After reviewing the latest position of the UK economy yesterday today I wish to take a wider scope. Sadly, it looks as though violence is building again in Egypt as the current regime struggles to survive the protests and there have been quite a few economic developments which have not been reported on. For example there have been developments in the foreign currency market as the US dollar has fallen over this phase. This is unusual because at a time like this it tends to have a “safe haven” status or behave like a “military” dollar. However the dollar index which is trade weighted has fallen from a recent high of 81.35 on the tenth of January to 77.13 for a fall of just over 5% in less than a month. There was a brief rally at the inception of the Egyptian crisis but the downward trend soon resumed. There was not so long ago a lot of talk about “currency wars” based on a falling dollar in the mainstream media but this recent dip has been ignored.
Japan and the Yen
For Japan which has struggled with a very strong currency this trend must be posing problems again. When she undertook her first effort at currency intervention back in mid-September I remember arguing that in this instance the Borg are in fact correct and “resistance is futile”! Actually if you look at the experience of the Swiss National Bank it is also expensive as it has lost around 7 billion Swiss Francs trying to stop the rise of the Swiss Franc. I am reminded of these facts because the Bank of Japan intervened at 83 versus the US dollar and the current price is 81.56. This is not so far away from the fifteen year high of 80.22 reached in late October 2010. Even Japan’s exporters must be finding such an exchange rate to be heavy going.
Gold: Why is it not rising?
A falling US dollar is often associated with a rising gold price. Even if this were not true disruption and unrest such as is happening in Tunisia and Egypt and may be starting in Yemen certainly is. Oh, and for those who consider it to be an inflationary hedge then recent rises in commodity prices should be supporting the gold price. In the latter stages of last year it rallied strongly from US $ 1200 per ounce to over US $1400 but there a few signs of life in it at the moment and the price is now US $1330 per ounce. In fact in January of this year it dropped by just over 6%.
So gold bugs have not had a good start to 2011 particularly if you factor in that the environment has been favourable for gold as I described above. Opinions always vary and I remember a tutor of mine at the LSE Willem Buiter arguing gold was a 6000 year bubble in an economic paper! But the lack of performance recently is noticeable I feel. A technical analyst (chartist) friend of mine told me a couple of weeks ago he felt that the gold price could set back by up to US $ 200 per ounce from the highs and so far the price action is backing that up. Only time will tell if this pattern continues.
Commodity and Oil Prices
After observing the current bi-polar nature of the main two oil benchmarks earlier this week it is kind of relief to say that they have both been strong through the Egyptian crisis. However the prices remain distinct with Brent Crude at US $102.76 per barrel and West Texas Intermediate at US $91.50. WTI has rallied by around 6% in response to the problems in North Africa and Arabia.
Commodity prices have continued their recent rises with the CRB spot index up a further 1.77 to 558.28 yesterday which is yet another recent high. If we take a look at the foodstuffs component it has now risen to 487.6. So those struggling to feed themselves in Egypt will find that the problem is getting worse as this latest surge in food prices which started in late November came from 400 on the foodstuffs index giving us a rise now of just under 22% in just over 2 months.
Longer-Term Interest Rates are rising again: Government bond prices are falling
Regular readers will be aware that I have been worried virtually since I started this blog about rises in longer-term interest-rates.It is one of the reasons I am cautious about fiscal stimulus plans as they will have a higher future price should I be correct. For 2010 this did not really take place as other influences such as asset purchases by central banks overran fears expressed by me about the size of borrowing required across the world in future years. Of course in some places such as Ireland, Greece and Portugal it did become true and rather than a slow motion grind problems here accelerated as if someone had pressed the fast forward button. Spain and Italy have also seen noticeable rises in the interest-rate or yield on their government debt. To my mind the speed of these moves had a lot of implications for fiscal policy at this time as they resembled an object being sucked into a black-hole suggesting that it is best to keep well away as once problems occur you have virtually no time to respond. Well no time expressed in political response times!
In the latter part of 2010 and the early part of 2011 this situation has changed. If we look at the United States her ten-year bond yield closed last night at 3.49% which is more than 1% above the lows of 2010. If we look at the German equivalent it closed at 3.25% again more than 1% above its lows of 2010. For the UK I wrote about rising shorter dated gilt yields potentially affecting mortgage rates yesterday and if we look at our ten-year’s yield it has risen to a recent high of 3.75%. Should this situation persist then each country will find it more expensive to finance its debt which is an unfortunate occurence to say the least when countries are borrowing so much.Usually this sort of influence is slow but leads if sustained to quite a fundamental influence on a country’s fiscal position. It is not often referred to but the falls in long-term interest-rates over the last couple of decades have been a favourable influence on the world government’s fiscal position. Of course politician’s will have failed to point this out as they much prefer to take credit themselves!
If we return again to the maelstrom which affected Ireland Greece and Portugal one has to wonder if this situation persists whether other countries will find their solvency questioned much more quickly than in the past. As to causes of this move one of them is clearly the return of inflationary trends which particularly affects the UK as it has an existing inflation problem. In the United States the debt ceiling of US $14.3 trillion is being approached with signs of fiscal incontinence building. In the end they will raise it but this in itself poses the question of when is a ceiling not a ceiling? For Germany there is the issue of how much of her credit worthiness will end up being used helping the weaker nations in the Euro zone. The recent conclusion of Eurostat which meant that money borrowed by the rescue vehicle the EFSF should be represented in national public accounts helped proper accountancy but also foiled the plans of Euro zone politicians!
As you can see from today’s article a lot is going on in the background at this time. Rises in commodity prices are plainly inflationary at the first impact. However as their influence affects other areas such as longer-term interest-rates then their impact also has deflationary impacts. Unfortunately inflation ( consistently rising prices) can come with deflation ( a fall in aggregate demand) and I have defined these because deflation is used in the media to represent many things! The gold price is not rallying when several influences say it should and the US dollar is falling again.
The European Central Bank is between a rock and a hard place
The ECB meets today and it faces a dilemma. On the one side inflationary trends have raised the Euro zone’s inflation to an above target 2.4% and on the other side are the peripheral Euro zone nations. If it responds to the inflationary trends by raising its interest-rates then the impact on the countries which it is supporting with cheap liquidity will be severe. If it does nothing it is in danger of finding itself like the Bank of England standing King Canute like in the face of inflationary trends.
I would suspect that at this time the ECB will be putting as much pressure as it can on Euro zone politicians to build a strategic solution to the Euro’s problems at this weekend’s meeting to give it some freedom of action on interest-rates. If I was on the ECB Governing Council I certainly would be doing this. The fly in that ointment is that it requires the Euro zone’s politicians to reverse their behaviour so far and perhaps to break the habits of a lifetime! There are already a lot of rumours of a deal being arranged on this subject and I reported on one on Tuesday but a bit like the boy who cried wolf this has happened before. I think the American phrase is, “Where’s the beef?”
UK Services Sector expands in January
I wondered what this report would show yesterday and here it is. The Markit services purchasing managers index for January was ” the headline index from the survey struck its highest level since last May (54.5, up from 49.7)”. and we also saw some familiar signs of inflationary pressure “inflation showed the largest jump since the survey began in mid-1996. The input cost index rose to 65.8 from 60.5”.
So adding this to the manufacturing and construction numbers of earlier this week we can see that there is some confirmation for my view that there was a lot of hyperbole expressed around the last official report on UK economic growth. Now these are only survey results and are for 2011 not 2010 but to my mind they confirm a slowing recovery rather than a fall off the edge of a cliff! I doubt whether those prone to hyperbole will give us an apology though…
The Financial Services Authority
This year this body estimates it will cost some £500.5 million. I have expressed my views on it in the past but today I wish to open the forum to readers, do you think it does a good job? And is it good value for money?