Fresh Start

Fresh Start
A new investment regime as East meets West

By Vincent Lépine, vice-president research and global asset allocation, CIBC Asset Management

When China massively devalued its currency in 1994, no one could have imagined the impact this move would have on the world economy. Three years later, Asia experienced a full-blown currency crisis and the world was never the same again. The devaluation marked the start of a global productivity shock of unprecedented proportions. Acting as a subsidy to Asian producers, undervalued currencies caused the migration of production from industrialized countries to emerging countries. By the same token, overvalued industrialized currencies acted as a subsidy to Western consumers via cheap Asian imports.

Moving into this decade, the world experienced a global recession at a time when inflation was no threat. World central bankers responded by aggressively cutting their interest rates. Between 2003 and 2004, central banks continued to increase liquidity as they worried about a massive Japanese-style deflationary bust. The side effects of the exceptional global liquidity injection have been numerous. Western consumer spending was kept well-alive thanks to a booming housing sector and exceptionally cheap credit. As the world experienced a breathtaking economic expansion, commodity prices embarked on their longest bull market ever. Conditions fell in place for emerging countries to outshine industrialized countries. And, finally, global financial markets gradually moved into a world of extremely low volatility.

More change on the horizon

Ten years later, the global liquidity environment is changing before our very eyes, with mounting evidence that the world is shifting to a new investment regime with the following key structural features.

  • The end of foreign exchange manipulations by emerging markets.
  • The end of the subsidization of Asian producers.
  • The awakening of the Asian consumer resulting in increased Asian consumer demand.
  • The increasing influence on commodity prices by emerging market Asia.
  • The dramatic increase in the size of sovereign wealth funds in search of assets that are uncorrelated with their sources of sovereign wealth.
  • A fragile western consumer with extremely high debt loads.
  • Demographic trends resulting in a larger workforce in emerging markets and a shrinking workforce in industrialized countries.

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