By Jonathan Anderson

Let's start with a simple fact: Asian exports are now slowing down. The chart below shows Asian export growth by major destination market, including China, Japan, the EU and the US. As you can see, export shipments have been decelerating consistently over the past two quarters – a clear sign that the strong global boom of 2003-06 is well and truly ending.

But the most interesting thing about the chart is the composition of the slowdown. If you look carefully at the various lines, you will see that Japanese import demand has weakened sharply, followed by a visible recent drop-off in Chinese and European spending as well. By contrast, the only market that seems to be holding up relatively well is ... the US. Asian exports to the US have slowed slightly in the past six months, but the general trend is still very stable.  

Now, if this seems a bit strange, it should be. Why? Because China is still growing at double-digit rates, the EU economy is relatively stable, and Japanese GDP growth actually accelerated going into 2007. In fact, the only economy undergoing a sharp slowdown is the US, where real GDP growth has dropped from around 4% y/y in the first quarter of last year to only 2% y/y as of March 2007. So if anyone should be buying fewer goods from Asia, it’s the Americans.

What’s going on? It helps to examine the details of the US decline. Of course overall growth has slowed visibly, but this is almost completely due to a sharp drop in residential construction activity – a sector that doesn’t import much from the rest of the world. By contrast, other investment spending categories have held up much better, and the most import-intensive activity of all, i.e., household consumption, has barely slowed at all. Three years ago, at the peak of the US recovery boom, consumers were spending at an average rate of 3.6% y/y ... and that’s exactly where they are today.

And this brings us to the main theme of this piece. How long can the US consumer hold out? After all, we all know that US household balance sheets are stuffed with debt, the housing market has been turning down for more than a year now, and the US current account deficit is at historically high levels and still widening as we write. Shouldn’t we be looking for much weaker consumption going forward?

The answer is that we, along with most other economists, have been waiting for a big consumer slowdown for a long time – but this doesn’t mean it has to happen. There’s also a perfectly good possibility that the US consumer just keeps soldering on for a good while to come. The reason is that it’s generally not enough simply to have high household debt levels and strong spending patterns; you also need a catalyst for a turnaround, some shock to the system that initiates a change in behavior. And as we look at the global economy today, there are no clear candidates in sight.

The most obvious culprit would be housing prices. The logic is simple: for nearly a decade US households used the rising value of their homes as collateral for ever higher amounts of debt in order to prop up consumption spending at a pace faster than income growth. When prices stop rising, consumers can no longer take on so much debt and spending would have to slow. The problem, however, is that US median home prices have been falling outright for a year now, and we have yet to see any sign of a consumption slowdown. And the latest home price data suggests that prices may now be stabilizing, which raises the prospect that the worst of the downturn may already be over. Of course we expect some consumer spending decline going forward, but with the vast majority of households still well “above water” in their housing investments, this is hardly a recipe for a collapse.

The next potential catalyst would be a sharp fall in job creation. After all, the overall economy has lost half of its growth momentum over the past 12 months, so it wouldn’t be unreasonable to expect employment and income growth to slow up as well. If you look at formal employment statistics, however, it simply hasn’t happened. The reason is that as noted above, most of the GDP slowdown came from construction activity, and many of the construction jobs in the US are filled by unrecorded illegal and semi-legal immigrants working for low wages; in other words, the construction recession has hurt employment in the US – but not for middle-class homeowners.

Another factor holding up consumption spending is that debt levels may be high, but the cost of servicing that debt is still very low. US 10-year treasury yields have risen slightly over the past few weeks, but as of this writing they are still well below 5% per annum, with no sign of any pressure to rise above that level. Many observers have been waiting for the “Asian bid” to fade away (the latest supposed bugbear is the creation of the Chinese SFXIC, which is slated to sell off treasury bonds and buy equities and other higher-yielding assets) but so far Chinese and Asian surpluses are still funneled mostly into long-dated debt paper, and we don’t expect radical changes for a long time to come.

What about a big inflation scare that would force the US Federal Reserve to hike interest rates aggressively? Hardly. Global inflation is yawningly stable today, and the current US slowdown should mean lower, not higher inflationary pressures in six months’ time.

For a while, it looked as if the sub-prime mortgage market would blow up, forcing higher spreads in low-grade debt. However, it’s now been many months since the first problems began to appear and credit markets seem to have weathered the little storm with no undue volatility.

The US dollar? Everyone talks about the potential impact of a weakening dollar – but looking around the globe, the dollar has already weakened significantly against most partner currencies. The only major exceptions are the Japanese yen and the Chinese renminbi – and these aren’t moving very fast.

So what’s left to scare the US consumer? The short answer is: not much. And we suspect that the biggest surprise of 2008 will be how well the US economy holds up.

The writer is the chief economist, UBS (Asia)