Daniel Lacalle: Why Central Banks May Trigger the Next Crisis

In a new interview with Hedgeye, chief economist Daniel Lacalle described his long term view on the issues impacting the global economic cycle. Mr. Lacalle said the current global cycle reflects debt saturation, a prolonged recovery that leads to slower growth in the face of slowdown after years of stimulus measures, as evidenced by lower productivity, higher debt, and challenges of demand side policies, where the failure of many of them are driving lower levels of growth. This is most evident in economies that relied the most on monetary policies compared to fiscal policy, including China and the European Union.

The Chinese slowdown has nothing to do with trade wars

The realization is that all of the stimulus projects since 2008 have driven the economy to be less dynamic, including the aforementioned debt saturation, excess capacity, and malinvestment directed by government policies and regional government policies, resulting in China’s economic slowdown. Industrial production and exports are showing the competitive capacity of the economy is rapidly weakening, and the economy is not as robust as the government portrays it to be. China is now a trade deficit country, with manipulation of its GDP numbers, so a trade war with the United States is simply being used as an excuse to justify the evidence of internal and external demand weakening, which has been taking place for two years now.

European Union challenges. Low growth, high interventionism.

Mr. Lacalle says the issue of the Eurozone is very simple: it is missing the technology revolution completely, it’s not addressing the issues of productivity because it continues to subsidize the obsolete sectors while penalizing sectors of high productivity with overly aggressive fiscal wedges, the problem of demographics (which the central banks always ignore), and very high debt due to very high government spending. He calls the Eurozone slowdown as a case of “reality versus magic” amid an aging population, massive government spending, and huge tax rates.

He says he told the European Central Bank – who were unaware of the figure and how to deal with it – that 80 percent of gross capital formation was actually recycled capital and therefore once could not expect productivity growth improvement in the underlying economy and real wages strengthening fundamentally. What the Eurozone is experiencing is not unlike Japan in the late 1980s, where it disguised its structural problems with liquidity that generated a placebo effect upon a fundamental belief in the risk of the Euro collapsing. This resulted in the inflation of financial assets and negative yielding bonds in nearly all Eurozone economies and massive inflation in sovereign bonds, but the transfer of monetary policy has not gone to the real economy.

The US economy is more robust, but slowdown is inevitable.

The difference with the United States economic cycle is that the mechanism of transmission of the monetary policy is much better. It’s relative, but what is keeping the economy strong is whilst in the Eurozone 80 percent of the real economy is financed through the banking system, in the United States this is about 20 percent and therefore a much more dynamic economy with a better system of cleaning up problems.

The underlying trends are much different in the U.S. than the Eurozone and China because the impact of government spending and itself in the economy is much smaller. Productivity and wage growth are better, capital expenditure is poor but only due to the fact that companies do not need to spend more since the American economy is much more regional and much less externally dependent. Also, U.S. energy independence, where they are currently producing as much as Saudi Arabia, is an integral factor in the difference between the U.S., China, and the Eurozone.

 Watch the full interview