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Sometimes the most important economic events come with huge newspaper headlines, stock market meltdown, and the frenetic intervention of government officials.
At other times, a confluence of hard to explain forces has enormous economic implications, but comes and goes without most people being aware of it.
In 2015 and 2016, the United States experienced the second type of event.
Business investment has slowed sharply, due to the mutual weakening of emerging markets, falling oil prices and other commodities and the rising dollar.
The suffering was mainly confined to the energy and agriculture sectors and to the manufacturing sectors that supplied them with equipment. Overall economic growth slowed but remained positive. The national unemployment rate continues to fall. Anyone who has not worked in the fields of energy, agriculture or manufacturing could be forgiven for not noticing.
However, understanding this crisis – considering it a mini-recession – is important in many ways.
This helps explain the economic growth spurt of the last two years. The end of the mini-recession in the spring of 2016 led to a rebound in capital spending that began in mid-2016, which has since helped to accelerate growth. Oil prices have reached a four-year high, a major factor in the rise in business investment this year.
This helps to explain some of the economic discontent evident in the highly productive regions in the 2016 elections. It offers warnings about the source of the next slowdown and shows how important it is for policymakers to remain vigilant and flexible in the face of unpredictable changes in policy. the global economy.
More importantly, the 2015-2016 mini-recession is a cautionary tale for any political decision-maker who may want to consider the United States as an economic island.
The episode is a blatant proof of the risk to which the Trump administration faces when it threatens to cause economic damage to negotiate a leverage on trade and security with other countries. . What happens abroad can return to American shores faster and more powerfully than it seemed possible.
How did it go?
The mini-recession challenges cleanliness. It's a story of spinoffs, feedback loops and unexpected consequences. But here is a summary:
In 2015, Chinese leaders feared that their economy would experience a credit bubble and began imposing policies to curb growth. These worked too well and caused a sharp slowdown. This then caused problems in other emerging countries for which China was a major customer.
Meanwhile, the Federal Reserve, finally convinced that the US economy was returning to health, had planned to end the era of ultra-easy monetary policy.
While the Fed was moving towards monetary tightening, its counterparts in the European Central Bank and the Bank of Japan were moving in the opposite direction. The prospect of higher interest rates in the United States and lower interest rates in the euro zone and Japan has led to a sharp rise in the value of the dollar in global currency markets.
This has aggravated China's problems. China has long linked the value of its currency to the dollar. A stronger dollar made Chinese companies less competitive globally. When China tried to reduce this burden by loosening its anchor in August 2015, it faced capital outflows, exacerbating the economic situation.
In addition, in the main emerging markets, many companies and banks borrowed money in dollars, so that a stronger dollar made their debt heavier.
Gathering things together, and when the Fed decided to raise interest rates, as it finally did in December 2015, it essentially tightened the financial conditions and, as a result, slowed growth in large areas of the economy. world.
The slowdown in emerging markets has resulted in lower demand for oil and many other commodities. This helped to bring down their prices. The price of a barrel of West Texas Intermediate crude oil fell to less than $ 30 in February 2016 from about $ 106 in June 2014. Lower prices for metals such as copper and aluminum, as well as agricultural products such as corn and soybeans have also increased.
This has only worsened the economic difficulties of many emerging economies that are important commodity producers, such as Brazil, Mexico and Indonesia.
Given the drop in prices and the high level of indebtedness of energy producers in the United States, the markets for equities and riskier corporate bonds were put to the test, especially in early 2016.
Each of these forces has links to others. This was not a problem, but an intersection of many of them. It made it diabolically difficult to diagnose, let alone repair, even for people whose job was precisely to do it.
The view of Washington
When the Federal Reserve meets eight times a year to set the interest rate policy, their task, entrusted by Congress, is to determine what is best for the US economy. Their job is not to establish a policy that is best for China, Brazil or Indonesia.
In 2015, things were looking good for the United States.
Inflation was below the Fed's 2% threshold, but traditional economic models that central bankers had long been relying on had predicted that it would begin to rise with the rapid drop in the unemployment rate.
Even as oil and other commodity prices began to fall in the middle of the year, Fed models viewed it as positive for the economy as a whole. While some oil drillers and farmers may have lower incomes, consumers around the world would benefit from cheaper gasoline and grocery bills.
Although officials spent a great deal of time monitoring the global economy, the fact remains that the United States did not depend as much on exports as many smaller countries. The 2008 financial crisis had shown how closely the US and European banking systems were intertwined, but the same could not be said of the ties with Chinese banks.
In other words, during the summer of 2015, many Fed officials certainly felt that the right decision was to start raising interest rates.
In the Treasury Department, which is responsible for the monetary policy of the United States, it seemed that since 2015, the strengthening of the dollar was on the whole benign.
"There was a feeling that the United States was doing well and that the rest of the world was not doing very well," said Nathan Sheets, an under-secretary at the time and now chief economist at PGIM. Fixed Income. "She was motivated by strong American fundamentals."
But by the end of the summer of 2015, financial markets began to react more violently to the feedback loop of currencies and global commodities. It has begun to appear that some of the old rules of thumb – concerning the influence of a rising dollar or falling oil prices on the economy – may not apply.
Perhaps the economic models used by the forecasters had become obsolete and did not fully take into account how the growth of energy production had become more closely linked to the manufacturing sector and the financial markets.
"All of these things were interconnected in different ways and they all resumed their way into the same industries and parts of the economy," said Jay Shambaugh, a member of the White House Council of Economic Advisers. time. Nevertheless, summarizing this complex story into specific memos for senior officials was not an easy task.
"You have to write short and accurate notes to the White House, and it was hard to say exactly what we thought was going on," he said.
Behind the closed doors of the Fed, officials began to wonder whether this explosion of market volatility actually posed a risk to the economy as a whole. Should they stick to their plans for regular increases in interest rates or slowing?
For two days in October, the debate took place publicly.
Stan Fischer, the Fed's vice president, was reluctant to adjust the planned rate hikes and did not want to let financial market fluctuations dictate his policy.
"We do not currently anticipate that the effects of these recent developments on the US economy will prove significant enough to have a significant impact on the path of politics," he said during a speech. in Lima, Peru, on October 11th. 2015.
Lael Brainard, a Federal Reserve governor who had worked on international issues at the Treasury, was a little more worried.
"The intensification of international cross currents could weigh more heavily on US demand directly, or that the anticipation of a sharper divergence in US policy could impose restrictions by further tightening financial conditions." ", she said on October 12. in Washington.
Ms. Brainard was right.
How did the damage work?
The vicious circle of dollar strength, weaker emerging market growth and lower commodity prices has led to a slump in spending on certain types of equipment goods from mid-2015 .
Expenditures on farm machinery in 2016 fell 38% from 2014 levels; With regard to oil and gas structures, as oil rigs think, the number has dropped by 60%.
The boom in oil and gas exploration related to fracking technology has come to a halt with energy prices at unprecedented levels and the sale of equipment related to this boom.
With the fall in domestic capital investment in these industries and the weakness of their operations abroad, companies in the related industries misunderstood it. Caterpillar, a heavy equipment manufacturer, posted a 30% drop in revenue in 2016 compared to 2014.
On the other hand, in the large segments of the economy, things went as usual. Business spending for investments such as computers and office buildings continued to increase, as did consumer spending.
Nevertheless, the slowdown in the industrial sector was strong enough to turn a strong expansion into a weak one. Overall growth fell to 1.3% in the four quarters ended in mid-2016, compared to 3.4% the year before.
The national economy continued to create jobs. But Harris County, Texas, which includes Houston and its near-energy suburbs, lost 0.8% of its jobs during this period. In Peoria, Illinois, hometown of Caterpillar, employment fell 3.2%.
In fact, it was a localized recession, severe in some places, but concentrated enough to not upset the entire US economy.
In Williston, in the North, where the economy had been booming for years because of the ramping up of oil and gas drilling at the Bakken field, activities of all kinds were closed or reduced wages.
"It varies from week to week, but every week is getting worse," said Marcus Jundt, owner of a restaurant, the Williston Brewing Company, at CNBC in March 2016. "We do not know here again.
But it could have been worse.
How did it end?
When Janet Yellen took the leadership of the Federal Reserve in early 2014, she inherited an economy that has been growing steadily for years and is supported by Fed policies.
Deciding when and how to withdraw that support – when raising interest rates, which had been close to zero for more than six years – was going to be the defining choice of his mandate.
In 2015, with signs of a return to the health of the US economy, she and her colleagues felt that it was time to start raising interest rates. She is a great labor market specialist who has spent her entire career studying, among other things, how a tight labor market could eventually affect inflation.
In July of this year, due to the disruption of emerging markets, the The unemployment rate was 5.2%, not much above the level that Fed officials considered compatible with a healthy job market. Then the turmoil of August began.
Yellen chose not to raise rates in September, pending new evidence that the economy was really on track and emerging market issues would not cause too much damage to the national economy. But in December, she felt the situation had stabilized enough to raise rates.
At the same time, the Fed has revealed forecasts indicating that its senior officials planned to raise interest rates four more times in 2016. In a few weeks, global markets sent a message: Not so fast.
The dollar continued to strengthen, commodity prices continued to fall, and the Standard & Poor's 500 fell about 9% over three weeks in late January and early February. Bond yields collapsed, suggesting that the United States was at the risk of recession.
By mid-February 2016, financial leaders from the world's most powerful countries were to meet in Shanghai for the G20 periodic summit. The big question when world markets were in turmoil was: Can the leaders control these forces?
The official statement issued by summit participants contained many evocations of turbulence, recognizing the risks associated with "volatile capital flows" and falling commodity prices. But more important than all words, that's what followed in the following weeks.
Two days after the summit, China lowered its reserve requirements on banks, essentially opening the lever for more loans. In the following months, he would more closely control capital movements outside the country and seek to link the value of the yuan less closely to the dollar.
Three weeks after the summit, the Fed had another political meeting. Rather than raising interest rates as expected in December, Fed officials have refused to raise rates and have sharply reduced their expectations of higher rates over the remainder of 2016.
Together, these steps were enough to end the vicious circle. The dollar has stopped appreciating and has begun to fall. Oil prices have capped and started a recovery. In the United States, investment spending has risen again in the summer of 2016.
What has really happened in Shanghai?
Some financial market analysts have decided to carry out a concerted action on both sides of the Pacific, speculating that the leaders had reached a secret deal at the G20 meeting in February 2016. They called it "the agreement of Shanghai. " the Fed would delay rate increases if the Chinese acted as well.
Ms. Yellen said that was not the case. She said in an interview that there had been an in-depth exchange of views and information with the Chinese delegation in Shanghai, but that there had been no explicit promise or agreement.
"I realize that all over the world it was like a sort of secret deal," she said. "It was not a case. It was the global economy and the financial markets that were influencing the US outlook, and the Fed was sensitive to that, taking that into account and appropriately influencing its policy of influence. "
The Fed, she said, did what she thought was best for the US economy without knowing exactly what the Chinese would do.
Mr Sheets, the former treasury official, also rejected the idea of a secret deal.
"That's not how it works," he said. "There have been a lot of meetings. Many bilateral and quadrilaterals. You meet your counterparts, talk about the global economy and think about the challenges and what could be done. But nothing was agreed behind closed doors that was not part of the official statement. "
Even though there was no formal secret agreement, the result – the leaders of the world's two largest economies focused on the risks presented by the situation – proved sufficient.
Lessons
The impact of the global spiral of commodities in 2015-2016 is evident by a look at economic statistics. This is less the case in the economic debates of 2018.
First, while the Trump administration has claimed full credit for increased business investment, the rebound of the mini-recession is a major factor.
Secondly, the mini-recession may have affected some political attitudes in the 2016 elections. While the economy of the big coastal cities was doing well, 2016 was difficult for many people in the highly dependent local economies. drilling, mining, agriculture or manufacturing machinery that support these industries.
A survey conducted in October 2016 by a publication specializing in agriculture, Agri-Pulse revealed that 86% of farmers were unhappy with the situation in the United States.
Third, economic decision-makers must be flexible in responding to information received, even if it does not reflect their own predictions or preconceptions.
If Ms. Yellen had been more stubborn about sticking to the plan to keep rates in 2016 through her labor market training, the result could well be a real recession. "She is still learning," said Julia Coronado, president of MacroPolicy Perspectives, "and she is not so selfish that she is attached to a vision of the world."
Finally, it shows that the global economy is so interconnected that events in Shanghai or São Paulo can have unpredictable effects in distant countries.
Over the past year, the Trump administration has been demanding tariffs from China and other major economic partners to secure better terms and conditions. But the mini-recession warns of the risk of ricochet.
Like it or not, the complexity of our global connections means that politics can not focus solely on the home front. In 2016, we learned this lesson the hard way, even if everyone did not pay attention to it.
An earlier version of this article misstated the year when the price of a barrel of West Texas Intermediate crude oil was about $ 106. It was in 2014 and not in 2015.
Neil Irwin is a senior economic correspondent for The Upshot. He had previously written for the Washington Post and is the author of "The Alchemists: Three Central Bankers and One World on Fire." @Neil_Irwin • Facebook
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