The outlook for Europe has improved significantly in the past month or so, a fact that still seems to be flying under the mainstream media's radar. On balance, the outlook for the global economy continues to improve. Very good news.
Released last Friday, the Markit Eurozone Composite Purchasing Managers' Index jumped to 53.5, as shown in the chart above. This means the outlook for the Eurozone economy has brightened considerably of late, no doubt due in part to a relaxation of Russia/Ukraine tensions and the likelihood of an acceptable solution to the Greek debt crisis. Even if Greece were to exit the Eurozone, its economy is so small that it wouldn't make much difference. The important issue here is to preserve the integrity of the Euro, a goal which appears to be widely shared among ECU members; if Greece exits, it will pay a price (i.e., the higher inflation that would follow a devaluation of its currency) that will deter others from doing the same. The experience of Argentina tells us that a big currency devaluation only provides a temporary boost to growth—as some of the capital that fled in anticipation of the devaluation returns—but in the end, the inflation that accompanies big devaluations is destructive, especially for the lower and middle classes.
Meanwhile, we recently learned that the German economy expanded at a 2.8% annualized rate in the fourth quarter of last year, up from zero in the second quarter. This is quite encouraging. After a pause in the second half of last year, the Eurozone economy appears to have re-synchronized with the U.S. economy, as both continue to grow. That is an important and positive change on the margin.
As the first of the two charts above shows, since the end of last year Eurozone equities have outperformed U.S. equities by an impressive 10%, after lagging miserably for the preceding five years. But don't get too excited, because in dollar terms, Eurozone equities are still down almost 8% from last summer's post-recession high. The recent relative outperformance of Eurozone equities is overshadowed by a much weaker Euro from a U.S. investor's perspective. Nevertheless, that doesn't negate the fact that Eurozone investors do see an improved economic outlook.
Japanese equities are now at a new 15-year high. The recent improvement in the equity market closely tracks the weakening of the yen, as seen in the first of the two charts above. But unlike the situation in the Eurozone, Japanese equities are up 30% in dollar terms in the past two years (i.e., equity market gains have been much larger than the weakening of the yen). On balance, the market is telling us that things have really improved in Japan in recent years.
As the second of the two charts above shows, the yen is for the first time in 30 years approximately equal to its Purchasing Power Parity value vis a vis the dollar—according to my calculations. It's not that the BoJ has severely depressed or devalued the yen, it's that the yen is now more "normally" valued. The BoJ appears to have successfully switched from a deflationary monetary policy to a neutral monetary policy, and that, in turn, has been a positive for the economy.
Even China is doing better these days: the Shanghai Composite index is up over 60% since last summer, even though growth in the Chinese economy has "slowed" to 7% a year. If only we could all grow 7% a year....
Positive developments overseas add up to a new all-time high for the value of global equities, as shown in the chart above. In the past six years, the market cap of global equities (in dollar terms) has increased more than 160%, rising from its March 2009 low of $25.5 trillion to over $67.3 trillion today. That's a gain of almost $42 trillion! Excluding the $16.8 trillion increase in U.S. equity valuations over this same period, the value of stock markets overseas has increased by $25 trillion. We are talking real, serious money, and a genuine recovery. That's not to say things couldn't or shouldn't be a whole lot better, but the improvement is impressive nonetheless.
Not everyone is doing so well, unfortunately. The Brazilian economy stands out in this regard, with its stock market having lost about 60% of its value in dollar terms in the past four years. Many emerging market economies (e.g., Argentina, Brazil, Venezuela) are burdened by weak commodity prices, poorly-designed fiscal and monetary policies, and endemic corruption.
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