Alarm bells started to pound louder when former U.S. Federal Reserve Chair Janet Yellen made this statement about real estate prices: “Commercial real estate prices are now ‘quite high relative to rents.’ Now, is that a bubble or is it too high? It’s very hard to tell. But it is a source of some concern that asset valuations are so high.” Even if it recalls one of the warning signs missed at the dawn of the 2008 Crisis, she made this statement on February 4th, 2018, just before she left the Chair.
This statement echoed as 2 consecutive Effective Federal Funds rate increases in 2018, lifting the rate up to 1.75%-2% interval from around 0.75% in 2008. The latest interest rate hike happened this month on June 14th, 2018 as the seventh one since 2015, the year known as the beginning of “13th Tightening Cycle.” This Tightening Cycle is the one coming after the 2008-2015 Monetary Easing period, initiated on March 2008 as an affirmative action taken towards recovering post-crisis shocks and the diminishing demand by increasing the money supply. It was launched when the FED gradually slowed its bond-buying programme from $85-billion a month to $15-billion, followed by a funds rate lowering rally.
Besides the current one, there have been 12 tightening cycles in the US since 1955. Each of them has been mainly initiated because of the inflationary pressures due to economic overheating and rapid growth or to cope with the risk under political uncertainty. As Jannet Yellen gave the clue, reasons for initiating this Tightening Cycle were abnormally high real estate prices, peaked global debt and general belief that markets recovered from 2008 Financial Crisis to a large extent. Besides, political risks posed by rising populism both in Eurozone and US brings up the tension even more.
Tightening cycles begin as central banks jack up the base interest rates in a rally. For citizens, higher interest rate means higher borrowing costs for cars, home mortgages (Benchmark Mortgage Rate is currently at a 4 year high in the US, just 3 years after the Tightening Cycle was initiated) and financial derivatives. For businesses, as spending is tightened, uncertainty in the market peaks and a reluctant approach takes place towards large-scale investments.
The last target interest hike took place this month, for instance, got an instant reaction from stock markets as the Dow Jones (DJIA) declined by 0.5% and the S&P 500 (SXP) by 0.4%, followed by the plummet of the telecommunications industry in the USA by 4.5% as AT&T and Verizon’s shares dropped rapidly. Major Dow Jones players Caterpillar(CAT) and Boeing(BA) didn’t fare much better, as each of their shares diminished by around 2.0%.
“A Quantitative Easing”” period a.k.a. “Easy Money Period,” is essentially the opposite of a Tightening Period. It refers to the time in which banks have more money to borrow, stock market soars (the S&P 500 Index is now about 80% higher than it was in late 2009 thanks to the QE period) and security valuations are high due to the encouragement of risk appetite. That is why governments usually increase spending through long-term projects and costly economic programs during monetary easing periods. The Bank of England, for example, launched its Quantitative Easing period on March 2009 with a tremendous initial spending target of £75-billion over three months, simultaneously cutting the interest rates to a record low of 0.5%.
Easing periods occur almost every decade and they are in line with boom and bust economics. What’s actually important is how countries make use of that Easy Money Period. Through sustainable investments in R&D and production that would secure the economy in tightening times; or with construction investments which do not really create an added value in the long term?
This question eludes policymakers even more this time due to a paradigm shift: The 4th Industrial Revolution. As a new form of industrial revolution emerges, countries have been expected to include such points in their economic program: blockchain technology, AI, Green Energy, Internet of Things and integration of robotics to production facilities. Because this time, how countries exploited the 2008-2015 Easy Money Era will draw the line between who is “catching-up” and who is “cutting-edge” for the next decades. So let’s see which two countries advanced most sustainably while the money taps were open…
China
China shifted from fixed to floating currency right after the 2008 Financial Crisis, in the beginning of the QE period. Since then, Chinese economy boomed during the Easy Money Era with it’s most glamorous project: Shenzen City. Located perfectly on the Pearl Level Delta and nearby Hong Kong, Shenzen was a small town with 30.000 inhabitants just before it was declared as the first Special Economic Zone (SEZ) in 1980.
Today, especially during the last QE period, Shenzen has evolved to become the “Silicon Valley of Hardware” as currently %90 of the hardware products in the world are manufactured in Shenzen. Thanks to its location, the attraction for talents, huge government-backed high-tech investments and coopetition ecosystem, Shenzen became the largest technology manufacturing hub in the world. Currently, Shenzen has country’s highest property prices, the highest per capita GDP and ranks number eight on the global list of cities with the most billionaires.
China also completed enormous investments between 2008-2015, some of them regarded as “mega-projects”. One of them is Hong Kong-Zhuai-Macau Bridge. Connecting the three big cities of the Pearl River Delta, it is the world’s longest sea-crossing bridge with a total investment of $ 20-billion. Another massive scale project was Beijing-Shanghai High-Speed Railway. Being the longest high-speed railway in the world, the project cost around $ 35-billion. Construction was launched at April 18, 2008 and commercial services started after an unimaginable 2 years time span, on November 10, 2010. 2 remarkable mega-projects of China in space industry were Aperture Spherical Radio Telescope (the largest in the world, looking for intelligent life in space) and Wengchang Spacecraft Launch Site built on an artificial island.
Moreover, to seize its regional influence, China spent $29-billion on roads in Tibetan-populated provinces as a part of an integration strategy of Tibet to China. To seize its worldwide influence, Chinese corporations embraced a post-colonization approach by making billion-dollars of government-backed land acquisitions in Africa for mining, oil and food crops. Currently, 7 out of 10 biggest construction companies in the world are Chinese, taking over billion-dollar projects in countries geopolitically essential to China. Thanks to its vast development tailored with a global agenda, China is no longer a country of cheap labor as cheap labor started moving towards less developed countries like Bangladesh, India and Vietnam.
But still, air pollution seems to be the issue China prefers to turn a blind eye rather than solving it. Not to mention their national debt, which accounts for 15% of global debt.
Israel
The high-tech sector has been booming in Israel as a result of a long-term strategy adopted since the mid-1990’s. As Israel has the second best entrepreneurial ecosystem in the world, the locomotive of this boom is highly innovative startups financed mostly true venture capital. In 2017, Israeli startups raised a record-breaking $5-billion.
Since criticisms arise that there are still no major technology brands in Israel like Nokia (Finland), Taiwan Semiconductors (Taiwan) or TAT Consultancy, Infosys (India) it is worth mentioning that the Israeli government uses incentive mechanisms to turn this innovation hub into a “showroom,” rather than letting them grow year after year, for those startups to be acquired by major worldwide corporations after their development phase.
During the QE period, the swift rise of Israeli businesses has become even more evident. The government raised its R&D investments by $149.428.000 during the last QE period. Now, they have the highest R&D expenditure as a part of GDP in the world with 4.2% (In Eurozone it’s around 1.95%).
Israeli startups have been known to specialize generally on information technologies. However, during the recent years, they have also diversified through biotechnology, Unmanned Aerial Vehicles (currently, Israel is the biggest Drone exporter in the world) and most importantly: Fintech. Top global companies like JPMorgan Chase, Visa Europe, and HSBC work with Israeli startups for FinTech and blockchain solutions through 14 R&D centers formed by those companies after the 2008 Financial Crisis. Since the 2008 Crisis, Israeli FinTech industry has grown from 90 to 500 companies, raising around $600-million in 2017.
All in all, being the 10th most innovative country in the world, Israel exploited the last QE period by cultivating a vibrant startup ecosystem, taking steps to evolve as the “blockchain and FinTech leader of the world.”