Forecaster David Levy sees a spreading global recession intensifying and ultimately engulfing the world’s economies.
Although the U.S. economy is in pretty good shape, it doesn’t have enough strength to fend off weakening fundamentals elsewhere, particularly in the emerging markets. That’s the view of David Levy, the 60-year-old chairman of the Jerome Levy Forecasting Center in Mount Kisco, N.Y. Levy, who helps write the Levy Forecast, the firm’s newsletter, argues that the more bullish consensus view underestimates the linkages between the U.S. and emerging markets, which account for roughly 40% of global gross domestic product. And he worries that China will have a very tough time making a soft landing as it tries to refocus its economy. To discuss his observations and their investing implications, Barron’s sat down recently with Levy at our offices.Barron’s: When we last spoke in August 2013, you were worried about the global economy. What’s your latest assessment?Levy: At the time, we had a lot of concerns about China and the rest of the emerging markets. We were also worried about various political decisions. Europe, for example, was thinking about more austerity, the U.S. was thinking about very sharp budget cuts, and, as for China, who knew what they were going to do? But they were struggling. Essentially, our biggest worry was that if these more counter-stimulatory moves were made, that might put the world in a recession. More than two years later, we have started to see what I consider to be the housing bubble of this cycle. But this time around, it’s the emerging market expansion bubble that’s starting to break down. Even by the start of 2015, there were a few countries in recession. In other countries, such as Taiwan, there’s clearly a general decline in the strength of the expansions. By the time we get third-quarter data, I expect to see that more of those countries are in—or very close to—recession. The problem is that, much like with the housing bubble, it’s not something that shows up in economics textbooks.Where is it showing up?In the financial dimension of the economy, where balance sheets live, and in profits. Looking at the entire global economy as one entity, the biggest source of profit growth in recent years was the net investment in emerging market export capacity. But now that net investment is slowing gradually in the emerging markets. It is evident not only from the data on exports from major capital goods exporters, but also from companies. One after another, when they talk about their outlook and performance, companies refer to weakness, weakening, or greater weakness in the emerging markets. It is much like the housing bubble in the U.S. nearly a decade ago when it started, because the deterioration of the emerging markets has the ability to topple the global economy.How close are we to a global recession?Parts of the global economy have already turned down, including Russia, which has some special problems related to energy and economic sanctions, and Brazil. Most of South America looks pretty close to recession, and we’ve seen slowdowns in other parts of the world. The one area that has picked up somewhat is Europe. But when we analyze what has been boosting their profits, it is entirely accounted for by the improvement in Europe’s current-account balance. Obviously, the cheaper euro helped their exports. And they get an extra bonus from falling petroleum prices, but Europe’s momentum is showing signs of starting to fade.How strong is the U.S. economy?The U.S. is doing fairly well. It does, however, have impediments to rapid growth, including a lot of debt, expensive housing, a crash in domestic energy investment, and, contrary to some views, a lack of incentives to expand fixed-capital investment much. But the one thing that has actually caused the economy to weaken a little is sagging profits. We’ve heard people use the term “profits recession,” but there is no profits recession without a real recession. I see signs of things slowing as a result of that profits decline, which can be blamed pretty much directly on weakening exports and, to some extent, the dollar’s strength. But most of it is because emerging markets have bogged down.So the U.S. economy is weakening?Yes, it is, but there is no way the U.S. by itself is about to keel over. The danger is not so much that we’re going to start to slide sharply, but rather that conditions overseas will become much rockier....MORE