There is something going on right now in the copper market that should alarm you. Over the past week, the price of copper has plunged, recently hitting a four-year low.
Why should this matter?
Most investors and analysts are placing bets that economic growth is about to re-accelerate globally. Never before has the world been so interlinked, so we must pay attention to what is occurring internationally.
Copper is an important part of the potential for economic growth, not just because it is used in building and construction, but because it is also a major factor in the Chinese lending market, which is now showing severe strain leading to a potential debt crisis.
Remember, the last financial emergency was led by a debt crisis brought on by a housing bubble that eventually popped. High levels of debt creating a bubble are always dangerous, as the hangover is quite severe.
How does this impact economic growth for us here in America?
To begin with, we all know that the U.S. is doing relatively better than other parts of the world, but we are not exactly running at full speed. Any slowdown in economic growth—especially with a country as large as China—that is brought on by a debt crisis in that nation could severely impact our economy.
In China, the lending market is quite different than in North America, and firms have to rely on what's called shadow banking.
Many firms in China have trouble borrowing, so they buy copper and use it as collateral. We are not talking about a small amount of money, as a shadow banking system in China is trillions of dollars large.
I believe a major part of the economic growth in China has been due to a massive increase in borrowing and spending, and this could be the beginning of a debt crisis. Just recently, China suffered it's very first domestic bond default, and now investors are beginning to worry.
When a debt crisis pops, it certainly creates a drag on economic growth. The real estate bubble in America almost shut down the entire financial system, leading to a slowdown in economic growth both domestically and internationally.
Have any lessons been learned?
It doesn't appear so, as debt continues to pile up in record numbers around the world. Any cracks within the system could actually be worse during the next debt crisis, since the total amount outstanding is even higher.
Take a look at this chart and tell me that economic growth internationally is doing just fine.
Chart courtesy of www.StockCharts.com
Clearly, something serious is occurring, and while it might be beginning as a small debt crisis in China, the impact could be felt worldwide.
China is the second-largest economy in the world, and any slowdown in economic growth certainly will be felt by other nations. But a debt crisis is not your typical cyclical slowdown. When bubbles that were fed by debt pop, it takes a very long time for the excess to be flushed out of the system.
The problem since the last debt crisis is that central banks and governments around the world believe that the solution to a debt problem is even more debt. As I wrote in a recent article, global debt is now over $100 trillion, a jump of 40% over the past few years. (See "How Global Debt of More Than $100 Trillion Is Threatening Your Portfolio.")
Now we have a situation unfolding in China, where this massive borrowing scheme is beginning to unwind itself.
Is it any wonder why investors are moving back into gold bullion? It makes perfect sense in a world of such uncertainty to have at least some gold in your portfolio, because no one can predict (least of all, the central bankers) the full impact of the next debt crisis.
This article What's Happening in the Copper Market Should Alarm You… by Sasha Cekerevac, BA was originally published at Daily Gains Letter.