By Dr. Brian G. Long, Ph.D., C.P.M.

The U.S. and world economy is reacting to conditions in China as the August rate of growth has retreated from July.  If I were in China, I would now be arrested for spreading “negative economic rumors.”  The Chinese officials think that they can halt the declining economy by shooting the messengers.

Domestically, SOME of the drop in NEW ORDERS to +7 from +24 may be attributed to the slow worldwide growth, and the recessions in countries like Russia, Turkey, and Brazil.  Seasonal factors may also come into play.  However, the U.S. economy continues to flatten, and the slower rate of growth will eventually impact Michigan as well.

Seven factors are causing the slower numbers for the U.S. economy:

  1. Worldwide economies are slowing. Hence, worldwide exports are falling.  One recent report notes that Michigan exports to the world have slowed by 14% over the past year. The PMI reports from France, Greece, Brazil, and Russia, Japan, and Taiwan have all turned negative.
  2. Falling commodity prices. Cheaper copper and steel are great if you are on the buying side, but at the other end of the supply chain, Arizona mines are being shut down, fewer oil wells are being drilled in South Dakota, and the mining and oil equipment manufacturers in place like Houston are cutting back significantly.  Except for on firm in our survey, we don’t see it here in Michigan very much, but other states are feeling the pinch.  Furthermore, the speculators are being squeezed out of the market, resulting in even more pressure on commodity prices.
  3. Strong dollar. As a result less favorable exchange rates, part of our export slowdown is because U.S. goods are now more expensive just because of an additional 4% more currency conversion cost.  Another currency impact:  The earnings for our international companies are falling because of the less favorable conversion ratio. Stated differently, a foreign subsidiary can have identical profits for any given period, but when the earnings are converted back to U.S. dollars, they are less—just because of currency fluctuation.
  4. Farm prices falling. Primarily because of the stronger dollar, the prices for corn, wheat, soybeans, and other key agricultural export commodities are falling back to 2009 recession levels.  The agricultural supply chains which includes the fertilizer companies, seed companies, and farm equipment manufacturers are feeling the pinch as well.
  5. Topping Out. Over the past three years, I have repeatedly made the point that the industrial sector in Michigan is reaching full capacity, and industry can go just so far in contributing to the recovery.
  6. China exposure. With business conditions slackening in China, firms with substantial financial Chinese exposure are worried.  Even worse, we are all worried that a collapse in China could draw the rest of the world into a recession.  China has the second largest economy in the world, followed by Japan, a distant third.  When converted by PPP (Purchasing Power Parity), some estimates say that the Chinese economy is actually the largest.  It is also important to recall that China is the biggest consumer of lead, tin, nickel, copper, zinc, steel, coal, and a half dozen other commodities.  Thirty years ago they used about 1% of what they do now.
  7. Enron China. No, Enron was never in China.   I’m thinking of all of the phony numbers that Enron fed the public for about three years before the whole house of cards collapsed.  Millions of Chinese people could be unemployed overnight.  Factories could close, and Walmart could be left with empty shelves.

Bottom Line:  If the Chinese economy simply slows, our domestic economy will slow as well. We have at least some positive momentum remaining to keep us at a very slow rate of growth.  If the Chinese economy goes into a full-fledged recession, it will draw the rest of the world in with it, and the U.S. will not be spared.