Is “Green Shoots” a sign of recovery?

Many people are suggesting that the recent data from the manufacturing, housing market, labor markets suggest that the ‘green shoots’ of an economic recovery are blossoming. While there do seem to be some signs of improvement, ie that the pace of contraction has slowed, the most recent data may still suggest that the global economic contraction is still in full swing with a very severe, a deep and protracted U-shaped recession.

Although the outlook for global manufacturing and service sectors is still consistent with a significant fall in global GDP, the pace of contraction began to slow towards the end of Q1, even in Europe and Japan which have lagged the U.S. and China. Globally, surveys suggest that the manufacturing outlook has improved from the freefall of the end of Q4 2008 and early 2009. Some emerging economies like China may now be experiencing expansion based on government investment, but those of most advanced economies remain well in contraction territory. In part, inventory adjustment following the sharp destocking could contribute to a revival in demand, but a real increase in end user demand needed for a sustainable fast-paced recovery could be far off.

Another necessary condition for a global recovery is a bottoming in not only the U.S. but also global housing markets. So far in most markets, housing prices seem far from their bottom and the outstanding inventory continues to be very high.

Moreover there is a risk that the increase in commodity prices might choke off a sustainable recovery if it weighs on industrial production and consumption. The recent increase in commodity prices, driven in part by an increase in Chinese demand for crude oil and other commodities, has contributed to an increase in the Baltic Dry shipping index. Yet, given the significant inventory in commodities like oil, prices might suffer renewed declines. Moreover although trade finance is no longer quite as impaired as at the turn of the year, global trade continues to be quite weak as evidenced from recent data from China, the U.S. and other countries.

Accompanied by the rally in stocks starting in March, the wide variety of central banks’ liquidity facilities have finally started to show clear effects in the interbank lending and money markets. Stress indicators such as the 3 month LIBOR-OIS spreads have narrowed significantly as well as the TED spread. The stock market rally extended also to the bond market with spreads receding significantly and junk bonds outperforming all other asset classes in the month of April. It’s not the sign of that the worst is over, maybe markets just have overextended themselves.