1. The Global Analyst | JULY 201544 |
INTERNATIONAL
UNITED STATES
Is a Slowdown in the Offing?
In the absence of potential tail risk events/severe shocks and externalities, the
rate of GDP growth in the US should eventually rebound in the coming quarters.
- Dr. IVO PEZZUTO, Global Markets Analyst, Management Consultant,
Economics and Management Professor
Author of the Book “Predictable and Avoidable” ISTUD Business School and
Catholic University of the Sacred Heart. Milan, Italy

2. 45The Global Analyst | JULY 2015 |
T
he second estimate of first-quarter of 2015
GDP of the US economy shrank at a 0.7 per
cent annualized rate. This contraction proved
to be a bit less than expected (i.e. 0.9 per cent
on an annualized basis to start 2015). The ini-
tial estimate of Q1 2015 GDP, released April 29, showed
the economy grew 0.2 per cent to start the year, but well
below then-consensus expectations for a 1 per cent in-
crease. Industrial production has been affected by a
strong US dollar and sluggish global growth, however,
business confidence and consumer confidence indicators
and other indicators seem to suggest that the surprise Q1
contraction will not last much longer despite the fragile
US and Eurozone recovery.
• A number of factors seem to have contributed to the
Q1 2015 GDP contraction, among these notable ones
are:
• The harsh winter conditions;
• Dockers’ strikes all across the West Coast;
• Increased trade deficit due to a stronger dollar which
has allowed American consumers to purchase a larg-
er amount of the depreciated foreign-made goods;
• Manufacturing has been undermined by the buoyant
dollar, whose 12.1 per cent appreciation against the
currencies of the United States’ main trading part-
ners since last June has eroded overseas profits of
multinational companies. Cheap oil and a strong
dollar, while beneficial to consumers, are putting se-
rious pressure on manufacturers.
• Lower increase in domestic stockpiles of goods. Do-
mestic inventories decreased due to a pickup in busi-
ness activity, the results of which are expected to re-
veal themselves in Q2;
• A slightly weaker-than-expected consumer spending;
• Decreased investment in the energy sector following
the drop in fuel prices (lower crude prices triggered
a partial freeze in the shale boom). Capital spend-
ing in oil field exploration and drilling slumped 48.6
per cent in Q1, the greatest decline since 2009. The
stronger dollar and reduced capex spending by oil-
field firms combined with a harsh winter and softer
global demand contributed to slow U.S. growth at
the start of the year.
• Slowing exports, non-residential fixed income invest-
ment and local government spending
• Corporate profits also fell in the first quarter
Nevertheless, in the absence of potential tail risk events/
severe shocks and externalities (i.e., “Grexit” or poten-
tial Eurozone political and social tensions, further geo-
political issues related to Russia/Ukraine, or potential
crises affecting the Emerging Markets, etc.), the rate of
GDP growth in the US should eventually rebound in the
coming quarters. An improving labour market is among
reasons consumers may be more willing to spend in the
next quarters if the economy continues to improve and
there will be no negative impact of a potential rate hike
by the Federal Reserve.
A revival is not far off, though
Gallup’s US Economic Confidence Index registered at -9
for the week ending June 7, the sixth straight week the
index has been at or below -5. (Gallup 2015). Based on the
latest forecast on the US Economy by Oxford Economics,
it seems quite unlikely that the Federal Reserve will com-
mit itself in June 2015 to a specific rate lift-off date (the
timing and pace of rates lift-off; Fed in its meeting on June
17 did not press for rate hike while sounding cautionary
about GDP growth), but consumer spending is expected
to strengthen through the rest of the year as faster wage
growth, lower oil prices, and upbeat confidence lead
consumers to spend more. Furthermore, increased wage
growth, historically high affordability, and a slow release
of pent-up demand are expected to underpin a stronger
pace of activity in the housing sector. Lower oil prices, a
stronger dollar, and slow global growth will continue to
drag on business investment, but in the coming quarters
the impact of factors will diminish and domestic activity
will probably strengthen. Lower energy prices will con-
tinue to weigh on headline inflation, while core inflation
will remain well-anchored.
With real GDP growth averaging 2 per cent towards the
end of the year, the unemployment rate hovering close to
5 per cent and inflation moving back toward 2 per cent,
it is likely to expect a potential rate hike by the Federal
Reserve in September 2015 or December 2015 (policy nor-
malization), in the absence of major risk events/severe
global shocks, externalities, slow recovery and subdued
inflation, or lower productivity growth.
Needed a ‘New Deal’ to end the Greece Crisis
Financial markets, however, can be quite volatile when
hit by fears of potential economic and financial crises
(i.e., “Grexit” - S&P has recently downgraded Greece to
CCC, with negative outlook and IMF payment has been
deferred), potential contagion risks, or geo-political ten-
sions in various areas of the world. All these elements
might have a sudden impact on the emotional reactions
of investors who might turn immediately risk averse
due to the rising uncertainty, markets’ interconnected-
ness and complexity. ECB President Mario Draghi said
in April 2015 that “the euro area is better equipped than
it had been in the past to deal with a new Greek crisis,
but warned of ‘uncharted waters’ if the situation were to
deteriorate badly.” No one can fully predict the unin-
tended geo-political, economic and social consequences
of a potential “Grexit” scenario.
In the last six months, that is, since the beginning of the
new Greek crisis in 2015, we have not yet seen a signifi-
cant emotional or panic reaction of international inves-
tors about a potential “Grexit” event (Exit of Greece from
the Eurozone). This apparent calm reaction of the finan-
cial markets can be probably related to the higher confi-
dence investors have in Greece’s major creditors’ ability
Is a Slowdown in the Offing?

3. The Global Analyst | JULY 201546 |
(i.e. IMF, ECB, and EU Countries) to
figure out a sustainable agreement to
keep Greece in the Eurozone at any
cost, or at least, to be able to mitigate
the negative effects of a potential
“Grexit” event. It could be also due
to the fact that the international pri-
vate financial institutions currently
have only a marginal exposure to the
Greek debt.
Whatever will be the outcome of
the current Greek crisis, in order to
avoid in the future additional poten-
tial systemic risks (i.e. liquidity, sol-
vency, banking, political crises) and
potential spillorver effects, and to
revamp long-term economic growth
and prosperity in the Eurozone, it is
crucial to reach an agreement to pre-
vent the further deterioration of the
economic and financial situation in
the Country and to keep Greece sol-
vent in the long term. Furthermore,
It would be also beneficial for the
European leaders to envision and
implement in the coming years (the
sooner, the better), a stronger and
more cohesive integration process
and a new deal (i.e., revision of the
Eurozone Treaties) in order to mini-
mize the risks of potential durable
spillover effects to the rest of the euro
zone or global economy in case of a
potential default of a member state.
The new deal should probably in-
clude the following ambitious and
daring policy decisions (political
courage) while trying to avoid any
potential risk related to moral haz-
ard:
• Allow a more pro-active use of
the crisis resolution mechanism/
fund and of the regional institu-
tions and facilties to prevent cri-
ses (i.e. ECB, European Stability
Mechanism, European Invest-
ment Bank, or the creation of a
European Monetary Fund), i.e.,
before the default occurs;
• Assure proper capital controls
policies and bail-in regime for
banks’ crisis resolution and loss
absorption
• Assure full risk sharing mecha-
nisms among member states for
QE programs and a common fis-
cal backstop for solvency/sover-
eign debt crises;
• Assure full integration in the
Euro zone of the fiscal (i.e. the
assurance of a fiscal backstop
and fiscal transfers), economic,
monetary, banking, capital mar-
kets, financial, and political sys-
tems;
• Introduce a single deposit-insur-
ance mechanism covering all
banks in the Union;
• Assure adequate powers for the
single supervisory mechanism
in the Euro zone and effective
and forward looking macropru-
dential regulation of all financial
institutions (i,e. banks, shadow
banking, investment funds,
hedge funds, asset management
firms, and insurance firms), as
well as, harmonized bankruptcy
laws, accounting rules, and fiscal
criteria in the region, and a sin-
gle and fully empowered crisis
resolution authority;
• Implement a common mecha-
nism to support job flexibility in
countries with high unemploy-
ment;
• Introduce clear policies and res-
olution criteria for managing
bank crises, banks recapitaliza-
tions, collateral haircuts policy,
balance of payments imbalanc-
es, asymmetric shocks, and debt
restructuring solutions in case
of fiscal and debt restructuring/
solvency crises. Thus, it is im-
portant to allow member states
to restructure their debt.
• Reduce the “revolving doors”
practices between regulators,
supervisory authorities and fi-
nancial institutions introducing
policies that a ban the “common
practice” for a number of years
(i.e. 5 years or more)
• Monitor that the ultra-accommo-
dative monetary policies do not
create perverse incentives for the
corporate world to pursue mas-
sive leverage strategies issuing
unprecedented levels of corpo-
rate bonds. This practice is facili-
tated by the excess of liquidity
and cheap funding guaranteed
by the central banks, and allows
corporations to lever up (e.g.
higher leverage) their balance
sheets and to conduct stockhold-
er-friendly actions, like buying
back stock or paying dividends.
As a result of these strategies, the
corporate world can artificially
increase the profitability of their
businesses (and their earnings
per share) for common stock-
holders, but without changing
also the fundamentals of their
businesses through investments
in capital expenditures.
• Differently from the stock mar-
ket, the corporate bond market,
in general, is far less liquid and
Is a Slowdown in the Offing?

4. 47The Global Analyst | JULY 2015 |
tends to perform quite poorly
during periods of rising interest
rates and, in general, its securi-
ties are not traded in more liquid
exchanges, as stocks are, but they
are traded mostly over the coun-
ter in illiquid markets. As stated
by Economist Nouriel Roubini,
“private and public debts be-
fore and after the financial cri-
sis – are held in open-ended
funds that allow investors to exit
overnight.” (Roubini, 2015)Prof.
Roubini also added the follow-
ing: “This combination of macro
liquidity and market illiquidity
is a time bomb. So far, it has led
only to volatile flash crashes and
sudden changes in bond yields
and stock prices. But, over time,
the longer central banks create
liquidity to suppress short-run
volatility, the more they will
feed price bubbles in equity,
bond, and other asset markets.
As more investors pile into over-
valued, increasingly illiquid as-
sets – such as bonds – the risk
of a long-term crash increases.”
(Roubini, 2015)
• Furthermore, as I have stated in
an interview with the Brazilian
news agency, Agência Estado, in
2011, “a generalized approach of
contractionary fiscal policies in
the peripheral European coun-
tries, based only on tough na-
tional austerity programs; rigid
budget discipline, fiscal consoli-
dation, state-owned assets and
shareholdings’ dismissals/priva-
tizations, and higher taxation;
with limited or no commitment
also to contra-cyclical measures
towards growth (i.e. invest-
ments on innovation, educa-
tion, infrastructures, tax breaks,
tax incentives, and tax wedge
reduction); effective structural
reforms, spending cuts of non-
productive expenditures (to fill
the ‘competitive gap’ and to re-
vamp productivity and expecta-
tions), and some degree of flex-
ibility to reach budget and fiscal
consolidation targets during
adverse economic cycles, would
eventually turn a bad situation
into a worse one (self-defeating
strategy) or prolonged recession,
or stagnation, or slow and anae-
mic, and uneven growth (Pez-
zuto 2011).
The QE program introduced in the
Eurozone in 2015 is very important
to help restore confidence and to af-
fect, over the years, inflation expec-
tations, but it might not be sufficient
to guarantee long-term economic
growth and higher employment un-
less it is also combined with non-
conventional and ultra-aggressive
economic policies, fiscal policies/in-
centives, industrial and investment
plans, innovation programs, and
radical structural reforms affecting
private firms’ and public adminis-
tration productivity, labour market,
welfare systems, free market compe-
tition, performance-based compen-
sation, meritocracy, etc.
As I have reported in my paper of
September 2014 titled, “Predictable
and Avoidable: What’s Next?”, “The
peripheral Eurozone countries need
to focus their most critical resources
on long-term development projects,
strategic industries, infrastructures,
new economic and business models,
and innovative cultural and mana-
gerial paradigms in order to gain
new competitive advantages and to
achieve global competitiveness. The
shift toward a more integrated and
interdependent world economy,
with falling barriers to cross-border
trade and the progressive globaliza-
tion of markets and consumer tastes,
are rapidly forcing western econo-
mies to rethink the sustainability of
their economic and social models.
Thus, the so-called advanced econo-
mies, and in particular the Eurozone
countries, need to pursue their chal-
lenging goals of economic revival
while trying at the same time to
avoid generating the following nega-
tive consequences.
• Destabilizing social cohesion and
trust among member states;
• Decreasing consumer and busi-
ness confidence;
• Increasing distrust in national
and regional political and eco-
nomic leaders;
• Rising levels of inequality and so-
cial exclusion.” (Pezzuto, 2014)
Challenging global environ-
ment
There is no doubt that we are cur-
rently facing a challenging global
economic cycle. Recently, the IMF
revised downward global growth,
while it also cautioned the Federal
Reserve against raising interest rates
Is a Slowdown in the Offing?
Slowdown Blues

5. The Global Analyst | JULY 201548 |
in 2015 and suggested it to postpone
rate lift-off to First Half of 2016. The
IMF has reported that the dollar is
“moderately overvalued” and a fur-
ther marked appreciation would be
“harmful”. The IMF has also stated:
“We still believe that the underpin-
nings for continued expansion are
in place,” and that “The inflation
rate is not progressing at a rate that
would warrant, without risk (i.e.
high volatility in the markets, correc-
tions, potential spillover effects on
the emerging markets, flash crash),
a rate hike in the next few months.
That means the Fed might decide to
wait until early 2016, even if according
to Christine Lagarde, IMF’s Managing
Director, there’s a risk of “slight over-
inflation” relative to the central bank’s
2 per cent target. A stronger dollar,
declining oil investment and a West
Coast port strike in the first quarter
will pull down U.S. growth to 2 per
cent this year, according to the IMF.
Furthermore, she stated that the Fed’s
policy-setting committee “should re-
main data dependent and defer its
first increase in policy rates until there
are greater signs of wage or price in-
flation than are currently evident.”
Beware of De-coupling risk!
Although the US economy seems to
be in a much better shape than most
other ones, it cannot be considered
in total decoupling from the rest of
the world despite its unique innova-
tive and entrepreneurial spirit and
its numerous competitive advan-
tages and comparative advantages
versus other countries. The current
global slowdown and the numerous
externalities and potential economic,
financial, and geo-political risks aris-
ing around the world might have an
important impact even on the US
economy, and mostly on the busi-
ness interests of multinational firms
operating on a global scale.
The US economy, as some econo-
mists fear, might be bracing for one
of the worst first-half performances
since 2011, but even if this will be
confirmed by the data, would be
probably triggered mainly by exter-
nalities, global slowdown, high vola-
tility, and structural problems.
The major challenges that the US
probably faces in its effort to revive its
economy, like most of the advanced
countries, include the long-term wel-
fare system sustainability (i.e. pen-
sion/retirement plans), its ability to
balance sustained economic growth
and the threat of shadow banking
expansion, a generalized reduced
trust in the financial institutions by
the local consumers and investors as
a consequence of the aftermath of the
2007 – 2009 financial crisis, the ability
to reduce inequality and strengthen
the economic prosperity and oppor-
tunities for its the middle class and
the less educated population, which
has been severely penalized by badly
planned globalization/unfair global
competition, before and after the fi-
nancial crisis, (i.e. “no enforceable
Is a Slowdown in the Offing?
“The appropriate policy
decision is going to be data
dependent. Our opinions
will shift as the data evolves
… there are a set of risks
all of us need to weigh —
in judging the appropriate
time. Waiting too long
for normalization can risk
overshooting our inflation
(targets), and beginning too
early could derail a recovery
we have tried to achieve for
a long time.”
JANET YELLEN, US Fed Chair
with the ability to establish new in-
ternational trade agreements to cre-
ate a plain field competition that
might further strengthen its global
competitiveness and on the ability
to encourage further expansion of
internal consumption, investments,
markets’ liberalizations, and innova-
tive business models and global val-
ue chains in the fast-growing emerg-
ing markets
Another potential risk for the US
Economy could be related to the Fed-
eral Reserve rate hike if not properly
managed, although they are very
much aware of this potential risk.
Some analysts say that when the
Fed starts raising interest rates, with
bond prices falling, banks will be left
with depreciating assets (Treasuries)
and stuck with low yielding long-
term loans. As the ‘rug is pulled from
under the banks,’ the housing mar-
ket might collapse as well, as stated
by Peter Schiff. In fact, if monetary
policy normalization in the USA is
not completed smoothly and care-
fully, in spite of improved corpo-
rate profits and stock market record
highs, there could be the potential
risk of a strong correction in the
markets, since the prices of various
asset classes have been “artificially”
inflated since 2008 by seven years of
consecutive close to zero percent Fed
Funds rates and three rounds of mas-
sive QEs (Pezzuto, 2013). Overall,
there might be challenges along the
way, but I believe that the US econ-
omy will remain a leading competi-
tive player in the global arena and an
influential and powerful trendsetter
and benchmark for all economies.
TGA
strong labour
standards, no en-
vironmental stan-
dards, low cost
productions ar-
eas, child labour,
etc.”), as Stated
by President
Barack Obama.
One of the key
challenges for the
US will be related