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Are we headed for another global financial crisis?

GFC

Speculation that the turmoil we’ve seen lately in  global sharemarkets could be the beginning of another big global crisis has been dismissed by economist Saul Eslake.  The former chief economist for Bank of America Merrill Lynch believes the turbulence will be confined to equity markets.

So what do other prominent Australian economists think about the likelihood of another GFC? We asked Chris Caton, Craig James, Shane Oliver and Brian Parker for their views.

Chris Caton, chief economist, BT Financial Group

The sharpness of the recent decline in sharemarkets both here and abroad has led many to speculate that we are in the throes of a new bear market, or even a rerun of the GFC.

Recall that all major developed economies with the exception of Australia fell into deep recessions on that occasion, and the GFC  came very close to complete collapse. There is not a shred of evidence that we are anywhere close to such a situation again.

The usual suspects trotted out to suggest otherwise include the devaluation of the Chinese currency, the collapse of the Chinese sharemarket and the fall in commodity prices.

In brief, the first of these is not the start of a currency war, the Chinese sharemarket is a casino, telling us nothing, and while commodity prices fall in times of economic weakness, they are not a leading indicator thereof.

This is the fourth major correction since markets turned in March 2009 (the last one was in 2012 in response to concerns about European debt). It may get worse before it gets better, but it is also possible that we have already seen the low point. While volatility is likely to remain high for some time, the fundamentals of corporate earnings and likely economic growth suggest that the market will be significantly higher a year from now.

Craig James, chief economist, CommSec

Is the world headed for another GFC or similar event? I’m inclined to say no. Rather, there are a small number of very key events happening at present, and investors are uncertain about how they should respond. The first is a correction in the Chinese sharemarket from overvalued levels. The second is uncertainty about the direction of the Chinese economy. And the third is the imminent start of a rate-hiking cycle in the US – if you like, the start of a return to “normality”.

The added complication is that these key uncertainties are happening at a time when European and US sharemarkets are well overvalued. If that wasn’t the case, then investors may be more inclined to see some of the positives as well as the negatives in the three issues in question.

Certainly, rebalancing of the Chinese economy and securing a “new normal” pace of activity are important in the evolution of the Chinese economy. And again, an increase in official interest rates in the US is a major positive – it shows that the GFC is now behind it. Of course, both events carry an element of risk and that is what investors are responding to.

And after achieving a 150% annual lift in sharemarket prices, at some point the Chinese market had to correct. Achieving a “soft landing” is never easy but I think on past action Chinese authorities should be given the benefit of the doubt.

Shane Oliver, head of investment strategy and chief economist, AMP Capital

Whenever there are sharp falls in sharemarkets there is naturally a temptation to wonder whether we are seeing a rerun of the last major crisis, which in this case was the GFC. But the conditions today are very different from the run-up to the GFC, which originated in the developed world, notably the US and specifically in credit markets.

Put simply, the developed world hasn’t seen the sort of excesses that preceded the GFC: there has been no generalised bubble in investment spending (housing or otherwise), there has been no asset bubble, there has been no easing in lending standards as applied in relation to sub-prime debt and there has been no build-up in inflation pressures or monetary tightening.

So it’s hard to see the sort of unravelling in global financial markets that started in interbank lending and credit markets, threatening the seizing-up of the global financial system and spreading through all growth assets as  occurred in the GFC.

Nor is the current situation anything like the tech wreck that came at the end of a long boom in the US that had morphed into a huge bubble in tech stocks that burst in the midst of much tighter monetary conditions.

If there is a historical comparison, maybe it should be the 1997-98 Asian/emerging market crisis. This saw turmoil in the emerging world drag down global and Australian shares by between 10% and 23% in the midst of both 1997 and 1998 on fears that the emerging world crisis at the time would drag down developed countries. But both years went on to provide good returns. The emerging world today is arguably a lot stronger than it was before 1997-98 with less reliance on foreign capital and mostly floating exchange rates, suggesting a full-blown rerun is unlikely. So our base case is that this is just another global growth scare, of which there have been lots over the past few years, albeit a rather severe one. That said, China and the emerging world are a lot more important globally than was the case in 1997, so it’s worth keeping an eye on.

Brian Parker, chief economist, Sunsuper

Financial markets have generally been very kind to investors over the past six years.  That said, it has been a volatile period.  We’ve seen falls in share prices over recent weeks, but this is not the first time we’ve seen a significant correction in sharemarkets since the end of the GFC, and it probably won’t be the last.

Whether it’s concerns over the health of the euro zone, or worries about Chinese growth, or fears of a US government shutdown, investors haven’t been short of things to worry about.  The old adage about sharemarkets climbing a wall of worry has never been better illustrated than by the past five years.

Over recent months, Chinese growth concerns and the likelihood of higher official interest rates in the US have all been weighing on share prices.  Here in Australia, our sharemarket has underperformed global markets for several years. As well as global worries, lower export commodity prices and the capital needs of our banks have undermined sentiment.  Share prices are again falling, but are we in for another crisis to rival the GFC?

We would argue the answer is no, but that’s not to say that markets won’t experience more volatility.  It is still a highly uncertain world and finding genuine value, particularly in publicly traded share and bond markets, is difficult.  At this stage, we don’t see the kind of financial excesses or extreme asset price valuations that we typically see before  crises.  Nor do we expect the world’s central banks to tighten monetary policy soon enough or fast enough to produce another global recession.  Even in the US, where the Federal Reserve does seem likely to raise interest rates over the coming months, monetary conditions are likely to remain very supportive for economic growth and financial markets for some time.

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