10 Economic Predictions for 2011- Updated

This post updates the 10 economic predictions I made for 2011 in January. 

As we progress through 2011, somehow it seems that the metaphysical fog that blinds us from seeing the future clearly is getting thicker and with that the exercise of predicting the future has become less certain.

1. Oil, hard and soft commodity prices will continue to rise

Driven mainly by the dangerous turmoil sweeping through the Middle East, Brent’s rise has accelerated, rising 29% from $94 to $121 over the quarter. As the Arab springtime has no logical limits or ends, I suspect this dangerous situation will continue and oil's rise will continue.

Gold continued its role as a hedge against troubles and rose 4% during the quarter. Silver rose 27% mainly on the back of strong consumer demand. It seems that the combination of safe haven appeal, industrial metal appeal and the self reinforcing power of rapid upward price momentum have created an unstable market.

Wheat, copper and zinc continued to rise until mid February, before closing lower over the quarter. The 2010 patterns of parallel price rises for these commodities continued until through mid February when they started to break down. These coincidental breakdowns seem to indicate that consumer markets are beginning to react to the pain of higher commodity prices and have called the top to these trends.  It therefore looks as though the current ‘commodities’ boom may have peaked and is now headed lower. Due to the ‘feed through delay’ I do not expect these previous commodity price rises to be fully reflected in RPI measures until later in the year.

2. Central banks will raise interest rates

There has been much discussion recently as to whether the various central banks are following divergent paths. The common view seems to be that the ECB will raise rates and the US & UK central banks will keep rates at historically low levels. I agree that regardless of the stresses that ECB interest rate rises will have on the EU’s peripheral members the ECB has little choice but to raise rates.  The argument that the BoE and the Fed will not raise rates looks less convincing. The BoE MPC is apparently ‘split’ on the issue and Bernanke is hanging onto the belief that observed increases in inflation will be ‘transitional’. In other words inflation will be short lived. There seems little chance of this occurring, especially as far as the ‘king’ of commodities, oil is concerned. I therefore expect that within months both the BoE and Fed will also succumb to the inevitable and, to a howl of protests, raise rates.

3. Faced with increasing inflation, increasing risk aversion and the threat of sovereign debt haircuts, bond prices will plunge

Various peripheral EU country bond rates rose over the quarter. The possibility that sovereign bond holders taking haircuts has moved from being ‘unlikely’ to ‘possible’ and, in the case of Ireland it now looks certain that bond holders of some non-guaranteed debts will be asked to share the pain by taking haircuts.  If the persistent rate rises experienced in Q1 continue into Q2 the spectre of a full blown Bond Market rout will soon hover over and haunt the market.

4. Savings rates will remain low

There is little sign that UK Banks are prepared to attract deposits by offering savers higher rates.

5. The Euro Zone will experience more turmoil

The anticipated twin discomforts of higher commodity prices and higher interest rates are still ‘in the pipe’. When they do arrive, they will further destabilise the Euro Zone. At this time certain countries, through no additional fault of their own, will contemplate defaulting on their debts. There will be cries to eject from the Single Currency Union the weakest members. “Better for them to take the pain than all of us. Kick them out!” The trouble with these calls is that wiser heads will understand that just like a (polygamous) marriage in crisis, the cost of a breakup can be greater than sticking it out together.

6. Beijing will prosper

Meanwhile, on the other side of the planet, the giant juggernaut of the Chinese economy keeps powering on. Their phenomenal growth continues even though the Chinese Government is actively working to cool its markets. Their rate of growth may be slowing but, growth itself is not in doubt. China is now unquestionably the country with the strongest economy. Although it faces a number of threats it retains a massive antidote to what could end in a sea of inflationary troubles, it can at any time raise its grossly undervalued YUAN. This done, it’s grotesque ‘war chest of gold’ will become an even more omnipresent feature of the global economic landscape.

7. The American economy will stall

The American economy continues to struggle to find real growth. While cheap money is making some recovery possible, the headwinds of omnipresent debts, a sick property market, commodity inflation and increasing doubts about Obama’s ‘speak well but act poorly’ leadership are slowing progress.

The multi-level frictions between Obama and the Republicans are becoming ever more fractious. This behaviour increases the probability that tough budget decisions will be postponed and with that true recovery.

8. Unemployment in the UK will increase

The UK March unemployment rate was 8.0%, up 0.1% over the quarter and 0.2% on the year. This rise was somewhat lower than I expected. I continue to assume that the consequences of the Government’s austerity programs will increasingly permeate through the economy over the remainder of the year. It is likely that as unemployment drifts higher the UK economy will shrink, and that these trends will become self reinforcing for years to come.

9. Other taxes will rise

Although the Government is facing a stagnant private sector and its own burgeoning monthly deficits, it is yet to take decisive action to deal with the deficit by raising various taxes. The Jan 4 VAT increase has been joined by Osborne’s North Sea windfall tax. Although this latest tax was greeted by loud protests, other similar taxes can be expected. Each new initiative will undermine consumer confidence, scare households into reducing spending and risks further shrinking the economy.

10. Civic unrest will increase

Faced with increasing prices, increasing taxes, rising interest rates, falling investment values and higher unemployment, ordinary people will get increasingly restless. Although we have seen emotionally valid but logically daft ‘no cuts’ protests, to date the populace as a whole and the union movement in particular have been rather subdued. It seems that no group has yet decided to get serious about challenging the CON-DEM Government’s policies. A more focused union movement can be expected to seek unity and find power by orchestrating strikes.

Shares

On the face of it, it seems that during Q1 2011 global share markets have been able to face down numerous headwinds by moving higher. However, a closer analysis shows that within the broader market’s rise numerous small stocks peaked in January/ February 2011 and have since been in slow tedious declines.

The investment path I have chosen to follow in 2011 is the same as in 2010, which is to invest in companies that in my view have superior risk-reward prospects. These stocks are frequently small non-conservative companies. The stocks I included in my original January post have performed as follows:

·      Film company Intandem Films (LON:IFM) is up 25%. This is a good result as progress has been slower than expected. Expecting better.

·      Oil and gas explorer Cove Energy(LON:COV) is down 4%. Looking forward, it is clear that the SP will move depending of the results of series of planned offshore exploration wells.

·      Iron ore explorer Beowulf Mining(LON:BEM) is up 97% on the back of further success at is Swedish licenses. A resource update is expected shortly.

·      Publisher Quercus Publishing (PLUS:QUPP) is up 9%. This small rise does not fully reflect the exceptional actual 2010 performance of the company. Currently the PE is 4. ALK may migrate from PLUS to AIM or even the main board during 2011, an event that would presumably increase the liquidity and price of the stock.

·      Gold miner Medusa Mining(LON:MML, ASX:MML) is up 12%. Given the continuing strength of the gold price, recent exploration success and this company’s huge margins this SP increase was less than expected.

·      Australian listed credit collections company Credit Corp Group (ASX:CCP) is up 51%, a continuation of the strong performance it gave in the previous two years.

·      Australian listed emerging rare earths and gold exploration company Alkane Resources (ASX:ALK) rose 120% during the quarter. A number of key project announcement are expected during the remainder of 2011.

Good luck to all