. There have already been signals of growing instability in countries like Tajikistan, but now the largest and generally most stable Central Asian state — Kazakhstan — has also begun experiencing both social unrest and attacks. On June 5, attackers targeted two gun shops and an army unit in the northwestern town of Aktobe, about 60 miles away from the Russian border. About six locals and 12 attackers were killed during the attacks and ensuing counterterror operations, with dozens wounded.
These types of attacks are rare in Kazakhstan. The Interior Ministry has pointed to alleged radical religious elements, and it is important to keep in mind that Aktobe was also the site of a suicide bombing in 2011.
These latest attacks come after a wave of protests swept through the country over controversial changes to land sale regulations, prompting government crackdowns and arrests. In a move that signals heightened regime worries about internal stability, government officials claimed on June 6 that a businessman with close ties to Russia, who had already been arrested in January, is behind the recent unrest, along with several co-conspirators in the military and police.
This is not the first time Kazakhstan’s government has responded to unrest with claims of attempted coups, and we don’t have enough information yet to evaluate whether this businessman is a scapegoat or perhaps the real deal. What we can say is that deteriorating economic conditions, protests and attacks like the ones in Aktobe, and allegations of coups all make us think that our forecast for Central Asia remains firmly on track.