Greece still faces a long hard road to end its economic depression

This morning has brought a development that many of you warned about in the comments section and it relates to Greece. So with a warning that I hope you have not just eaten let us begin.

You did it! Congratulations to Greece and its people on ending the programme of financial assistance. With huge efforts and European solidarity you seized the day. ( President Donald Tusk)

There was also this from the European Union Council.

“Greece has regained the control it fought for”, says Eurogroup President as today exits its financial assistance programme. 

There is an element of triumphalism here and that is what some of you warned about with the only caveat being that the first inkling of good news was supposed to be the cause whereas that is still in the mix. So there is an element of desperation about all of this. This is highlighted by the words of the largest creditor to Greece as the European Stability President Klaus Regling has said this and the emphasis is mine.

 We want Greece to be another success story, to be prosperous and a country trusted by investors. This can happen, provided Greece builds upon the progress achieved by continuing the reforms launched under the ESM programme.

What is the state of play?

It is important to remind ourselves as to what has happened in Greece because it is missing in the statements above and sadly the media seem to be mostly copying and pasting it. As you can imagine it made my blood boil as the business section of BBC Breakfast glibly assured us that a Grexit would have been a disaster. Meanwhile the reality is of an economy that has shrunk by around a quarter and an unemployment rate that even now is much more reminiscent of an economic disaster than a recovery.

 The seasonally adjusted unemployment rate in May 2018 was 19.5%…..

The youth (15-24)  unemployment rate is 39.7% which means that not only will many young Greeks had never had a job but they still face a future with little or no prospect of one. Yesterday the New York Times put a human face on this.

When Dimitris Zafiriou landed a coveted full-time job two months ago, the salary was only half what he earned before Greece’s debt crisis. Yet after years of struggling, it was a step up.

“Now, our family has zero money left over at the end of the month,” Mr. Zafiriou, 47, a specialist in metal building infrastructure, said with a grim laugh. “But zero is better than what we had before, when we couldn’t pay the bills at all.”

The consequence of grinding and persistent unemployment and real wage cuts for even the relatively fortunate has been this.

A wrenching downturn, combined with nearly a decade of sharp spending cuts and tax increases to repair the nation’s finances, has left over a third of the population of 10 million near poverty, according to the Organization for Economic Cooperation and Development.

Household incomes fell by over 30 percent, and more than a fifth of people are unable to pay basic expenses like rent, electricity and bank loans. A third of families have at least one unemployed member. And among those who do have a job, in-work poverty has climbed to one of the highest levels in Europe.

The concept of in work poverty is sadly not unique to Greece but some have been hit very hard.

Mrs. Pavlioti, a former supervisor at a Greek polling company, never dreamed she would need social assistance…….The longer she stays out of the formal job market, the harder it is to get back in. Recently she took a job as a babysitter with flexible hours, earning €450 a month — enough to pay the rent and bills, though not much else.

She provided quite a harsh critique of the triumphalism above.

“The end of the bailout makes no difference in our lives,” Mrs. Pavlioti said. “We are just surviving, not living.”

The end of the bailout

The ESM puts it like this.

Greece officially concludes its three-year ESM financial assistance programme today with a successful exit.

The word successful grates more than a little in the circumstances but it was possible that Greece could have been thrown out of the programme. It was never that likely along the lines of the aphorism that if you owe a bank one Euro it owns you but if you owe it a million you own it.

 As the ESM and EFSF are Greece’s largest creditors, holding 55% of total Greek government debt, our interests are aligned with those of Greece……..From 2010 to 2012, Greece received € 52.9 billion in bilateral loans under the so-called Greek Loan Facility from euro area Member States.

That is quite a lot of skin in the game to say the least. Because of that Greece is not as free as some might try to persuade you.

The ESM will continue to cooperate with the Greek authorities under the ESM’s Early Warning System, designed to ensure that beneficiary countries are able to repay the ESM as agreed. For that purpose, the ESM will receive regular reporting from Greece and will join the European Commission for its regular missions under the Enhanced Surveillance framework.

Back on February 12th I pointed out this.

 It is no coincidence that the “increased post-bailout monitoring” is expected to end in 2022, when the obligation for high primary surpluses of 3.5 percent of gross domestic product expires.

As you can see whilst the explicit bailout may be over the consequences of it remain and one of these is the continued “monitoring”. This is a confirmation of my point that whilst there has been crowing about the cheap cost of the loans in the end the size or capital burden of them will come into play.

Borrowing costs will rise

After an initial disastrous period when the objective was to punish Greece ( something from which Greece has yet to recover) the loans to Greece were made ever cheaper.

Thanks to the ESM’s and EFSF’s extremely advantageous loan conditions with long maturities and low-interest rates, Greece saves around €12 billion in debt servicing annually, 6.7% of GDP every year.  ( ESM)

So Greece is now turning down very cheap money as it borrows from the ESM at an average interest-rate of 1.62%. As I type this the ten-year yield for Greece is 4.34% which is not only much more it is a favourable comparison as the ESM has been lending very long-term to Greece. This was simultaneously good for Greece ( cheap borrowing) and for both ( otherwise everything looked completely unaffordable).

For now this may not be a big deal as with its fiscal surpluses Greece will not be in borrowing markets that much unless of course we see another economic downturn. There is a bond which matures on the 17th of April next year for example. Also the ECB did not help by ending its waiver for Greek government bonds which made it more expensive to use them as collateral with it and no doubt is a factor in the recent rise in Greek bond yields. Not a good portent for hopes of some QE purchases which of course are on the decline anyway.

Comment

The whole Greek saga was well encapsulated by Elton John back in the day.

It’s sad, so sad (so sad)
It’s a sad, sad situation
And it’s getting more and more absurd.

The big picture is that it should not have been allowed into the Euro in 2001. The boom which followed led to vanity projects like the 2004 Olympics and then was shown up by the global financial crash from which Greece received a fatal blow in economic terms. The peak was a quarterly economic output of 63.6 billion Euros in the second quarter of 2007 (2010 prices) and a claimed economic growth rate of over 5% (numbers from back then remain under a cloud). As the economy shrank doubts emerged and the Euro area debt crisis began meaning that the “shock and awe” bailout so lauded by Christine Lagarde who back then was the French Finance Minister backfired spectacularly. The promised 2.1% annual growth rate of 2012 morphed into actual annual growth rates of between -4.1% and -8.7%. Combined with the initial interest-rates applied the game was up via compound interest in spite of the private sector initiative or default.

Any claim of recovery needs to have as context that the latest quarterly GDP figure was 47.4 billion Euros. This means that even the present 2.3% annual rate of economic growth will take years and years to get back to the starting point. One way of putting this is that the promised land of 2012 looks like it may have turned up in 2018. Also after an economic collapse like this economies usually bounce back strongly in what is called a V-shaped recovery. There has been none of this here. Usually we have establishments giving us projections of how much growth has been lost by projecting 2007 forwards but not here. The reforms that were promised have at best turned up piecemeal highlighted to some extent by the dreadful fires this summer and the fear that these are deliberately started each year.

Yet the people who have created a Great Depression with all its human cost still persist in rubbishing the alternative which as regular readers know I suggested which was to default and devalue. Or what used to be IMF policy before this phase where it is led by European politicians. A lower currency has consequences but it would have helped overall.

 

 

 

 

 

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The ECB and its Italian and Turkish problems

At the moment the European Central Bank (ECB) Governing Council is on its summer break and does not formally reconvene until the 13th of September. So I raised a wry smile when Bloomberg assured us ” The ECB is staying calm amid Turkey and Italy routs” this morning! The world does not stand still during summer and is showing more than a few signs of upset for the ECB so let us take a look.

Turkey

The very volatile nature of Turkish financial markets is an issue for the ECB and one signal of this is how such a nearby country can have such a different official interest-rate. The Turkish central bank after hints of a new 19.25% interest-rate in the melee of Monday has remained at 17.75% which is an alternative universe to the -0.4% deposit rate of the ECB. It is hard to believe Greece and Turkey are neighbours when you look at that gap.

Next comes the exchange rate where at the start of 2018 some 4.55 Turkish Lira were required to buy one Euro as opposed to the 6.72 required as I type this. Even that is a fair retracement of the surge which saw it just fail to make 8 only on Monday. Apart from being a dizzying whirl recently we can see that the fall this year must have made trade difficult. As to how much trade there is we need to switch to the European Union about which we were told this in April.

  • In 2017, among the EU’s trading partners, Turkey was the fifth largest partner for exports from the EU and the sixth largest partner for imports to the EU.
  • The EU’s trade surplus with Turkey has fallen from a peak of EUR 27 billion in 2013 to EUR 15 billion in 2017.
  • Manufactured goods make up 81 % of EU exports to Turkey and 89 % of EU imports from Turkey.
  • In 2017, Germany was the EU’s largest import (EUR 14 billion) and export (EUR 22 billion) partner with Turkey.
  • Germany also had the largest trade surplus (EUR 8 billion) with Turkey while Slovenia had the largest deficit (EUR 1.5 billion).

If we just switch to exports then we see the importance of Turkey.

Germany was also the largest exporter (EUR 21.8 billion) to Turkey followed by Italy (EUR 10.1 billion) and the United Kingdom (EUR 8.4 billion). Almost a quarter of Bulgaria’s extra-EU exports (23 %) were destined for Turkey. Greece (15 %) and Romania (14 %) also had high shares while all other Member States had shares below 9 %.

Of course some of those countries are not the responsibility of the ECB but we do get an idea of vulnerabilities such as the ability of Turkish consumers to buy German cars. Also Italy with its own economic issues that I will come on to later can do without any fall in exports. Even worse for Greece.

Right in the ECB’s orbit however was this from the Financial Times last week about risks to the “precious”.

The eurozone’s chief financial watchdog has become concerned about the exposure of some of the currency area’s biggest lenders to Turkey — chiefly BBVA, UniCredit and BNP Paribas — in light of the lira’s dramatic fall…….Spanish banks are owed $82.3bn by Turkish borrowers, French banks are owed $38.4bn and Italian lenders $17bn in a mix of local and foreign currencies. Banks’ Turkish subsidiaries tend to lend in local currency.

There have been arguments since then as to exactly the size of the risk but it is clear that there is an issue. Of course if we bring the exchange-rate back in it looks much less at 6.7 to the Euro than it did at 8 but to any proper analysis that move this week may well be as dangerous as the fall. Looked at through the eyes of an ex-option trader (me) you see that a short derivative position might have been hedged in the panic ( so towards 8) but the catch is that you would be long the Euro up there just in time for it to drop! So you lose both ways. We never really find out about this sort of thing until it has really badly gone wrong.

Italy

In a way much of the problem here has been exemplified by the dreadful Autostrada bridge collapse. For a start how does that happen in a first world country? Then even worse everyone seems to be blaming everyone else. If we move to the direct beat of th ECB there is the ongoing economic growth issue.

In the second quarter of 2018 Italian economy slowed down, as suggested in the previous months by the leading indicator. The GDP quarterly slightly decelerated (+0.2% compared to +0.3% Q1,)

That brings Italy back to my long running theme that it struggles to have economic growth above 1%. Indeed as this still represents a period where monetary policy was very expansionary there will be fears for what will happen as it gets wound back.

On the latter subject of reducing and then an end to the QE program there was this on Monday.

The economic spokesman of Italy’s ruling League party warned on Monday that unless the European Central Bank offers a guarantee to cap yield spreads in the euro zone, the euro will collapse………….Borghi said the ECB should guarantee that yield spreads between euro zone government bonds not exceed a certain level, suggesting 150 basis points between the yields of any two sovereign bonds as a reasonable maximum. ( Reuters)

That sort of statement opens more than one can of worms. The simplest is just to compare that with where we are which is 284 basis points or 2.84%. So he is looking for the ECB to back stop the Italian bond market and his own spending plans a subject which has arisen before. No doubt this is driven by the rise in the ten-year yield of Italy which is now 3.14% which is not historically high but since then Italy’s national debt and therefore borrowing needs has risen meaning that matters tighten at lower yields than they used to.

Next comes the fact that even the ECB which in spite of calling itself a “rules based organisation” has operated at least to some extent by making them up as it goes along. But a programme just to help Italy would be even nearer to overt monetary financing than what we have seen so far. Other nations taxpayers would wonder why it was being singled out for favourable treatment. This would be especially true in Greece which only a week ago found that a waiver for its collateral at the ECB had ended.

Greek banks borrow just over 8 billion from the ECB in longer-term refinancing operations and now need to post a new type of collateral to maintain their access. ( Reuters)

Meanwhile there is the ongoing issue of the Italian banks and the irony of the Turkish situation is the way that Unicredit which was supposed to be escaping the noose may have found a way of putting its neck back in it.

Comment

Having looked at particular issues it is time to bring the analysis back to the day job which is monetary policy. This morning brought troubling news for those who are in the “pump it up” camp.

The euro area annual inflation rate was 2.1% in July 2018, up from 2.0% in June 2018. A year earlier, the rate was
1.3%.

Thus it has for now achieved its inflation objective and in fact it is a little above the 1.97% indicated by the previous President Jean-Claude Trichet. So those wanting more only have the “core” or excluding energy number at 1.4% to support them. They can also throw in the fact that economic growth has slowed in 2018 but also have to face the issue that even Mario Draghi regards this as pretty much a normal level.

Seasonally adjusted GDP rose by 0.4% in both the euro area (EA19) and the EU28……..Compared with the same quarter of the previous year, seasonally adjusted GDP rose by 2.2% in both the euro area and the EU28.

Thus the ECB moves forwards with its monetary policy locked on course. It has no intention of raising interest-rates and a cut would provoke questions as after all it has told us things are going well. The QE programme is being trimmed in flow terms and it will not be long before that stops. What it has now are the boring parts of central banking such as bank supervision but in the case of Euro area banks in Turkey that would look like closing the stable door long after the horse has bolted.

Of course it could intervene against the Turkish Lira to help provide some stability and to help Euro area exporters. But I think we all know it would only do that if it thought it would help the banks. Also if we take the example of right now and the fall to 6.91 versus the Euro whilst I have been typing this it would no doubt attract the attention of the Donald and his twitter feed plunging the ECB into a political morass.  Such thoughts will have Mario Draghi reaching for another glass of Chianti on his summer break.

 

 

India is counting the cost of its crude oil dependency

Tucked away in the news stream of the past few days has been a developing situation in India. Whilst the headlines have been made by Turkey there have been currency issues in the largest part of the sub-continent as well. Here is DNA India on the subject.

Indian Rupee on Thursday had hit a fresh record low, the Rupee opened at 70.22 versus the US dollar. In wake of the Turkey crisis, the Indian currency started off the session on a weak note. Earlier on Tuesday, after opening at a marginal high of 69.85 against the US Dollar, the Indian rupee touched an all-time low of 70 per US dollar.

The Indian currency touched an all-time low of 70.08 against the US dollar, while marking depreciation of around 10 per cent in 2018.

The fall came majorly due to a drop in Turkish Lira, which helped the US dollar to gained strength on the back of fears that economic crisis in Turkey could spread to other global economies.

In fact it fell to 70.7 this morning versus the US Dollar which is an all time low. Some of the move may have been exacerbated by the issues facing Turkey but over the past couple of days the Turkish Lira has rallied strongly whereas the Rupee has continued to fall. A factor has been the strength of the US Dollar or what is being called King Dollar. This reminds me that themes and memes can change rather quickly in the currency world if we step back in time to the 25th of January.

“Obviously a weaker dollar is good for us as it relates to trade and opportunities,” Mnuchin told reporters in Davos. The currency’s short term value is “not a concern of ours at all,” he said.

If pressed now I guess the US Treasury Secretary would emphasise this bit.

“Longer term, the strength of the dollar is a reflection of the strength of the U.S. economy and the fact that it is and will continue to be the primary currency in terms of the reserve currency,” he said.

Returning to the Rupee we see that it had started to fall before the turn in the US Dollar as conveniently it began at the turn of the year when it was at 63.3 versus it.

What are the consequences?

The first is simply inflation or as DNA India puts it.

Continuous downfall in Indian Rupee is worrisome for imported goods as the cost of imports will go up.  Currently, India imports around 80 per cent of its crude requirement. The rupee downfall will expand India’s import bill and will eventually be contributing to the inflation.

This will add to the situation below. From The Times of India.

Inflation based on consumer price index (CPI) for the month of July came at 4.17 per cent, government data ..

That was an improvement and as so often in India the swing factor was food prices.

The food inflation came at 1.37 per cent, driven by cooling of pulses, vegetable and sugar rates.

However a boost is on its way and as inflation is above the 4% target things could get especially awkward should food prices swing the other way.

Interest-Rates

One of the economics 101 assumptions is that higher interest-rates boost a currency but as I warned back on the 3rd of May the situation is more complex than that and Argentina reminded us again by raising to 45% earlier this week. As for India we see this.

increase the policy repo rate under the
liquidity adjustment facility (LAF) by 25
basis points to 6.5 per cent. ( Reserve Bank of India August Bulletin)

That was the second rise this year and these have reversed the previous downwards trend. Of course the problem is that the RBI is perhaps only holding station with the US Federal Reserve.

Intervention

India maintains a sizeable foreign currency reserve which was US $406 billion at the last formal update in March. However it will not be that now if this from Reuters on Tuesday is any guide.

Subhash Chandra Garg, secretary at the department of economic affairs…………said the RBI has spent about $23 billion so far to intervene ..

So we see that the fall has come in spite of intervention which sits rather oddly with the claim from Subhash Chandra Garg that the currency fall does not matter. Also it is usually rather unwise to indicate a currency level as he did (80) as events have a way of making a fool of you.
Anyway using reserves can help for a while but care is needed as quickly markets switch to calculating how much you have left and how long they will last at the current rate of depletion. At that point intervening can make things worse.
Trade
Looking at India’s  domestic economy a clear factor in the currency debate is its trade position. The latest numbers were as highlighted above by DNA India heavily affected by the oil price.

 

Oil imports during July 2018 were valued at US $ 12.35 Billion (Rs. 84,828.57 crore) which was 57.41 percent higher in Dollar terms and 67.76 percent higher in Rupee terms compared to US $7.84 Billion (Rs. 50,565.29 crore) in July 2017.

Such a development feeds into the existing Indian trade problem.

Cumulative value of exports for the period April-July 2018-19 was US $ 108.24 Billion (Rs 7,29,823.08 crore)……….Cumulative value of imports for the period April-July 2018-19 was US $ 171.20 Billion (Rs. 11,54,881.70 crore).

Whilst a little care is needed as petroleum exports grew by 30% overall Indian export growth is on a tear at 14%. Many would love that, but the rub is that not only are imports much larger but due to India’s oil dependency they are rising at an annual rate of 17%. So as we stand things are getting worse and according to Business Standard there is trouble ahead.

India’s crude oil import bill is likely to jump by about $26 billion in 2018-19 as rupee dropping to a record low has made buying of oil from overseas costlier, government officials said today…….. If the rupee is to stay around 70 per dollar for the rest of the ongoing fiscal, the oil import bill will be $114 billion, he said.

Comment

The other side of the coin about the Indian economy was highlighted by the IMF only last week.

India’s economy is picking up and growth prospects look bright—partly thanks to the implementation of recent policies, such as the nationwide goods and services tax. As one of the world’s fastest-growing economies—accounting for about 15 percent of global growth—India’s economy has helped to lift millions out of poverty.

Although developments since the writing of the report may have more than a few wondering about this bit.

India can benefit from improving its integration with global markets.

Perhaps it is a case of Blood,Sweat and Tears.

What goes up must come down
Spinnin’ wheel got to go ’round

There was of course the domestic issue created by the demonetisation debacle not that long ago but the real achilles heel for India is oil. Something of a perfect storm has hit it where the oil price has risen by 40% over the past year and more recently that has been exacerbated by a stronger US Dollar.

So both the economic and Rupee issues seem as much to do with energy policy as conventional economics. Can India find a way of weaning itself off at least some of its oil dependency?

Me on CoreFinance TV

 

The UK inflation picture is shifting again

After disappointing news on wage growth yesterday for the Bank of England the day ended with some good news for it on this front. From the Financial Times.

The chief executives of the UK’s biggest listed companies received an 11 per cent raise last year pushing their median pay up to £3.93m, according to a report which found that full-time workers received a 2 per cent rise over the same period. The figures for FTSE 100 bosses include base salary, bonuses and other incentives and have been revealed at a time of growing shareholder activism over big payouts. Shareholders at companies including BT, Royal Mail and WPP have rebelled against chief executive pay at stormy annual investor meetings this year.

So some at least are getting above inflation pay rises Actually you can make the number look even larger if you switch to an average rather than the median as this from the original CIPD report shows.

 If we divide this amount equally among all the CEOs covered by our report, they would each receive a mean annual package worth £5.7 million, 23% higher than the 2016 mean figure of £4.6 million.

Why is this so? Well a lot of it is due to a couple of outliers as this from the FT shows.

The highest-paid chief executive in 2017 was Jeff Fairburn at housebuilder Persimmon who received £47.1m, or 22 times his 2016 pay. Ranking second, Simon Peckham of turnround specialist Melrose Industries banked £42.8m, equal to 43 times his 2016 pay, according to the analysis.

The case of Mr.Fairburn at Persimmon is an especially awkward one for the establishment as he has personally benefited on an enormous scale from the house price friendly policies of the Bank of England and the UK government. As so often we face the irony of the government supposedly being on the case of executive pay which it has helped to drive higher.  Indeed I note this seems to be a wider trend as Persimmon is not alone amongst house builders according to the CIPD report.

Berkeley Group Holding plc’s Rob Perrins, whose total pay package rose from £10.9 million in 2016 to £27.9 million.

Inflation

If we step back for a moment and look at the trends we see that they have shifted in favour of higher inflation. A factor in this has been the US Dollar strength we have seen since the spring which was not helped by the unreliable boyfriend behaviour of Bank of England Governor Mark Carney back in April. So now we face as I type this an exchange rate a bit over US $1.27 meaning we will have to pay more for many commodities and oil.

Moving onto the oil price itself care is needed as whilst we have dropped back from the near US $80 for a barrel of Brent Crude seen at the end of May to US $72 we are up around 42% on a year ago. This time around the OPEC manoeuvering has worked for them but of course not us.

There are various ways these feed into our system and perhaps the clearest is the price of fuel at the pump where a 5 pence rise raises inflation by ~0.1%. We are also experiencing another impact as we see domestic energy costs rise as NPower raised on the 17th of June, SSE on the 11th of July, E.ON will raise them tomorrow and EDF Energy will raise them at the end of the month. These are of course not only the result of higher worldwide energy prices but also a form of administered inflation via changes in energy policy for which we foot the bill. People will have different views on types of green energy which are expensive but much fewer will support the expensive white elephant which is the smart meter roll out and further ahead is the Hinkley Point nuclear plant.

Today’s data

There was a small pick-up.

The all items CPI annual rate is 2.5%, up from 2.4% in June

Some of it was from the source described above.

Transport, with passenger transport fares seeing larger price rises between June and July 2018
compared with the same period a year ago. Motor fuels also made an upward contribution,

Another was from the area of computer games where we seem to have found another area that the statisticians are struggling with.

these are heavily dependent on the composition of bestseller charts, often resulting
in large overall price changes from month to month;

Let us hope that this clams down as we have plenty to deal with as it is! As to downwards influences we should say thank you ladies as we mull whether this is being driven by the problems in the bricks and mortar part of the retail sector.

Clothing and footwear, with prices falling by 3.7% between June and July 2018, compared with a smaller fall of 2.9% between the same two months a year ago. The effect came mainly from women’s clothing and footwear.

If we look further down the inflation food chain we see a hint of what seems set to come from the lower Pound £.

Prices for materials and fuels (input prices) rose 10.9% on the year to July 2018, up from 10.3% in June 2018.

In essence it was driven by this.

 The annual rate was driven by crude oil prices, which increased to 51.9% on the year in July 2018, up from 50.2% in June 2018.

However in a quirk of the data this did not feed into output producer price inflation which dipped from 3.3% to 3.1%. Whilst welcome I suspect that this is a quirk and it will be under upwards pressure in the months ahead if we see the Pound £ remain where it is and oil ditto.

House Prices

Here we saw what might be summarised as a continuation of the trend we have seen.

Average house prices in the UK have increased by 3.0% in the year to June 2018 (down from 3.5% in May 2018). This is its lowest annual rate since August 2013 when it was also 3.0%. The annual growth rate has slowed since mid-2016.

However there is a catch because even at this new lower level it is still considerably above what we are officially told is inflation in this area.

Private rental prices paid by tenants in Great Britain rose by 0.9% in the 12 months to July 2018, down from 1.0% in the 12 months to June 2018.

This is what feeds into what is the inflation measure that the Office for National Statistics has been pushing hard for the last 18 months or so. But there also is the nub of its problem. Actually they have problems measuring rents in the first place which affects the process of measuring inflation for those who do rent but then fantasising that someone who owns a property rents it to themselves has led to quite a mess.

Comment

As we look forwards we see the prospect of inflation nudging higher again. However there are two grounds for optimism. One is short-term in that the next two monthly increases for comparison are rises of 0.6 and then 0.3 in the underlying index for CPI .The other is that I do not think that the all the prices which rose back in late 2016 early 2017 went back down again so we may see a lesser impact this time around.

Meanwhile the issue around the RPI has arisen again. Some of it has been driven by Chris Grayling suggesting the use of CPI for rail fares. Ed Conway of Sky News has been joining in the campaign against the RPI this morning on Twitter.

Don’t let anyone tell you RPI is better/different because it includes housing. First, these days CPI does include a housing element.

To the first bit I will and to the second I am waiting for a reply to my point that CPI excludes owner-occupied housing. As it happens RPI moved downwards this month which will be welcomed by rail travellers as it is the number used to set many of the annual increases.

The all items RPI annual rate is 3.2%, down from 3.4% last month.

 

 

The economic consequences of a falling Turkish Lira

Over the past few days we have seen the expected height of summer lull punctured by events in Turkey. This morning there has been a signal that this has become a wider crisis as our measure of this the Japanese Yen has rallied to 110.2 versus the US Dollar. It has pushed the Euro down 1.2 to 125.3 Yen as well. That sets the tone for equity markets as well via its inverse relationship with the Nikkei 225 equity index which was done 414 points at 21884. Another more domestic sign is the search for scapegoats or as they are called these days financial terrorists.

*TURKEY STARTS PROBE ON 346 SOCIAL MEDIA ACCOUNTS ON LIRA: AA ( @Sunchartist )

The most amusing response to this I have seen is that they should start with @realdonaldtrump.

What has happened?

Essentially the dam broke on the exchange rate on Friday. In the early hours it was trading at 5.6 versus the US Dollar then as Paul Simon would put it the Lira began “slip sliding away” . Then the man who may well now be financial terrorist number one put the boot in showing that he will to coin a phrase kick a man when he is down.

I have just authorized a doubling of Tariffs on Steel and Aluminum with respect to Turkey as their currency, the Turkish Lira, slides rapidly downward against our very strong Dollar! Aluminum will now be 20% and Steel 50%. Our relations with Turkey are not good at this time!

It was time to finish with Paul Simon and replace him with “trouble,trouble,trouble” by Taylor Swift as the already weak Turkish Lira plunged into the high sixes versus the US Dollar. As ever there is doubt as to the exact bottom but it closed just below 6.5 so in a broad sweep we are looking at a 16% fall on the day. Last night in the thin Pacific markets it quickly went above 7 and if my chart if any guide ( 7.2 was reported at the time) the drop went to 7.13. So another sign of a currency crisis is ticked off as we note the doubt over various levels but if course the trend was very clear.

The official response

There were various speeches whilst mostly seemed to be calling for divine intervention. This seemed to remind people even more of a company which of course famously claimed to be doing God’s work.

The particular target of 7.1 had seemed so far away when it was pointed out but suddenly it was near on Friday and exceeded overnight. As ever when there are challenges to the “precious” there is an immediate response from the authorities.

To support effective functioning of financial markets and flexibility of the banks in their liquidity management;

  • Turkish lira reserve requirement ratios have been reduced by 250 basis points for all maturity brackets.
  • Reserve requirement ratios for non-core FX liabilities have been reduced by 400 basis points.
  • The maximum average maintenance facility for FX liabilities has been raised to 8 percent.
  • In addition to US dollars, euro can be used for the maintenance against Turkish lira reserves under the reserve options mechanism.

That was from the central bank or CBRT which estimated the benefit as being this.

With this revision, approximately 10 billion TL, 6 billion US dollars, and 3 billion US dollars equivalent of gold liquidity will be provided to the financial system.

I guess it felt it had to start with the Turkish Lira element but these days that is the smaller part. This also adds to the action last Monday which added some 2.2 billion US Dollars of liquidity. So more today and an explicit mention of a Turkish Lira element.

There was also a press release on financial markets which did at one point more explicitly touch on the foreign exchange market.

3) Collateral FX deposit limits for Turkish lira transactions of banks have been raised to 20 billion euros from 7,2 billion euros.

This did help for a while as the Turkish Lira went back to Friday’s close but it has not lasted as it is 6.83 versus the US Dollar as I type this.

Why does this matter?

Turkey

The ordinary person is already being hit by the past currency falls and now will see inflation head even higher than the 15.85% reported in July.  There was some extra on the way as the producer price index rose to 25% but of course that is behind the times now. The author Louis Fishman who writes about Turkey crunched some numbers.

For many of middle class, a good wage for last 3-4 years has been around 6000-7000 Turkish Lira a month. It has unfortunately decreased in the dollar rate but was still sustainable. This is no longer true. Someone who made 6500 TL in January 2015 made 2,826$ a month. Now: 1,014$.

For a while there will be two situations as foreign goods get much more expensive and domestic ones may not. But as we have noted with the inflation data over time domestic prices rise too.

We have note before the foreign currency borrowing in Turkey which will be feeling like a noose around the neck of some companies right now. From the 13th of July/

Since 2003 $95bn has been invested into the country’s energy sector, of which $51bn remains to be paid. This figure represents 15% of the $340bn owed by non-financial companies in overseas liabilities, according to data from the nation’s central bank. ( Power Technology)

So there will be increasing foreign currency stresses as well as bank stresses in the system right now. The financial chain will be under a lot of strain as we wait to see what turns out to be the weakest link. So far today bank share prices have fallen by around 10% and of course that is in Turkish Lira.

Internationally

As ever we start with the banks where in terms of scale the situation is led by the Spanish and then the French banks with BBVA and BNP being singled out. Italy is under pressure too via Unicredit but this is more that it had troubles in the first place rather than being at the top of the list. There is some UK risk but so far the accident prone RBS does not seem to have been especially involved in this particular accident.

Wider still we have seen currency moves with the US Dollar higher but the peak so far seems to be the South African Rand which has fallen over 3% at one point today adding to past falls. Of course again there is a chain here around various financial markets as we wait to see if anything breaks.

Comment

These situations require some perspective as it is easy to get too caught up in the melee. So let us go back to the 8th of June 2015 where we looked at this.

Turkey’s lira weakened to an all-time low……..The currency tumbled as much as 5.2 percent…….The lira dropped the most since October 2008 on a closing basis to 2.8096 per dollar……..The Borsa Istanbul 100 Index sank 8.2 percent at the open of trading.

Familiar themes although of course the levels were very different. Were there signs of “trouble,trouble,trouble”?

So we have an economy which has chosen economic growth as its policy aim and it has ignored inflation and trade issues.

Since then Turkey has seen sustained inflation and trade problems leading us to the source of where we are now. I see more than a few blaming the tightening of US monetary policy and what is called QT as drivers here but I think they are tactical additions on a strategic trend which is better illustrated by this from the 13th of July.

Turkey’s annual current account deficit in 2017 was around $47.3 billion, compared to the previous year’s figure of $33.1 billion.

As ever if you get ahead of the rush you can feel good as these from the 3rd of May highlight from Lionel Barber.

Good market spot: Turks are buying gold to hedge against booming inflation and a falling currency

Which got this reply from Henry Pryor.

Anecdotally central London agents tell me they are seeing an increase in Turkish buyers this year…

Or if you do not want to bother with the analysis just take note of the establishment view.

World Bank Group President Jim Yong Kim from October 2013.

Turkey’s economic achievements are an inspiration for many other developing countries

 

UK GDP growth accelerates past France and Italy

Today brings us the latest data on the UK economy or to be more specific the economic growth or Gross Domestic Product number for the second quarter of this year. If you are thinking that this is later than usual you are correct. The system changed this summer such that we now get monthly updates as well as quarterly ones. So a month ago we were told this.

The monthly GDP growth rate was flat in March, followed by a growth of 0.2% in April. Overall GDP growth was 0.3% in May.

So we knew the position for April and May earlier than normal (~17 days) but missing from that was June. We get the data for June today which completes the second quarter. As it happens extra attention has been attracted by the fact that the UK economy has appeared to be picking-up extra momentum. The monthly GDP numbers showed a rising trend but since then other data has suggested an improved picture too. For example the monetary trends seem to have stabilised a bit after falls and the Markit PMI business survey told us this.

UK points to a 0.4% rise in Q2 tomorrow, but that still makes the Bank of England’s recent rate rise look odd, even with the supposed reduced speed limit for the economy. Prior to the GFC, 56.5 was the all-sector PMI ‘trigger’ for rate hikes. July 2018 PMI was just 53.8 ( @WilliamsonChris _

As you can see they are a bit bemused by the behaviour of the Bank of England as well. If we look ahead then the next issue to face is the weaker level of the UK Pound £ against the US Dollar as we have dipped below US $1.28 today. This time it is dollar strength which has done this as the Euro has gone below 1.15 (1.145) but from the point of view of inflation prospects this does not matter as many commodities are priced in US Dollars. I do not expect the impact to be as strong as last time as some prices did not fall but via the impact of higher inflation on real wages this will be a brake on the UK economy as we head forwards.

Looking Ahead

Yesterday evening the Guardian published this.

Interest rates will stay low for 20 years, says Bank of England expert

Outgoing MPC member Ian McCafferty predicts rates below 5% and wages up 4%

The bubble was rather punctured though by simpleeconomics in the comments section.

Considering the BoE track record on forecasting I think we should take this with a massive pinch of salt. They often get the next quarter wrong so no hope for 20 years time.

The data

As ever we should not place too much importance on each 0.1% but the number was welcome news.

UK GDP grew by 0.4% in Quarter 2 (April to June) 2018.The rate of quarterly GDP growth picked up from growth of 0.2% in Quarter 1 (Jan to Mar) 2018.

As normal if there was any major rebalancing it was towards the services sector.

Services industries had robust growth of 0.5% in Quarter 2 (Apr to June) 2018, which contributed 0.42 percentage points to overall gross domestic product (GDP) growth.

The areas which did particularly low are shown below.

 Retail and wholesale trade were the largest contributors to growth, at 0.11 percentage points and 0.05 percentage points respectively. Computer programming had a growth of 1.9%, contributing 0.05 percentage points to headline gross domestic product (GDP).

There was also some much better news from the construction sector and even some rebalancing towards it.

Growth of 0.9% in construction also contributed positively to GDP growth.

Although of course these numbers have been in disarray demonstrated by the fact that the latest set of “improvements” are replacing the “improvements” of a couple of years or so ago. Perhaps they have switched a business from the services sector to construction again ( sorry that;s now 3 improvements).So Definitely Maybe. Anyway I can tell you that there are now 40 cranes between Battersea Dogs Home and Vauxhall replacing the 25 when I first counted them.

Today’s sort of humour for the weekend comes from the area to which according to Baron King of Lothbury we have been rebalancing towards.

However, contraction of 0.8% in the production industries contributed negatively to headline GDP growth…….

Manufacturing fell by 0.9% although there is more to this as I will come to in a moment.

Monthly GDP

You might have assumed that the June number would be a good one but in fact it was not.

GDP increased by 0.1% in June 2018

If we look into the detail we see that contrary to expectations there was no services growth at all in June. Such growth as there was come from the other sectors and construction had a good month increasing by 1.4%. I did say I would look at manufacturing again and it increased by 0.4% in June which follows a 0.6% increase in May. So we have an apparent pick-up in the monthly data as the quarterly ones show that it is in a recession with two drops in a row. Thus it looks as if the dog days of earlier this year may be over,

This leaves us with the problem of recording zero services growth in June. The sectors responsible for pulling the number lower are shown below.

The professional, scientific and technical activities sector decreased by 1.0% and contributed negative 0.10 percentage points. ……The other notable sector fall was wholesale, retail and motor trades, which decreased by 0.6% and contributed negative 0.08 percentage points.

The decline of the retail trade whilst the football world cup was on seems odd. Also there overall number completely contradicts the PMI survey for June which at 55.1 was strong. So only time will tell except Bank of England Governor Mark Carney may need its barman to mix his Martini early today as he mulls the possibility that he has just raised interest-rates into a service-sector slow down.

One consistent strong point in the numbers in recent times has carried on at least.

There was also a rise in motion pictures, increasing by 5.8% and contributing 0.05 percentage points.

So we should all do our best to be nice to any luvvies we come across.

Comment

We should welcome the improved quarterly numbers as GDP growth of 0.4% is double that of both France and Italy and is double the previous quarter. However whilst the monthly numbers do provide some extra insight into manufacturing as the recessionary quarterly data looks like a dip which is already recovering the services numbers are odd. I fear that one of my warnings about monthly GDP numbers are coming true as it seems inconsistent with other numbers to say we picked up well in May but slowed down in June. If we look at the services sector alone and go back to February 2017 we are told this happened in the subsequent months, -0.1%,0.3%-0.1%,0.3% which I think speaks for itself.

We also got an update on the trade figures which have a good and a bad component so here is the good.

The total UK trade deficit (goods and services) narrowed £6.2 billion to £25.0 billion in the 12 months to June 2018. The improvement was driven by both exports of goods and services increasing by more than their respective imports.

Next the bad.

The total UK trade deficit widened £4.7 billion to £8.6 billion in the three months to June 2018, due mainly to falling goods exports and rising goods imports.

If you want a one word summary of out recorded trade position then it is simply deficit. Although currently we are looking rather like France in terms of patterns as a reminder that some trends are more than domestic.

 

How not to deal with a foreign exchange crisis

Just over three months ago on the third of May I gave some suggestions as to how to deal with a foreign exchange crisis using the hot topics at the time of Argentina and Turkey. Back then the Argentine newspaper had reported this.

On Wednesday, the US currency jumped again to reach $ 21.52 in the retail market and $ 21.18 in the wholesaler. It went up 5% in the week…….. And the Argentine peso is the currency that fell the most in the year against the dollar (12.5%) followed by the Russian ruble (9%).

Actually the R(o)uble is currently in a soft patch but it is slightly different due to its role as a petro-currency, But returning to Argentina the central bank had a few days earlier done this with interest-rates as they raised them by “300 basis points to 30.25%.”

I suggested that this was unlikely to work.

Firstly you can end up chasing you own tail like a dog. What I mean by this is that markets can expect more interest-rate rises each time the currency falls and usually that is exactly what it does next. Why is this? Well if anticipating a 27,25%% return on your money is not doing the job is 30.25% going to do it?

Actually they did not even get out of that day as the dam broke quickly and interest rates were raised by 3% later that day. Of course that just provokes the same question if a 3% rise does not work why do you think another 3% will? Well my logic applied again as the next day the central bank announced this.

It was resolved to increase the monetary policy rate by 675 points to 40%.

Frankly they were in utter disarray as they proved my point at what was extraordinary speed. Such an interest-rate will have quite a contractionary influence on an economy if sustained and so far it has been as this announcement from Tuesday informs us.

the Monetary Policy Committee (COPOM) of the Central Bank of the Argentine Republic (BCRA) unanimously resolved to define the Liquidity Rate (LELIQ) ) to 7 days as the new monetary policy rate and set it at 40%.

They can have as many new rates as they like but reality is still the same.

What about the Peso?

If we return to Clarin to see what is being reported in Argentina then it is this.

After having closed stable in a day in which the Central Bank maintained the rates, the dollar rose this Wednesday 20 cents in the banks . The average of the entities surveyed by the BCRA showed a closing value of $ 28.23.

In the same sense, at wholesale level the currency increased 23 cents, to $ 27.63 .

So that is around 6 more Pesos per US Dollar. I am not sure at exactly what point a currency fall becomes a plunge but 56% over the past year is hard to argue against.

Along the way Argentina decided that is had to go to the International Monetary Fund or IMF. Although how they both think moving the goalposts will help I am not sure.

 In particular, the central bank has adopted a new, more credible path of inflation targets (for example, the inflation target for end-2019 moved from 10 to 17 percent).

Also this is one way of putting it.

The exchange rate regime is a big change. It is now floating, not fixed, so it’s working as a shock absorber.

Also as I understand it this is rather economical with the truth.

Banks and the private sector also operate without money borrowed in foreign currency, so their balance sheets are not at risk from a depreciation of the peso.

It seems that the Governor of the BCRA thinks so too if this from his annual speech in January is any guide.

As a result of these measures, interest rates in dollars went down from 5%-6% annually by late 2015 to 2%-3% annually today, and lending in foreign currency went up 379% since then, from a stock of U$S 2.9 billion to 14 billion dollars today.

Perhaps the IMF were trying to deflect attention from the foreign currency borrowings of the Argentine state that the central bank had been helping to finance. You may remember the Vomiting Camel Formation that some drew on the 100 year bonds that had been issued in US Dollars by Argentina.

Turkey

Yesterday brought an example of the opposite line of thought to mine as I note this from Bloomberg.

Turkey must hike rates to 23% as the crisis gets worse, Investec says

This was presumably driven by this from Reuters.

The currency had fallen as much as 5.5 percent on Monday to 5.4250 per dollar, an all-time low and its biggest intraday drop in nearly a decade, after Washington said it was reviewing access to the U.S. market for Turkey’s exports.

Actually the territory gets even more familiar because back on June 7th Reuters told us this.

Rates rise by 125 basis points, more than expected……..Turkey’s central bank ramped up its benchmark interest rate to 17.75 percent on Thursday, taking another step to assert its independence, two weeks after an emergency rate hike and just ahead of elections.

No doubt the cheerleaders would have proclaimed success as this happened.

The lira strengthened to 4.4560 against the dollar after the rate rise from 4.5799 just before. It was trading at 4.4830 at 1605 GMT.

However they would have needed the speed of Dina Asher Smith to get out of Dodge City in time if we note where the Turkish Lira is now. So an interest-rate rise that was more than expected did not work and of course it was on top of a previous failure in this regard.

So if we stay with Investec we are left wondering about the case for a rise to 23% or 4.25% more. Especially if we note that such a rise would not even match Monday’s fall in the Lira. The environment is very volatile and the Lita has hit another new low this morning although it is jumping around.

If you want a sense of perspective well if we look back to May 3rd some got ahead of the game.

Good market spot: Turks are buying gold to hedge against booming inflation and a falling currency ( Lionel Barber)

Anecdotally central London agents tell me they are seeing an increase in Turkish buyers this year… ( Henry Pryor)

Comment

These are situations which were described rather aptly by the band Hard-Fi.

Can you feel it? Feel the pressure? Rising?
Pressure
Pressure
Pressure, Pressure, Pressure
Feel the pressure
Pressure
Pressure
Pressure

In that sense perhaps we should cut central bankers a little slack as after all the academics which are often appointed will hardly have any experience of this sort of thing. Then again that begs the question if they are the right sort of person? I recall when the UK was in such a melee back in 1992 that the establishment and I am including the Bank of England and the government in this was simply unable to cope with events as each £500 million reserve tranche disappeared even after promising interest-rate rises of 5%. What a day and night that was…..

In my opinion a combination of Bananarama and the Fun Boy Three gave some coded advice.

It ain’t what you do it’s the way that you do it
It ain’t what you do it’s the way that you do it
It ain’t what you do it’s the way that you do it
And that’s what gets results

As to Turkey the official view is that it’s all fine.

*TURKEY SEES NO FX, LIQUIDITY RISK FOR COMPANIES, BANKS ( h/t @Macroandchill )