Geoeconomics Bi-Weekly: Markets Swing Amid Concerns of a Weakening U.S. Economy

State of the Global Economy 

The U.S. economy has been under heavy scrutiny this week as some analysts warn that the Fed has held interest rates high for too long and a recession may now be looming. The concerns largely stem from last Friday’s jobs report, which revealed that job growth slowed to 114,000 in July and unemployment jumped from 4.1% to 4.3%. The news rattled markets around the globe, wiping out $6.4 trillion in value (though, as we’ll cover below, some of this had to do with events in Japan). Though markets rebounded later in the week and some experts claim talks of a recession are “nonsense,” others see signs of weakness and remain highly wary of the current macro-financial environment. Fed Chair Jerome Powell hinted that a rate cut is likely at the Fed's next meeting in September. 

In Europe, hopes for a September rate cut by the European Central Bank (ECB) diminished as inflation edged up in July. The Consumer Price Index (CPI) recorded an annual price increase of 2.6%, up from 2.5% in June, while core CPI remained level at 2.9%. The rise in inflation comes as the Eurozone economy remains resilient, albeit not booming: GDP grew 0.3% in the second quarter. Meanwhile, the Bank of England cut interest rates for the first time in four years last week, after UK inflation hit the bank’s 2% target in both May and June. 

Over in East Asia, the Chinese economy experienced a slowdown in export growth, signaling that China’s heavy dependence on trade is facing growing risks. Exports grew 7% year-over-year in July, down from an 8.6% rise in June. Per the purchasing managers index, China’s manufacturing sector also contracted slightly in July, while shipping companies have indicated that many customers are ordering goods much earlier in the year than anticipated in response to the looming threat of a U.S.-China trade war. Recognizing that external demand for Chinese goods is likely to wane, Chinese President Xi Jinping called for measures to boost domestic consumption. 

Around the World  

U.S. rejects Vietnam’s bid for “market economy” status in potential setback to trade ties: As Vietnam has emerged as an increasingly attractive alternative to China in the global tech supply chain, the United States has made a concerted effort to strengthen trade ties with the Southeast Asian nation. President Biden traveled to Hanoi last fall to elevate their relationship to a “Comprehensive Strategic Partnership,” the top status in Vietnam’s bilateral ties hierarchy. To strengthen these ties further, Vietnamese officials made a bid last year to upgrade Vietnam’s designation by the U.S. Department of Commerce from “non-market economy” to “market economy,” which would reduce tariffs on Vietnamese imports and further boost trade. However, the United States rejected its bid this week, citing “the extensive government involvement in Vietnam’s economy [that] distorts Vietnamese prices and costs.” Vietnam’s push faced stiff opposition from industries such as steel and agriculture which compete with Vietnamese imports.  

Despite U.S. export controls, China finds ways to import advanced semiconductors: As export controls have grown increasingly central in U.S. economic security policy, both the number of technologies and foreign entities under trade restriction have increased dramatically. Yet, the Bureau of Industry and Security (BIS), the agency that administers and enforces export controls, has not seen a budget increase since 2010. This is perhaps just one reason why a report last week found that many restricted semiconductors are still finding their way into China through smugglers, illicit shipping operations, and complex networks of shell companies and foreign subsidiaries. Completely stopping the flow of advanced chips to China is unrealistic—the global economy is too complex, and smugglers are too determined. Yet the scale of some deals (one exceeded $100 million) highlights the known difficulty in effectively utilizing export controls. 

Japan's stock market experiences largest single day drop since “Black Monday” in 1987: While many advanced economies have dealt with high inflation over the last several years, Japan has continued its decades-long struggle against deflation. The good news is that this struggle may be over: June inflation came in at 2.8%, prompting the Bank of Japan to raise interest rates last week for just the second time in 17 years. The bad news is that markets must now adjust to this shift. Japan’s years of below-zero interest rates caused the Yen to depreciate, as investors borrowed ultra-cheap Yen to buy foreign assets (known as a “carry trade”), flooding global market with Yen. This low price also helped Japanese exporters (whose products became cheaper abroad) and Japan’s multinational companies (whose overseas profits increased in value). But last week’s interest rate hike caused the Yen to appreciate rapidly as the carry trade became riskier, making the monetary environment less favorable for Japanese companies and prompting investors to dump stocks. The Japanese stock market plummeted over 12% on Monday (more than it did during the 2008 financial crisis). Though the market rebounded on Tuesday, some analysts believe further liquidation and instability are likely. 

South Korea doubles down on semiconductors as economic growth continues to sputter: While the economies of many countries boomed in the late 20th century, few prospered more than South Korea. Driven by rapid industrialization post-World War Two, South Korea’s economy grew at an average of 6.4% between 1970 and 2022. However, its economic prospects may be shifting. The Bank of Korea warned last year that annual growth is on course to slow to 0.6% in the 2030s and to start to shrink by the 2040s amid a demographic crisis (South Korea owns the world’s lowest fertility rate of 0.81 births per woman). In response, South Korea is doubling down on an industry that brought it success: semiconductors. The east Asian-nation has implemented its own version of the CHIPS Act (the K-CHIPS Act), and earlier this year unveiled a $19 billion support package for chip manufacturing. Still, many are skeptical that the economic model which brought it past success will work going forward. Data released this week showed that South Korea’s GDP fell 0.2% in the second quarter. 

Indonesia continues steady growth as it balances relationships with China and the United States: Indonesia, the world’s 16th largest economy and 4th most populous nation, has emerged as a key player in the growing economic and technological competition between the United States and China. The strategically located nation of over 275 million possesses abundant natural resources and a growing consumer base, prompting the United States and China to vie for economic influence. Last year, Indonesia and the United States announced a “comprehensive strategic partnership” designed to boost economic ties between the two nations. China, for its part, has pledged billions in investments and is heavily involved in the development of Indonesia’s critical mineral industry, a key source of economic growth in Indonesia that accounted for 11.9% of Indonesia’s 2023 GDP growth. Indonesia's economy is benefiting from the contest. Its GDP expanded at an annual rate of 5.05% in the second quarter of this year, and incoming president Prabowo Subianto has stated ambitions of achieving world-leading 8% annual growth. 

What We’re Watching 

• August 22 – The annual Jackson Hole Economic Policy Symposium begins, which will convene dozens of central bankers, policymakers, academics, and economists from around the world. This year’s conference is titled “Reassessing the Effectiveness and Transmission of Monetary Policy.” 
• September 17 – The U.S. Federal Reserve meets to decide on interest rates.  
• September 19 – The Bank of Japan meets to decide on interest rates.