While global markets have collapsed in recent weeks, erasing more than $5.4 trillion in equity value around the world, market watchers have come out to call for a double-dip recession, with NYU economist Nouriel Roubini leading the charge. But the economy won’t double-dip, explained J.P. Morgan’s chief economist Anthony Chan, and equities will rebound once risk is re-priced. The economist also added that Bernanke’s hand will be forced only in the face of a deflationary cycle, making QE3 unlikely. Chan reaffirmed his view that the S&P 500 will end the year up 8% to 10%.
The Dow has tumbled over 12% since the July 21 peak and is now down almost 5% in 2011. Global markets collapsed in tandem, with equities in France, Germany, and Italy completely breaking down and gold spiking to fresh all-time highs. With S&P having downgraded U.S. debt and investors running for the hills, calls for a double-dip and desperate begging for more monetary stimulus have run rampant.
Amid so much chaos, J.P. Morgan chief economist Anthony Chan stuck his neck out, noting “markets are readjusting to a new world, and there’s going to be a little turbulence, but once we adjust and see that this isn’t the end of the world, things will come back to normal.”
As analysts have downgraded their outlook on U.S. GDP, with Goldman Sachs adding a recession is 33% likely, J.P. Morgan sees growth in the coming 12 months at around 2%. “There are good and bad things coming from 2% growth,” explains Chan, “it means we won’t have a recession, but it does nothing to bring down the unemployment rate.” Growth needs to be at least 2.75% to begin to bring the unemployment rate down, according to the economist. (Read Goldman Sachs: Recession Is 33% Likely, QE3 Is Coming, GDP Will Grow Only 2%).
Equities will rebound once market participants fully digest the implications of a slow economy and that “it’s not a guarantee that global markets will enter a double-dip,” notes Chan. Europe is part of the solution, actually. While European debt woes, with so-called bond vigilantes forcing Spanish and Italian bond yields to spike, have been part of the problem, Chan highlights the European leadership’s commitment “step up to the plate” and do what is needed to avert a more extended downturn.
The ECB has already intervened by expanding its bond buying program, sending yields on Italian and Spanish debt sharply lower. The EFSF has been expanded and given greater flexibility in order to provide emergency liquidity and stabilize financial markets, and the G7 has affirmed its will to do anything it takes to quell exchange rate volatility. “I give them credit for taking steps in the right direction,” says Chan, who notes “this may not be the end [of the European crisis], they may still have to take further steps” to stabilize markets, but they seem to have proven that they are willing and capable to step in. (Read Berlusconi Confirms Italy Moving Toward Balanced Budget Amendment).
In terms of policymaking in the U.S., all eyes are now set on Fed Chairman Ben Bernanke and the possibility of QE3. “We will see the reaffirmation that simulative monetary policy will continue for a protracted amount of time,” explained Chan, but decisive action won’t come from Tuesday’s FOMC meeting. (Read After ECB And G7 Commit To Intervne Markets, Will Bernanke Enact QE3?).
Three factors would force the Fed’s hand and lead to a further round of quantitative easing, the most relevant of which would be a deflationary cycle. We are actually in a situation where prices continue to rise, according to Chan, so there’s no deflationary concern for the moment.
QE3 could be spiked by a continued, and deep, fall in asset prices, Chan noted. Many have criticized Bernanke for targetting equity markets, but there does seem to be a connection between rising stock prices, consumption, and capital expenditures. Quantitative easing appears as a good tool in the face of a deflationary market, but it would face serious trouble in a stagflationary cycle.
Chan’s final condition for QE3 would be a realization that the U.S. economy is entering another recession by FOMC participants. ”None of these three conditions appear to have been met,” says Chan.
Chan appears as one of the few voices of optimism, albeit a moderate optimism, given market volatility and a generalize collapse that reminds investors of the turbulent days that followed the demise of Lehman Brothers. With chaos descending into markets, from New York to London to Sao Paulo, Chan stands out as one of the few brave enough and willing to see markets optimistically.
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