KINGSTON, NY, 12 SEPTEMBER 2018—Despite waves of positive economic news in the U.S. – strong Gross Domestic Product, rising wages and low unemployment— should the Federal Reserve aggressively raise interest rates as anticipated, it will ignite significant volatility across global economies and markets.
A strengthening dollar, up over 6 percent in the last 6 months, has progressively weakened Emerging Market currencies.
The higher the Fed raises interest rates, the stronger the dollar grows, and in turn, EM currencies weaken. And the lower their currencies fall, the costlier it is for EMs to pay back some $63 trillion in debt, much of it dollar based.
With the latest U.S. economic data showing average hourly earnings rose 2.9 percent in August over last year and GDP hitting 4.1 percent growth, the Fed is expected to raise rates two more times this year and three or possibly four times in 2019.
Thus, with the inevitability of continued U.S. rate hikes, and scores of EM currencies sharply declining and/or hitting record lows against the dollar, investors fear these countries will be unable to manage their debt.
Moreover, the MSCI Emerging Markets Index of shares is in bear territory, down over 20 percent since its January high. EM countries are increasingly falling into recession and stagnation, not only pushed downward by the sustained devaluation of their currencies, but with falling commodity prices, nations such as South Africa, which is now in recession, will suffer further weakening economic fundamentals.
And while U.S. economic indicators grow stronger, major global economies are showing weakness. In Europe, for example, GDP grew only 1.5 percent in the last quarter, and in China, industrial output, manufacturing, auto sales and other key sectors all showed declines.
THE TRIGGER: RISING OIL PRICES
Oil prices rose sharply this week on the expectation that U.S. crude oil inventories will remain low heading into the fall season as exports rise and shale production remains steady.
With Brent Crude approaching $80 per barrel, we forecast oil could spike to over $100 a barrel as President Trump's sanctions against Iran, one of the world's largest exporters of oil, take effect in November and if military tensions increase between the U.S/Israel/Saudi alliance against Iran/Russia and Syria.
As we have been forecasting, the role spiking oil prices plays in threatening EM and developed nations economies is increasing. For example, India imports 80 percent of its energy. With its rupee down 14 percent year-to-date against the dollar, should oil prices, which are dollar based, continue to spike, its economy, as well as those of other oil-dependent nations, will suffer dramatic GDP declines and larger trade deficits.
TREND FORECAST: It should be noted that the last five economic recessions all were preceded by a spike in crude oil prices. By all indications, history is repeating itself. Moreover, while record-setting corporate stock buybacks, which will exceed $1 trillion in 2018, have propped up U.S. equities, an oil spike of $100-plus per barrel will crash the high-flying stock market.