What is happening to house prices and rents in Ireland?

Yesterday brought us up to date with house price changes in the Euro area at least for the start of 2018. From Eurostat.

House prices, as measured by the House Price Index, rose by 4.5% in the euro area and by 4.7% in the EU in the
first quarter of 2018 compared with the same quarter of the previous year…….Compared with the fourth quarter of 2017, house prices rose by 0.6% in the euro area and by 0.7% in the EU in the first quarter of 2018.

As you might expect there are some swings from country to country but before we get there we see some interpretation of history.

House prices in the EU up 11 % since 2010

Actually they fell for a while due to the Euro area crisis and then responded to the “Whatever It Takes” measures.

Prices started growing again in 2014.

A particular disappointment to Mario Draghi must be that his home country Italy has ignored all his efforts to pump up house prices as they fell there by 0.4% over the last year and are down 15% since 2010. Meanwhile my attention was drawn to Ireland with its 12.3% rise in the latest year.

This is because the boom and then bust in Irish house prices took much of the banking system with it.  This meant via the usual privatisation of profits but socialisation of losses with respect to the banking system the Irish taxpayer found themselves in this situation described by its national debt agency NTMA.

That may bring Ireland’s high stock of debt – which at €213bn is more than four times its 2007 level – into sharp focus. Whilst our debt ratios are improving, our total nominal debt is still rising as we continue to borrow to pay interest.

This means that whilst the interest-rate or yield on Ireland’s bonds has fallen a lot mostly due to the bond buying or QE of the ECB (European Central Bank) there is a tidy bill to pay each year.

Almost irrespective of the external interest rate environment, we still expect Ireland’s annual interest bill to fall towards €5bn in the near term, from €6.1bn in 2017 and a peak of €7.5bn in 2014.

Ireland now only has an interest-rate of 0.81% on its ten-year benchmark bond so a fair bit lower than the UK which represents quite a change when we borrowed money to lend to theme to help them out.

House prices

The Irish statistics office or CSO brings us more up to date.

In the year to April, residential property prices at national level increased by 13.0%. This compares with an increase of 12.6% in the year to March and an increase of 9.5% in the twelve months to April 2017.

As you can see the pace has been picking up although it is no longer being quite so led by Dublin.

In Dublin, residential property prices increased by 12.5% in the year to April. Dublin house prices increased 11.7%. Apartments in Dublin increased 15.9% in the same period.

The reason why I raise the Dublin issue is that it has seen the widest swings as it had the biggest bubble then fell the most and then for a while picked back up more quickly. Or as it is put here.

From the trough in early 2013, prices nationally have increased by 76.0%. Dublin residential property prices have increased 90.1% from their February 2012 low, whilst residential property prices in the Rest of Ireland are 69.9% higher than the trough, which was in May 2013.

That is quite a surge is it not? Whilst the Dublin recovery started earlier nearly all of this fits with the “Whatever It Takes” policies and timing of the ECB, Of course it raises old fears as well although we are not back to where the bubble burst.

Overall, the national index is 21.1% lower than its highest level in 2007. Dublin residential property prices are 23.3% lower than their February 2007 peak, while residential property prices in the Rest of Ireland are 26.1% lower than their May 2007 peak.

Oh and maybe another issue is having an impact.

The Border region showed the least price growth, with house prices increasing 9.3%.

Rents

We can track these down via the consumer inflation numbers and we get a hint here.

Housing, Water, Electricity, Gas & Other Fuels rose mainly due to higher rents and an increase in the price of home heating oil and electricity.

Looking into the detail we see that rents have risen by 7.4% over the past year and by 0.5% in May. The larger private-sector market is currently seeing a faster rate of rise but there must have been quite a chunky rise in public-sector rents at some point in the last year as they are up by 10.6% over that period.

Mortgage Interest-Rates

I found these hard to track down as the Central Bank of Ireland changed its reporting system but the Irish Consumer Price Index gives us a guide. It must have been designed in a similar way to the UK RPI as it includes mortgage interest-rates. The index for this was 143 when Mario Draghi was giving his “Whatever It Takes” ( to reduce mortgage rates) speech whereas in May it was 99.1.

Although rather curiously the Irish Independent reports that many have not bothered to switch to lower mortgage-rates.

KBC Bank is due to tell the Oireachtas Finance Committee it has 36,000 residential customers paying variable rates, which are its most expensive home-loan option, when they could get a lower priced deal from a bank.

It comes after it emerged that more than 100,000 homeowners at Bank of Ireland and Permanent TSB are paying up to €3,000 more a year on their mortgages than they need to at the two banks.

Perhaps they do not realise they can get them as I recall Ireland having a situation where many could not switch due to the house price falls.

Comment

There is a fair bit to consider here and let me open by agreeing to some extent with Mario Draghi.

European Central Bank chief Mario Draghi has linked the current spike in Irish property prices to “the search for yield by international investors”.

Mr Draghi said the real estate market in the Republic and several other EU states was “overstretched” and vulnerable to “repricing”. ( Irish Times yesterday).

He cannot bring himself to say falls nor to acknowledge his own role in them being overstretched but he does have time to bring up the fall guy which is of course financial terrorists.

 being fuelled by cross-border financing and non-banks, and that it would be important to investigate whether new macro-prudential instruments should be introduced for non-banks, especially in relation to their commercial real estate exposures.

We can’t have banks losing profitable business can we? Speaking of macro-prudential so the 2015 measures did not work then which is not a surprise here but perhaps a suggestion from the UK might help.

Under such a target the Bank of England should aim to keep nominal house price inflation at (say)
zero per cent for an initial period – perhaps five years – to reset expectations, ( IPPR)

So the organisation which has pumped them up has the job of controlling them? Whilst the central planners would love this sadly it would not work and I say that as someone who thinks we badly need lower house prices and switching back to Ireland because of this sort of thing. From the Irish Examiner.

The scramble to find a home in the crisis-hit rental sector has led to people queuing to view a €900-a-month one-bedroom apartment on Cork’s Tuckey Street……..

Piet said last week they were the first people in a 50-person queue on MacCurtain Street and were refused the apartment because they did not have a reference letter with them.

Piet said the rental sector is a lot more expensive than it was a few years ago.

The average rental property in Cork has soared to above €1,210 a month — up almost 10% on last year.

“We pushed the boat out to €900 a month just to get somewhere nice. That is the very end of our budget,” said Piet.

Or to put it another way with both house prices and rents soaring the rentiers are quids ( Euros) in.

 

 

 

 

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UK GDP growth continues to rebalance towards services

Today has brought a new adventure in UK economic statistics. This is because we have moved to a new system where we get monthly GDP releases whilst the quarterly ones have been delayed. In terms of detail here is the change in the quarterly schedule.

The new model will see the publication of two quarterly GDP releases rather than three. The new First quarterly GDP estimate will be published approximately 40 days after the end of the quarter to which it refers. The new first estimate will have much higher data content for the output approach than the current preliminary estimate. It will also contain data from the income and expenditure approaches,

In general I welcome this as under the old model the last of the three months in question had rather a shortage of actual data and quite a lot of projections. The UK has in essence produced its numbers too quickly in the past and now they should be more reliable. There is a catch to this in that the Bank of England will have its August policy meeting without the GDP data. This has a consequence in that traditionally it is more likely to act once it has it and another in that will it get a sort of “early wire”? That sort of thing was officially stopped by seems to have unofficially started again. I also welcome the use of income and expenditure numbers as long as it is not an excuse to further increase the role of fantasy numbers such as imputed rent. Back in the day Chancellor Nigel Lawson downgraded the use of the income and expenditure GDP data and I think that was a mistake as for example in the US the income GDP numbers worked better than the normal ( output)ones at times.

The services numbers will be sped up so that this can happen.

Taken together, these releases provide enough information to produce a monthly estimate of GDP, as data on almost the entire economy will now be available.

This has two problems. Firstly the arrival of the services data has been sped up by a fortnight which can only make it less reliable. The second is that these theme days overrun us with data as we will not only be getting 2 GDP numbers we will also be getting production, construction and trade numbers. Frankly it is all too much and some if not much of it will be ignored.

Today’s Numbers

The headline is as follows.

UK GDP grew by 0.2% in the three months to May.Growth in the three months to May was higher than growth in the three months to April, which was flat. The weakness in growth in the three months to April was largely due to a negative drag on GDP from construction.

There was something familiar about this which may make Baron King of Lothbury reach for the key to the sherry cabinet.

Growth of 0.4% in the services industries in the three months to May had the biggest contribution to GDP growth.

Yes we “rebalanced” towards services yet again as we mull whether he was ennobled due to his apparently ability to claim the reverse of reality so often? As it happens the growth was driven by a sector which has seen troubled times.

Growth in consumer-facing industries (for example retail, hotels, restaurants) has been slowing over the past year. However, in the three months to May growth in these industries picked up, particularly in wholesale and retail trade.

This industry grew by 0.9% in the three months to May and contributed 0.1 percentage points to headline GDP.

If we move to the monthly data we note 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.

This in so far as it is reliable confirms my suggestion that the UK economy is edging forwards at about 0.3% per quarter. Oh and if the output on social media is any guide best of luck with this.

The monthly growth rate for GDP is volatile and therefore it should be used with caution and alongside other measures such as the three-month growth rate when looking for an indicator of the long-term trend of the economy.

Production

It was disappointing to see a drop here although maybe this was something international as France also saw a drop earlier in the day.

In May 2018, total production was estimated to have decreased by 0.4% compared with April 2018, led by falls in energy supply of 3.2% and mining and quarrying of 4.6%.

There were two ameliorating factors at play as we start with mining.

 due to unplanned maintenance on the Sullom Voe oil and gas terminal.

Also the falls in manufacturing seem to have stopped.

Manufacturing output rose by 0.4% and is the first increase in this sector since December 2017……..due mainly to widespread growth across the sector, with 9 of the 13 sub-sectors increasing.

The leading sectors were as follows.

Pharmaceutical products and transport equipment provide the largest contributions to monthly growth, increasing by 2.4% and 1.1% respectively.

It would appear that yet again it is time for ” I am the urban spaceman baby” which younger readers may need to look up!

Within the transport equipment sub-sector, the aircraft, spacecraft and related machinery industry performed strongly, increasing by 3.3%, supported by an increase in nominal export turnover growth of 10.9%.

Those areas are still seeing export growth whereas more generally for manufacturing the boost from the lower Pound £ seems to be over. Or if you prefer the effects of the J-Curve and Reverse J-Curve have come and gone.

Trade

The picture here has been one of improvement and on an annual comparison that remains true.

The total UK trade deficit (goods and services) narrowed £3.9 billion to £26.5 billion in the 12 months to May 2018. An improvement in the trade in services balance was the main factor, as the UK’s trade in services surplus widened £4.1 billion to £111.5 billion.

However the quarterly numbers also suggest that the boost from the lower UK Pound £ has been and gone.

The total UK trade deficit widened £5.0 billion to £8.3 billion in the three months to May 2018, mainly due to falling goods exports and rising goods imports. Falling exports of cars and rising imports of unspecified goods were mostly responsible for the £5.0 billion widening of the total trade deficit in the three months to May 2018.

Tucked away in this was a rare event for the UK.

There was a small overall trade surplus on the month to February 2018, mainly due to falling goods imports;

Comment

We find that today’s data confirms our thoughts that after a soft patch the UK economy has picked up a bit. There are reasons to suspect this continued in June. For example the monetary data picked up in May so may no longer be as strong a break and the PMI business surveys for June were stronger.

The survey data indicate that the economy likely
grew by 0.4% in the second quarter, up from 0.2%
in the opening quarter of 2018.

That poses a question for the Bank of England and its Governor. That rate of growth is above the “speed limit” that its Ivory Tower has calculated although the model used has been a consistent failure. Should the boyfriend prove to be unreliable yet again then subsequent votes will be without one of the policymakers keen to raise interest-rates. I remain to be convinced they will take the plunge.

Moving onto a past Bank of England staple which is rebalancing we see us moving towards a strength which we do not seem to like. As services seemed to be left out of the Chequers Brexit plan which seemed really odd to me. Especially if we note that other areas are in relative and sometimes absolute decline.

Production and manufacturing output have risen but remain 6.2% and 2.5% lower, respectively, in the three months to May 2018 than the pre-downturn gross domestic product (GDP) peak in Quarter 1 (Jan to Mar) 2008.

I have left out the construction numbers for May as we wait for any sort of reliability from them.

 

 

 

 

 

What is happening with Bitcoin?

The world of Bitcoin is ever-changing at least in price terms. As I type this then one Bitcoin would cost some US $6720 as opposed to the peak of US $19187 in October of last year. So quite a drop but we also need to note that if we go back to this time last year it was just below US $2000 albeit the rocket engines to take it higher were firing up. So in terms of it being a replacement for money the price moves over the past year make it almost impossible to think of it as a store of value although if we look further back it remains party-time for longer-term investors.

The background

This is that Bitcoin continues to come under verbal and written attack. From Financial News this morning.

Three of the world’s most respected economists have led a joint attack on bitcoin, claiming the digital currency will be “regulated into oblivion” as governments globally move to clamp down on money laundering.

So the heat is on in terms of threats.

Joseph Stiglitz, Nouriel Roubini and Kenneth Rogoff have renewed their assault on the  cryptocurrency believing it will be subject to further sharp and damaging falls as authorities crack down on criminals using Bitcoin to launder money and to avoid paying taxes.

These are familiar lines especially from Kenneth Rogoff who infamously does not like cash either. As to the title I think there are more than a few grounds to challenge this hype.

The three respected economists have renewed their assault on the cryptocurrency

Bank for International Settlements

Towards the end of June the General Manager of the BIS Augustin Carstens weighed in heavily on this issue. One particular section was breathtaking in its cheek and apparent avoidance of reality. The emphasis is mine.

Cryptocurrencies promise to replace trust in long-standing institutions, such as commercial and central banks, with trust in a new, fully decentralised system.

The trust issue is one that those in Denmark will be mulling right now. From the Financial Times last week.

The Kremlin critic investigating an alleged $230m Russian fraud is set to file a criminal complaint against Danske Bank in its home country of Denmark, accusing it of being a central player in a vast money laundering scheme.

As you can see we are shooting two birds with one stone as we note the “trust” in Danske and the fact that yet again it is a bank accused of money laundering on a grand scale or the exact opposite of the claims of Kenneth Rogoff.

Danske is under mounting pressure over the alleged money laundering. Mr Browder and local media claimed this week that the amount of transactions that flowed through the Estonian branch of Denmark’s biggest lender may have been as much as DKr53bn ($8.3bn), more than double previous estimates.

As the total market capitalisation of Bitcoin is US $141 billion it seems to lack the ability to match the banks in this area even if every Bitcoin is used for money laundering. After all Danske is only one bank and even if we just remain in the relatively small geographic area of the Baltics there seems to be a lot of money laundering going on. Here is the Baltic Times on the IMF visit to Latvia which ended at the weekend.

strong measures are necessary to restore the system’s reputation following the halt to ABLV Bank’s operations, the IMF points out. Effective implementation of anti money laundering and combating the financing of terrorism (AML/CFT) recommendations has to focus on reducing the proportion of questionable foreign deposits and the risks they pose to Latvia’s financial system.

For those wondering about ABLV I analysed its fall on the 19th of February. As to the ramifications this emerged at the end of last month according to Reuters.

Ilmars Rimsevics, a member of the European Central Bank’s policy-making governing council, was charged with soliciting and accepting a bribe, the Latvian Prosecutor General’s office said on Thursday.

This has posed two legal moral and ethical issues. Firstly there is the issue of financial crime in the Baltic based banks which presumably is why the head of ECB banking supervision Ms Nuoy has just visited Lithuania as according to domino theories it is the only one currently standing. Also it has raised the issue of how and if the law applies to central bank governors in the Euro area.

Oh and Mr.Carstens has thoughts in this area as well.

The goal should be to ensure that cryptocurrencies cannot undermine the role of central banks as trusted stewards of monetary and financial stability.

Technical Details

Hyun Song Shin has been the go to man for this sort of thing at the BIS for a while now although he does start by posing an issue for the BIS itself.

Much has already been said about how impractical cryptocurrencies are as a means of payment,
as well as the scope for fraud and other illicit activities they open up. The line from Agustín Carstens’
speech that they are a combination of a bubble, a Ponzi scheme and an environmental disaster has been
much discussed.

I thought that central banks liked bubbles! Is he really trying to tell us that they do not? The issue of the “precious” returns yet again as in spite of all the fraud issues people like this always highlight problems which are usually much smaller elsewhere.

Returning to his main points they are as follows.

One is the lack of scalability, which is about providing flexibility and capacity to function as a payment system regardless of the number of transactions.

The second problem is the lack of finality of payments. A payment being recorded in the ledger
does not guarantee that it is final and irrevocable. For cryptocurrencies, what counts as the truth is a matter
of agreement among the bookkeepers.

This bit also caught my eye.

At one point last December, the voluntary user fee
reached $57 dollars per transaction. So, if you insisted on buying a coffee for $2 with bitcoin, you would
have had to pay $57 to process the payment.

As someone who lives in central London I would like to know where you can get a coffee for US $2? More seriously Bitcoin needs to up its transactions game although if this was a bank no doubt the message would be that it is a result of its success.

Energy

This is a hotly debated topic as this from Crypto briefing highlights.

Published by the research team at CoinShares, a London-based cryptocurrency investment firm, the report argues that significant Bitcoin mining operations are principally powered by cheap renewable energy, and use roughly half the amount of energy that has been previously suggested.

According to the report, published today, the Bitcoin mining industry consumes approximately 35 TWh every year; 50% less than the 70TWh currently claimed by the Bitcoin Energy Consumption Index, which also argues that BTC mining has a carbon footprint that exceeds 32m tonnes annually. ( TWh =Terawatt Hours)

Best of luck with the idea that renewable energy is cheap! There are of course some examples but in general it is raising energy costs.

Comment

There is much to consider as we mull  whether these are just birthing pains or crippling ones? On the side of the former is the way that the establishment continues to spend so much time trying to rubbish Bitcoin. If it is so bad why bother as it will collapse of its own accord if they are right? We get nearer the truth as we note that the accusation of promoting financial crime is beyond laughable from people who promote the “precious” with their next breath. As to technology I am also reminded that the UK banks are often accused of having systems still based in the 1970s. That may or may not be true but it is true that the Bank of England did not lower Bank Rate beyond 0.5% because it was afraid of the impact on the banks. Even now according to Governor Carney it thinks they cannot take them below 0% a consequence which I think is much for the best albeit it does highlight quite a weakness in IT.

Looking ahead this is so reminiscent of the development of the railways if we look at the broader picture. They are of course still with us although there are more than a few commuters who wish that they were not if their social media output is any guide.

Money, get away
Get a good job with more pay and you’re O.K.
Money, it’s a gas
Grab that cash with both hands and make a stash
New car, caviar, four star daydream,
Think I’ll buy me a football team ( Pink Floyd )

 

 

 

Mark Carney is back making promises about interest-rates

Yesterday the Governor of the Bank of England visited the Great Exhibition of the North and went to Newcastle but sadly without any coal. As usual he was unable to admit his own role in events when they have gone badly and this was illustrated by the sentence below.

We meet today after the first decade of falling real incomes in the UK since the middle of the 19th century.

Perhaps he had written his speech before the Office of National Statistics told these specifics on Wednesday but he should have been aware of the overall picture. The emphasis is mine.

Both cash basis and national accounts real household disposable income (RHDI) declined for the second successive year in 2017. This was due largely to the impact of inflation on gross disposable household income (GDHI),

The issue here is that the Bank Rate cut and Sledgehammer QE sent the UK Pound £ lower after the EU Leave vote. Just for clarity it would have fallen anyway just not by so much and certainly not below US $1.20, After all we have seen it above US $1.30 now and if you look back you see that it has in general two stages. The first which was down accompanied the period the Bank of England promised more easing – it is easy to forget now that they promised to cut Bank Rate to 0.1% in November 2016 before events made it too embarrassing to carry it through –  and then once that stopped stability and then a rise. With a lag inflation followed this trend but with a reverse pattern. So if we return to the data above we now see this.

On a quarter on same quarter a year ago basis, both measures of RHDI increased in Quarter 1 2018. Cash RHDI increased by 2.4% and national accounts RHDI grew by 2%;

Now the inflation effect has faded the numbers are growing again. Again not all of the effect is due to it dropping as stronger employment has helped but it is in there. As a final point these numbers make me smile as I recall some of you being kind enough to point out my role in us finally getting numbers without the fantasy elements.

This bulletin provides Experimental Statistics on the impact of removing “imputed” transactions from real household disposable income (RHDI).

Forward Guidance

It would not be a Mark Carney speech if he did not reverse what he told us last time as he racks up the U-Turns. First he did some cheerleading for himself.

That approach has worked . Employment is at a record high. Import price inflation is fading. Real
wages are rising.

This of course relies on the power of a 0.25% Bank Rate cut ( plus more QE) but sadly nobody asked why if that is so powerful why the previous 4% or so of cuts did not put the economy through the roof? Also his policies made imported inflation worse and real wages are only rising if you choose a favourable inflation measure.

Also we got what in gardening terms is a hardy perennial.

Now, with the excess supply in the economy virtually used up

It has been about to be used up for all of his term! Remember when an unemployment rate of 7% was a sign of it? Well it is 4.2% now.  But in spite of the obvious persistent failures it would appear that it is deja vu allover again.

The UK labour market has remained strong, and there is widespread evidence that slack is
largely used up.

Next we get this

Domestically, the incoming data have given me greater confidence that the softness of UK activity in the first
quarter was largely due to the weather, not the economic climate.

And this.

A number of indicators of household
spending and sentiment have bounced back strongly from what increasingly appears to have been erratic
weakness in Q1………….Headline
inflation is still expected to rise in the short-term because of higher energy prices.

Leads to the equivalent of something of a mouth full and the emphasis is mine.

As the MPC has stressed, were the economy to develop broadly in line with the May Inflation Report
projections – with demand growth exceeding the 1½% estimated rate of supply growth leading to a small
margin of excess demand emerging by early 2020 and domestic inflationary pressures continuing to build
gradually to rates consistent with the 2% target – an ongoing tightening of monetary policy over the next few years would be appropriate to return inflation sustainably to its target at a conventional horizon.

For newer readers unaware of how he earned the nickname the unreliable boyfriend let me take you back four years and a month to his Mansion House speech.

The MPC has rightly stressed that the timing of the first Bank Rate increase is less important than the path
thereafter – that is, the degree and pace of increases after they start. In particular, we expect that eventual
increases in Bank Rate will be gradual and limited.

Well he was right about the limited bit as it is still where it was then at the “emergency” level of 0.5%. Actually of course he was believed to have been much more specific at the time.

There’s already great speculation about the exact timing of the first rate hike and this decision is becoming
more balanced.
It could happen sooner than markets currently expect.

The next day saw quite a scramble as markets adjusted to what they believed in central banker speak was as near to a promise as they would get. You may not be bothered too much about financial traders ( like me) but this had real world implications as for example people took out fixed-rate mortgages and then found the next move was in fact a cut.

Yet some saw this as a sign as this from Joel Hills of ITV indicates.

Mark Carney signalling that, despite all the uncertainty, “gradual and limited” interest rate rises are looming. Market is betting that Bank of England will probably increase Bank Rate in August.

Just like in May when they lost their bets as part of a now long-running series. The foreign exchange markets have learnt their lesson after receiving some burnt fingers in the past and responded little. Perhaps they focused on this bit.

Pay and domestic cost growth have continued to firm broadly as expected.

Now if we start in December the official series for total pay growth has gone 3.1%, 2.8%, 2.6%,2.5% and then 2.5% in April which simply is not “firm” at all. Of course central bankers love to cherry pick but sadly the season for cherries has not been kind here either. If we move to private-sector regular pay as guided we see on the same timescale 2.9%, 3%, 2.8%, 3.2% but then a rather ugly 2.5% in April. There are few excuses here as they have excluded bonuses which are often high in April.

Comment

We have been here so may times now with the unreliable boyfriend who just cannot commit to a Bank Rate rise. Each time he echoes Carly Rae Jepson and ” really really really really really really ” wants to but there is then a slip between cup and lip. If we look back to May which regular readers will recall had been described by the Financial Times as an example of forward guidance for an interest-rate rise the feet got cold. If they do so again will we see wage growth as the excuse? We do not know this month’s numbers but as we stand they looked better back then than now.

If we look over the Atlantic we see a different story of a central bank raising interest-rates into an apparently strong economy and promising more. We are of course between the US and Euro area in economic terms but in my opinion it would have been much better if we had backed up the rhetoric and now had interest-rates of say 1.25%.or 1.5%. If we cannot take that then what has the claimed recover been worth.

Considering all the broken promises and to coin a phrase four years of hurt this is really rather breathtaking,

 

 

What is driving bond yields these days?

Yesterday brought us an example of how the military dictum of the best place to hide something is to put it in full view has seeped into economics. Let me show you what I mean with this from @LiveSquawk.

HSBC Cuts German 10-Year Bond Yield Forecast To 0.40% By End-2018 From 0.75% Previously, Cites Growth Worries, German Political Tensions Among Reasons – RTRS

Apart from the obvious humour element as these forecasts come and go like tumbleweed on a windy day there is the issue of how low this is. Actually if we move from fantasy forecasts to reality we find an even lower number as the ten-year yield is in fact 0.34% as I type this. This poses an issue to me on a basic level as we have gone through a period of extreme instability and yet this yield implies exactly the reverse.

Another way of looking at this is to apply the metrics that in my past have been used to measure such matters. For example you could look at economic growth.

Economic Growth

The German economy continued to grow also at the beginning of the year, though at a slower pace……. the gross domestic product (GDP) increased 0.3% – upon price, seasonal and calendar adjustment – in the first quarter of 2018 compared with the fourth quarter of 2017. This is the 15th quarter-on-quarter growth in a row, contributing to the longest upswing phase since 1991. Last year, GDP growth rates were higher (+0.7% in the third quarter and +0.6% in the fourth quarter of 2017). ( Destatis)

If we look at the situation we see that the economy is growing so that is not the issue and furthermore it has been growing for a sustained period so that drops out as a cause too. Yes economic growth has slowed but even if you assume that for the year you get ~1.2% and it has been 2.3% over the past year. Thus if you could you would invest any funds you had in an economic growth feature which no doubt the Ivory Towers are packed with! Of course it is not so easy in the real world.

So we move on with an uncomfortable feeling and not just be cause we are abandoning and old metric. There is the issue that we may be missing something. Was the credit crunch such a shock that we have yet to recover? Putting it another way if Forbin’s Rule is right and 2% recorded growth is in fact 0% for the ordinary person things fall back towards being in line.

Inflation

Another route is to use inflation to give us a real yield. This is much more difficult in practice than theory but let us set off.

 The inflation rate in Germany as measured by the consumer price index is expected to be 2.1% in June 2018. ( Destatis)

So on a basic look we have a negative real yield of the order of -1.7% which again implies an expectation of bad news and frankly more than just a recession. Much more awkward is trying to figure out what inflation will be for the next ten years.

This assessment is also broadly reflected in the June 2018 Eurosystem staff macroeconomic projections for the euro area, which foresee annual HICP inflation at 1.7% in 2018, 2019 and 2020.  ( ECB President Draghi)

That still leaves us quite a few years short and after its poor track record who has any faith that the ECB forecast above will be correct? The credit crunch era has been unpredictable in this area too with the exception of asset prices. But barring an oil price shock or the like real yields look set to be heavily negative for some time to come. This was sort of confirmed by Peter Praet of the ECB on Tuesday although central bankers always tell us this right up to and sometimes including the point at which it is obviously ridiculous.

well-anchored, longer-term inflation expectations,

 

The sum of short-term interest-rates

In many ways this seems too good to be true as an explanation as what will short-term interest-rates be in 2024 for example? But actually maybe it is the best answer of all. If like me you believe that President Draghi has no intention at all of raising interest-rates on his watch then we are looking at a -0.4% deposit rate until the autumn of 2019 as a minimum. Here we get a drag on bond yields for the forseeable future and what if there was a recession and another cut?

QE

This has been a large player and with all the recent rumours or as they are called now “sauces” about a European Operation Twist it will continue. For newer readers this involves the ECB slowing and then stopping new purchases but maintaining the existing stock of bonds. As the stock of German Bunds is just under 492 billion Euros that is a tidy sum especially if we note that Germany has been running a fiscal surplus reducing the potential supply. But as Bunds mature the ECB will be along to roll its share of the maturity into new bonds. Whilst it is far from the only  player I do wonder if markets are happy to let it pay an inflated price for its purchases.

Exchange Rate

This is a factor that usually applies to foreign investors. They mostly buy foreign bonds because they think the exchange rate will rise and in the past the wheels were oiled by the yield from the bond. Of course the latter is a moot point in the German bond market as for quite a few years out you pay rather than receive and even ten-years out you get very little.

Another category is where investors pile into perceived safe havens and like London property the German bond market has been one of this. If you are running from a perceived calamity then security really matters and in this instance getting a piece of paper from the German Treasury can be seen as supplying that need. In an irony considering the security aspect this is rather unstable to say the least but in practice it has worked at least so far.

Comment

We find that expectations of short-term interest-rates seem to be the main and at times the only player in town. An example of this has been provided in my country the UK only 30 minutes or so ago.

Britain’s economic strength shows a need for higher interest rates, Mark Carney says. ( Bloomberg)

Mark Carney prepares ground for August interest rate hike from Bank of England with ‘confident’ economic view ( The Independent).

The problem for the unreliable boyfriend who cried wolf is that he was at this game as recently as May and has been consistently doing so since June 2014. Thus we find that with the UK Gilt future unchanged on the day that such jawboning is treated with a yawn and the ten-year yield is 1.28%. If you look at the UK inflation trajectory and performance than remains solidly in negative territory. So the view here is that even if he does do something which would be quite a change after 4 years of hot air he would be as likely to reverse it as do any more.

The theory has some success in the US as well. We have seen rises in the official interest-rate and more seem to be on the way. The intriguing part of the response is that US yields seem to be giving us a cap of around 3% for all of this. Even the reality of the Trump tax cuts and fiscal expansionism does not seem to have changed this.

Is everything based on the short-term now?

As to why this all matters well they are what drive the cost of fixed-rate mortgages and longer term business lending as well as what is costs governments to borrow.

 

 

Were PPI payments more of an impact on the UK economy than QE?

Yesterday brought news on a subject that has turned out to be rather like a vampire you cannot kill. This is the issue of compensation for miss selling of payment protection insurance or PPI. Yesterday it bounced back as this from the BBC explains.

People who were not mis-sold PPI policies may be able to claim billions of pounds more in compensation, following a court ruling in Manchester.

Christopher and Joanne Doran were awarded all the sales commission they paid plus interest for a policy, a total of £17,345.

They are the first people to have all of their commission payments refunded for a legitimately sold policy.

This made me think as a bit more than a decade or so ago I worked for the small business division of Lloyds Bank and recall one of the small business managers telling me that the commission on protection insurance for small business lending was 52%. So according to the BBC it now qualifies.

Under the Financial Conduct Authority’s existing guidelines, consumers who were sold their policies legitimately may still be entitled to claim back commission which is deemed excessive.

This means that policy-holders can reclaim any amount of commission that was in excess of 50% of the premium.

I am also reminded that loans could be cheaper with such insurance or to put it more realistically if you did not take it then your interest-rate was higher. As you can see the poor small business borrower was in quicksand pretty much anyway he or she moved.

As to the new development here is an estimate of the possible impact.

But the judge in Manchester ruled that the Dorans were entitled to receive the whole of the commission – in their case 76% of the premium – plus interest.

Paragon Personal Finance, which lost the case, is deciding whether to appeal against the ruling.

Lawyers have claimed the ruling is a new precedent that could mean that banks are liable for another £18bn in pay-outs.

That may or may not be true but does gain some extra credibility from this.

However, sources in the City were sceptical about that figure.

How much so far?

If we move to the total so far from PPI payments then the Financial Conduct Authority or FCA  tells us this.

A total of £389.6m was paid in March 2018 to customers who complained about the way they were sold payment protection insurance (PPI). This takes the amount paid since January 2011 to £30.7 bn.

Actually it is likely to be a little more than that as the FCA believes it only covers 95% of payments. If so the total is more like £32 billion which even in these inflated times is a tidy sum. We also learn something from the back data as whilst payments began in 2011 they really kicked into gear in 2012 and peaked at £735 million in May of that year. That sort of timing coincides very nearly with when the UK economy picked up as back then you may recall the fears of what was called a “triple-dip”.Moving forwards the boost from this source reduced but intriguingly so far in 2018 it has picked up again to just shy of £400 million a month on average.

Economic impact

This is in many respects straight forwards. As the money is the modern version of cold hard dirty cash as it pings into the recipients accounts. A bit perhaps like last night when I heard several RAF Chinooks over Battersea no doubt instructed by Bank of England Governor Carney to be ready to do a Helicopter Money drop should England lose to Colombia. Fortunately his crystal ball was as accurate as ever.The principle being that you get such money and immediately spend it and in the UK that does coincide with our enthusiasm for what might be called a spot of retail therapy.

Another route may well have been the way that car sales responded. Of course there is a mis-match these days between getting a lump sum and paying a monthly lease as so many now do but that does not seem a big deal. Actually measuring this is not far off impossible though. Back in January 2014 Robert Peston who was at the BBC back then had a go.

Over 18 months or so, banks have paid out around £12bn to those mis-sold the credit insurance, out of a total that they currently expect to pay of £16bn.

It represents an economic boost equivalent to circa 1% of GDP – which is big. It is a bigger direct fiscal stimulus than anything either government has attempted since the crisis of 2008, involving more money for example than the temporary VAT cut of 2009.

Perhaps he had been reading some of my output as he also pointed out this.

 the UK’s car market last year returned to the kind of buoyant conditions not seen since before the 2007-8 crash.

There was a rise in motor sales of almost 11% to 2.26 million vehicles, according to the Society of Motor Manufacturers and Traders.

Another potential impact could have been on the housing market as whilst in London the effect may be limited because of the level of house prices elsewhere a PPI payment may well be a solid help in deposit terms.

The reverse ferret here is something perhaps unique in the credit crunch era in that it hurts the banks or more specifically the shareholders. I do sometimes wonder if bank boards are not bothered because lets face it lower share prices may be good for their share options assuming they eventually rise. Also of course they have been on a drip feed of liquidity assistance from the Funding for Lending Scheme and then the Term Funding Scheme.

QE Impact

This is much more intangible. In theory there is a boost from asset reallocation and higher asset prices but that is somewhat intangible and is very different from the “money printing” theory of people getting cash and then spending it. That and the associated impact on inflation has mostly been redacted from the Bank of England website. There was a Working Paper in October 2016 which apart from demonstrating that the authors made a good career choice in not trading financial markets gave us these thoughts.

Bank of England estimates suggest that the initial £200bn of QE may have pushed up on the level of
GDP by a peak of 1½-2% and on inflation by ¾-1½% (Joyce, Tong and Woods (2011)).

And also this.

For example, consistent with Weale and Wieladek (2016), evidence in the US (Figure B1.7 in Appendix B) suggests that a 10% of GDP central bank balance sheet expansion has a peak impact on output of around 6% after three years and a peak impact on CPI of around 6% after around seven quarters.

Perhaps they shift to the US because if you look at Appendix B you see that the UK impact is about a third of that and the Euro area impact even less.

Comment

There is a clear moral hazard with the majority of estimates of the economic impact of QE in that they are done by the central banks responsible for it. For example the research above is from the Bank of England and it quotes a paper from Martin Weale who is in effect presented as judge and jury on policies he voted for. So we are much thinner on evidence for its impact than you might think. You may also not be surprised to read that Martin Weale has been an opponent of my campaign to get asset prices represented in the inflation measures.

On the other side the impact of PPI is much more easy to see. The catch here is that of course we have seen a lot of things happen at the same time and it is clearly impossible to be exactly certain about which bit was at play at any one time. We are often more irrational than we like to think so who really knows why person A goes and buys X on day Y? But I think we can be clear that PPI compensation played a solid role in the UK economy recovering and seems set to continue to do so.

UK construction has been growing rather than being in recession. Ouch!

This morning brings us more on what has become the troubled construction sector in the UK. Or to be more specific what we have been told by our official statisticians is troubled. Regular readers will be aware that I found some of this bemusing partly due to geographical location as there is an enormous amount of building work going on at Nine Elms around the new US Embassy. The last time I counted there were 32 cranes in the stretch between Battersea Dogs and Cats Home and Vauxhall. Also there have been problems with the official construction data series of which more later going back some years which have led to me cautioning that the numbers may need to be taken with the whole salt-cellar rather than just a pinch of salt.

What happened last week?

I pointed out on Friday that there had been ch-ch-changes.

This has been driven by revised construction estimates, with its output growth revised up by 1.9 percentage points to negative 0.8%

This was the road on which total UK GDP growth was revised up from 0.1% to 0.2%. It takes quite a lot for something which is only 6.1% of total output to do that but as it was originally reported at -3.3% then -2.7% and now -0.8% you can see that the original number was way off. This is a familiar pattern albeit not usually on this scale and does pose a systemic question. After all if you are struggling to measure something which is mostly very tangible such as a building and the associated economic output how can you measure the more intangible outputs of the services sector?

Actually there was more as the reformist wave spread across the data for 2017 as well.

While the 0.8% fall in Quarter 1 marks the largest quarterly decline since Quarter 3 (July to Sept) 2012, it is now estimated that this is the first fall since Quarter 3 2015 – earlier estimates had recorded falling output through much of 2017.

This does alter the narrative as we had been given numbers indicating a recession and at the worst hinting at a possible start of a depression, so it is hard to overstate this. Let us drill down into the detail.

Today’s new construction estimates show a much stronger growth profile throughout 2017, with upward revisions recorded in each quarter except Quarter 3

The major shift numerically is in the first half of 2017  as the first quarter goes from growth of 2.4% to 3.2% and the second from -0.4% to 0.4% . However in terms of impression and mood the last quarter may have hit the hardest as after previous doom it had the gloom of -0.1% whereas in fact it grew by 0.3%, Adding it all up gives us this.

Construction output is now estimated to have increased by 7.1% in 2017, up from 5.7%

What has changed?

Reality is of course unchanged by the way that it has been officially measured has seen these changes.

As part of the wider improvement programme for construction statistics, ONS has introduced significant improvements to the method for imputing data for businesses that have not yet returned their ONS survey responses.

Oh! That rather sends a chill down the spine as in essence we are back to fantasy numbers yet again and yet again they are in the housing sector. I am willing to give them a chance but can we really not get a grip on the actual numbers? Also I note that things in terms of actual measurement seem to be getting worse rather than better and the emphasis is mine.

Quarter 1 2018 is affected to a greater extent than Quarter 1 2017 due to the higher number of imputations in more recent periods due to lower response rates, as well as the inclusion of the bias adjustment.

In addition there has been a change to the seasonal adjustment which I take as an admittal of the problem I have highlighted before with the first quarter of the year which has been a serial underperformer. The combination of the changes has seen the beginning of the last two years revised up by 0.8% in construction terms so maybe this is some help with this issue.

Where are we now?

Let us take Kylie’s advice and Step Back in Time to 2016 about which we were told this.

The value of construction new work in Great Britain continued to rise in 2016, reaching its highest level on record at £99,266 million; driven by continued growth in the private sector.

Just for clarity this is far from all being new work as shown below.

Aside from all new work, all repair and maintenance equated to £52,223 million in 2016. This is an increase of £1,679 million compared with 2015.

There was a common factor in both new and maintenance work in 2016 in that the growth was essentially in the private-sector.

That number represented quite a boom. The nadir for the construction sector had been unsurprisingly in 2009 at the height of the credit crunch impact when output was £65.9 billion. Things got better but then there was something of a double-dip in 2012 when it fell back to £69.7 billion. As you can see from the 2016 number it was then a case off pretty much up,up and away from then.

The numbers above are in current prices rather than the usual deflated version which reminds us again that the deflator has been singing along to Lyndsey Buckingham.

I think I’m in trouble
I think I’m in trouble

Comment

Today’s update and if you like revisionism represents quite a change. Previously 2017 had seen the UK construction industry behave like one of those cartoon characters who are going so fast they do not spot the edge of a cliff but even when they go over it carry on briefly before they drop like a stone. On the road we were in a recession with flashes of a depression. Now we see that it was a year which opened very strongly but then slowed which is very different. Annual growth of 7.1% does not to say the least fit well with a depression scenario.

Now we see that we are being told the same for 2018.

Construction output continued its recent decline in the three-month on three-month series, falling by 3.4% in April 2018; the biggest fall seen in this series since August 2012.

Sound familiar? Well Kelis would offer this view.

Mght trick me once
I won’t let you trick me twice
No I won’t let you trick me twice

This really is quite a mess and regular readers will be aware it has been going on for some years. There was an attempt at an ongoing fix by “improving” the inflation measure called the deflator. Then there was an attempted “quick-fix” by switching a services company into construction. Plainly they did not work and frankly the idea of having these construction numbers as part of the monthly GDP numbers we get next week is embarassing. They are simply not up to it.

As to where we are now the Agents of the Bank of England offer a view.

Construction output remained little changed on a year ago, and contacts were cautious about the short-term outlook .

So now some 3% lower then? Also the Markit survey has its doubts.

June data revealed a solid expansion of overall
construction activity, underpinned by greater
residential work and a faster upturn in commercial
building

Indeed it was quite upbeat.

There were also positive signs regarding
the near-term outlook for growth, as signalled by the
strongest rise in new orders since May 2017 and the
largest upturn in input buying for two-and-a-half
years.

So apologies for reporting official data which has turned out not to be worth the paper it was printed on. However strategically I think it is correct to follow the official data whilst also expressing doubts about systemic issues. Next week when we get the monthly GDP number we will return to a media bubble analysing each 0.1% which needs to be looked through the lens of a sector which has just been revised by 2,5%.