Turkey sees currency driven inflation beginning to fade as the Lira rallies

A feature of the modern era is the way that we are presented crises but they then fall off the radar screen. An example of this has been Turkey which hit the media heights but has now faded away. Let us update ourselves via the view of Commerzbank on last months central bank meeting.

The Turkish central bank (CBT) left its benchmark interest rate unchanged at today’s meeting. In our view, this was a major policy mistake. CBT commented that it maintains a tight policy stance. But, when the benchmark rate is 24% and inflation is also 24%, how is this stance “tight”? The decision shows that CBT has not morphed into an active inflation-targeting central bank as some government officials have claimed. Rather CBT is simply taking the path of least resistance – since the market is forgiving at the moment, why ruffle political feathers by continuing to hike rates? Given this CB attitude, prepare for more lira volatility down the line.”  ( via FXStreet )

There is a large amount to cover here and let us start with the idea that a major mistake was made. Also that this from the CBRT is wrong.

The tight stance in monetary policy will be maintained decisively until the inflation outlook displays a significant improvement…….Accordingly, the Committee has decided to maintain the tight monetary policy stance and keep the policy rate (one week repo auction rate) constant at 24 percent.

There are many ways of measuring such a concept but an interest-rate of 24% on its own in these times makes you think, especially if we recall that it had been raised by 6.25% at the previous meeting. How many countries even have interest-rates of 6.25% right now? The real issue here to my mind is that Commerzbank  lost perspective with this by looking at inflation at the moment rather than looking ahead. If we take the view of the CBRT from back then the outlook was this.

In this respect, inflation is projected to be 23.5 percent at end-2018, and then fall to 15.2 percent at end-2019 and 9.3 percent at end-2020 before stabilizing around 5 percent in the medium term. Forecasts are based on a monetary policy framework that envisages that the tight monetary policy stance will be maintained for an extended period.

On this basis if we look ahead to when we might expect the interest-rate rise to be fully effective we should start with the end-2019 figure of 15.2%. Against that outlook then a real interest-rate of 9% is for these times eye-wateringly tight. Of course caution is required as central banks are hardly the best forecasters, But I am reminded of the template I set out on the third of May for such a situation.

However some of the moves can make things worse as for example knee-jerk interest-rate rises. Imagine you had a variable-rate mortgage in Buenos Aires! You crunch your domestic economy when the target is the overseas one.

My warning was given when interest-rates in Argentina were 30.25%, by the end of that day they were 3% higher and now the LELIQ rate is 68.1%. Sadly they are living out my warning.

Inflation now

Let us bring this up to date from the Hurriyet Daily News.

Turkish annual inflation surged to 25 percent in October, official data showed on Nov. 5, hitting its highest in 15 years……..Month-on-month, consumer prices jumped 2.67 percent, the Turkish Statistical Institute (TÜİK) data showed, higher than the 2 percent forecast in a Reuters poll. Core inflation surged 24.34 annually. October  inflation was driven by a 12.74 percent month-on-month surge in clothing and shoe prices and a 4.15 percent rise in housing prices, the data showed.

On a yearly basis, the biggest price hike was in furnishing and household equipment in October with 37.92 percent.

Initially Commerzbank may think it was right but this is only a small nudge higher in annual terms as the monthly increase more than halves. We also get a reminder that this is inflation which is essentially exchange-rate driven by the way that the core inflation rate is so similar to the headline. This is joined by which sectors are influenced by imports showing it is a bad time to overhaul your wardrobe or redecorate your home. Speaking of homes there will be central bankers reading this thinking that the rise in house prices is a triumph. The wealth effects! The wealth effects! Back in your box please.

The Turkish Lira

There have been changes here as we look to see what influence it will have on inflation trends. Here is @UmarFarooq_

Turkish is regaining some of its loses, looks set to return to pre-sanction days of August. Went from 6.3 to 5.3 versus dollar in one month. Still a ways to go compared to one year ago, when it was 3.8

Some of the move has been in relation to political changes but from our point of view that only matters if they intervene again. The fact is that a lot of inflationary pressure has faded in the move from the peak of 7.21 against the US Dollar at the height of the crisis to 5.34 as I type this.

So whilst there is still inflationary pressure in the system it has faded quite a lot and if you believe World Economics things are still out of line.

The Turkish Lira has an FX rate of 5.7 but a PPP value of 2.72 against the USD. ( PPP is Purchasing Power Parity)

Of course with inflation so high PPP may need a bit of an update.

Comment

The exchange-rate is the (F)X-Factor here but the inflation trend is now turning although due to base effects the headline may not respond for a couple of months or so. In some ways like so many things these days events have sped up and it has been like a crisis on speed. Here is the latest official trade data via Google Translate.

Our foreign trade deficit decreased by 92.8% to 529 million dollars in October compared to the same period of the previous year……..October, our exports increased by 13.1% compared to the same month of the previous year and reached 15 billion 732 million  dollars. Our exports increased to the highest level of all time and 
broke the record of the Republican history. 
In October, our imports decreased by 23.5 percent to 16 billion 261 million dollars.

There is an intriguing hint that the Ottoman export performance may have been quite something but we learn several things. Turkey seems to have a very price competitive economy as we see both exports and imports responding in size and in short order. We also have a large slow down and indeed recessionary hint from the size of the fall in imports. Next we admire their ability to have the October figures available on the 1st of November. Also if we look at the year so far you might be surprised at one of the names below.

In January-October period, exports to Germany increased 8.7% to $ 13.5 billion, while exports to the UK increased 17.5% to $ 9.3 billion.

Also Turkey seems to have avoided the automotive slow down which today has spread to Ford suppliers in Valencia.

Thus looking ahead the inflationary episode is now fading as ironically another consequence of the lower exchange-rate which is trade looks to be moving into surplus. For once the real economy is moving as quickly as the financial one. However one aspect that we do not know yet is the size of the slow down or recession partly because a sign of it – lower imports – flatters GDP via trade and often more quickly than the other numbers we receive show the actual cause of it. If you want a Commerzbank style Turkish economy imagine all of the above with another interest-rate increase……

 

 

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Slowing growth and higher inflation is a toxic combination for the Euro area

Sometimes life comes at you fast and the last week will have come at the European Central Bank with an element of ground rush. It was only on the 30th of last month we were looking at this development.

Seasonally adjusted GDP rose by 0.2% in the euro area (EA19) and by 0.3% in the EU28 during the third quarter
of 2018,

Which brought to mind this description from the preceding ECB press conference.

Incoming information, while somewhat weaker than expected, remains overall consistent with an ongoing broad-based expansion of the euro area economy and gradually rising inflation pressures. The underlying strength of the economy continues to support our confidence ……..

There was an issue with broad-based as the Italian economy registered no growth at all and the idea of “underlying strength” did not really go with quarterly growth of a mere 0.2%. But of course one should not place too much emphasis on one GDP reading.

Business Surveys

However this morning has brought us to this from the Markit Purchasing Managers Indices.

Eurozone growth weakens to lowest in over two years

The immediate thought is, lower than 0.2% quarterly growth? Let us look deeper.

Both the manufacturing and service sectors
recorded slower rates of growth during October.
Following on from September, manufacturing
registered the weaker increase in output, posting its
lowest growth in nearly four years. Despite
remaining at a solid level, the service sector saw its
slowest expansion since the start of 2017.

There is a certain sense of irony in the reported slow down being broad-based. The issue with manufacturing is no doubt driven by the automotive sector which has the trade issues to add to the ongoing diesel scandal. That slow down has spread to the services sector. Geographically we see that Germany is in a soft patch and I will come to Italy in a moment. This also stuck out.

France and Spain, in contrast, have
seen more resilient business conditions, though both
are registering much slower growth than earlier in
the year.

Fair enough for Spain as we looked at only last Wednesday, but France had a bad start of 2018 so that is something of a confused message.

Italy

The situation continues to deteriorate here.

Italy’s service sector suffered a drop in
performance during October, with business activity
falling for the first time in over two years. This was
partly due to the weakest expansion in new
business in 44 months.

Although I am not so sure about the perspective?

After a period of solid growth in activity

The reality is that fears of a “triple-dip” for Italy will only be raised by this. Also the issue over the proposed Budget has not gone away as this from @LiveSquawk makes clear.

EU’s Moscovici: Sanctions Can Be Applied If There Is No Compromise On Italy Budget -Policy In Italy That Entails Higher Public Debt Is Not Favourable To Growth.

Commissioner Moscovici is however being trolled by people pointing out that France broke the Euro area fiscal rules when he was finance minister. He ran deficits of 4.8% of GDP, followed by 4.1% and 3,9% which were above the 3% limit and in one instance double what Italy plans. This is of course awkward but not probably for Pierre as his other worldly pronouncements on Greece have indicated a somewhat loose relationship with reality.

Actually the Italian situation has thrown up another challenge to the Euro area orthodoxy.

 

Regular readers will be aware I am no fan of simply projecting the pre credit crunch period forwards but I do think that the Brad Setser point that Italy is nowhere near regaining where it was is relevant. If you think that such a situation is “above potential” then you have a fair bit of explaining to do. Some of this is unfair on the ECB in that it has to look at the whole Euro area as if it was a sovereign nation it would be a situation crying out for some regional policy transfers. Like say from Germany with its fiscal surplus. Anyway I will leave that there and move on.

Ch-ch-changes

This did the rounds on Friday afternoon.

ECB Said To Be Considering Fresh TLTRO – MNI ( @LiveSquawk )

Targeted Long-Term Refinancing Operation in case you were wondering and as to new targets well Reuters gives a nod and a wink.

Euro zone banks took up 739 billion euros at the ECB’s latest round of TLTRO, in March 2017. Of this, so far 14.6 has been repaid, with the rest falling due in 2020 and 2021.

This may prove painful in countries such as Italy, where banks have to repay some 250 billion euros worth of TLTRO money amid rising market rates and an unfavorable political situation.

So the targets of a type of maturity extension would be 2020/1 in terms of time and Italy in terms of geography. More generally we have the issue of oiling the banking wheels. Oh and whilst the Italian amount is rather similar to some measures of how much they have put into Italian bonds there is no direct link in my view.

Housing market

If you give a bank cheap liquidity then this morning’s ECB Publication makes it clear where it tends to go.

The upturn in the euro area housing market is in its fourth year. Measured in terms of annual growth rates, house prices started to pick up at the end of 2013, while the pick-up in residential investment started somewhat later, at the end of 2014. The latest available data (first quarter of 2018) indicate annual growth rates above their long-term averages, for both indicators.

How has this been driven?

 In addition, financing conditions remained favourable, as reflected in composite bank lending rates for house purchase that have declined by more than 130 basis points since 2013 and by easing credit standards. This has given rise to a higher demand for loans for house purchase and a substantial strengthening in new mortgage lending.

Indeed even QE gets a slap on the back.

Private and institutional investors, both domestically and globally based, searching for yield may thus have contributed to additional housing demand.

It is at least something the central planners can influence and watch.

Housing market developments affect investment and consumption decisions and can thus be a major determinant of the broader business cycle. They also have wealth and collateral effects and can thus play a key role in shaping the broader financial cycle. The housing market’s pivotal role in the business and financial cycles makes it a regular subject of monitoring and assessment for monetary policy and financial stability considerations.

 

Comment

The ECB now finds itself between something of a rock and a hard place. If we start with the rock then the question is whether the shift is just a slow down for a bit or something more? The latter would have the ECB shifting very uncomfortably around its board room table as it would be facing it with interest-rates already negative and QE just stopping in flow terms. Let me now bring in the hard place from today’s Markit PMI survey.

Meanwhile, prices data signalled another sharp
increase in company operating expenses. Rising
energy and fuel prices were widely reported to have
underpinned inflation, whilst there was some
evidence of higher labour costs (especially in
Germany).

Whilst there may be some hopeful news for wages tucked in there the main message is of inflationary pressure. Of course central bankers like to ignore energy costs but the ECB will be hoping for further falls in the oil price, otherwise it might find itself in rather a cleft stick. It is easy to forget that its “pumping it up” stage was oiled by falling energy prices.

Yet an alternative would be fiscal policy which hits the problem of it being a bad idea according to the Euro area’s pronouncements on Italy.

 

The Bank of Japan reminds us it is all about the banks

It is time for another part of our discovering Japan theme as we travel to Nagoya, where Governor Kuroda of the Bank of Japan was talking earlier today. Let us open with some good news.

The real GDP has been on an increasing trend, albeit with fluctuations, and the output gap — which shows the utilization of capital and labor — widened within positive territory from late 2016, for seven consecutive quarters through the April-June quarter of 2018 . Under such circumstances, the duration of the current
economic recovery phase, which began in December 2012, is likely to have reached 69 consecutive months this August. If this recovery continues, its duration in January next year will exceed the longest post-war recovery phase of 73 months.

So reasons to be cheerful part one, and below we get part two, but as you can see part three is a disappointment.

In the Outlook Report released last week, the real GDP growth rate for fiscal 2018 is projected to be 1.4 percent, and this is clearly above Japan’s potential growth rate, which is estimated to be in the range of 0.5-1.0 percent. As for fiscal 2019 and 2020, the real GDP growth rates are both projected to be 0.8 percent.

Economics gets called the dismal science but at the moment central bankers are trying to under perform that with the UK having a growth “speed limit” of 1.5% and the ECB saying something similar. The Bank of Japan is even more downbeat which is partly related to the demographics of both an ageing and declining population. This is partly because the previous foundation of their Ivory Towers called the output gap has failed so badly in the credit crunch era but the more eagle-eyed amongst you will have noted a reference to it above. How is that going?

The Output Gap

It is “boom,boom,boom” according to the Black-Eyed Peas and the emphasis is mine.

In the labor market, the active job openings-to-applicants ratio has been at a high level that exceeds the peak of the bubble period, and the unemployment rate has declined to around 2.5 percent. The number of employees has registered a year-on-year rate of increase of around 2 percent, and total cash earnings per employee have risen moderately but steadily.

As you can see the Japanese output gap is already struggling as we are apparently beyond bubbilicious in terms of demand but wage growth is only moderate. What about inflation?

The year-on-year rate of change in the consumer price index (CPI) has continued to show relatively weak developments compared to the economic expansion and the labor market tightening, and that excluding fresh food
and energy prices has been at around 0.5 percent.

In fact after deploying so much effort Governor Kuroda abandons his favourite measure for a higher one.

The year-on-year rate of increase in the CPI (all items less fresh food) has continued to accelerate, albeit with fluctuations. Although there is still a long way to go to achieve the price stability target of 2 percent, the year-on-year rate of change recently has risen to around 1 percent, which is about half the target .

Actually the state of play here is as  strong of a critique of the original claims about QE as we have as according to the central bankers it would raise inflation. Whilst it has created asset price inflation there has been a lack of consumer inflation except in places where currencies have fallen, and in Japan not even much of that. Indeed whilst I would welcome the development below Governor Kuroda will be crying into his glass of sake.

What lies behind this likely is that people’s tolerance of price rises has decreased.

 

Monetary Policy

We have found something which has given the Bank of Japan food for thought. Output gap failure? Rigging so many markets? Impact on individual Japanese? Of course not! It is worries about the banks.

The Bank fully recognizes that, by continuing such monetary easing, financial institutions’
strength will be cumulatively affected by low profitability, mainly through a decrease in
their lending margins, and that it could have an impact on financial system stability as well
as the functioning of financial intermediation.

This is a little mind-boggling as we note that policies which were instituted to help the banks are now being described as hurting them. This is because the banks did not have to change and pretty much carried on as before knowing that they are too big to be allowed to fail. Also I though central banks and regulators were on the case these days but apparently not.

That is, if financial institutions become more active in risk taking to secure profits amid the low interest rate environment and severe competition continuing, the financial system could destabilize should large negative shocks actually occur in the future.

This if we think about it is quite a confession of failure. We have already looked at how economic policy has been directed to suit the banks and in Japan’ case that has continued for nearly thirty years now. Next we seem to have a loss of faith in the new regulations which were supposed to fix this. Finally we have something of a confession that it could all happen again!

If we looked wider we do see some context for example in the way that the European bank stress tests were widely ignored over the weekend. I think that those interested have already voted via bank share prices in 2018, but we do see something rather familiar via @jeuasommenulle.

While everybody is having fun bashing EU banks and pointing out that market volatility on Italian govies will hurt bank capital… the US quietly removes rules that make market volatility impact capital in the 1st place 🤪

Yep back to mark to model rather than mark to market. Just like last time in fact, what could go wrong?

You and I get told what to do but the banks get a different message.

encourage them to take concrete actions as necessary.

The Tokyo Whale

The Bank of Japan has been living up to its reputation and moniker.

The Bank of Japan bought a monthly record of 870 billion yen ($7.68 billion) in exchange-traded funds in October, apparently aiming to support equities as investors turned bearish amid sell-offs in U.S. shares. ( Nikkei Asian Review)

Back on the 23rd of October I pointed about I was bemused by the Japanese owned Financial Times report on a “stealth taper”.

The central bank has become more flexible on its annual ETF purchase quota of around 6 trillion yen — a mark it will likely exceed by year-end at the current pace. ( NAR)

Another Japanese style development comes from this.

 But its large-scale purchases under Gov. Haruhiko Kuroda’s massive monetary easing program were criticized for propping up share prices for a limited range of companies and distorting the market.

To which the classically Japanese response is of course to rig even more of them.

This prompted the BOJ to decide this July to spread out buying more widely.

 

Comment

The comments about an interest-rate hike from Japan are mostly driven by this from today’s speech.

Japan’s economic activity and prices are no longer in a situation where decisively implementing a large-scale policy to overcome deflation was judged as the most appropriate policy conduct, as was the case before.

The problem with such rhetoric comes from the section about as we note that Bank of Japan bought a record amount of equities via ETFs in October. Also this summer it give a specific pronouncement on this subject which was repeated today.

Specifically, the Bank publicly made clear to “maintain the current extremely low levels of short- and long-term interest rates for an extended period of time, taking into account uncertainties regarding economic activity and prices including the effects of the consumption tax hike scheduled to take place in October 2019.”

Indeed he even hints at my “To Infinity! And Beyond!” theme.

it has become necessary to persistently continue with powerful monetary easing while considering both the positive effects and side effects if monetary policy in a balanced manner.

So they will continue the side effects but carry on regardless unless of course the side effects become an even bigger problem for the banks. The status quo continues to play out.

Whatever you want
Whatever you like
Whatever you say
You pay your money
You take your choice
Whatever you need
Whatever you use
Whatever you win
Whatever you lose.

Podcasts

I plan to begin a new series of weekly podcasts this Friday.If anyone has any thoughts or suggestions please let me know.

 

 

 

What is the economic impact of tighter US monetary policy?

It is time for us to look West again and see what is happening in the new world and this week has brought a curious development. Ordinarily it is central bankers telling us about wealth effects and then trying to bathe in the implications of their own policies but in the US right now there is an alternative.

Stock Market up more than 400 points yesterday. Today looks to be another good one. Companies earnings are great!

That is from the Twitter feed of @realDonaldTrump and continues a theme where this seems if numbers of tweets on the subject are any guide to be his favourite economic indicator. Indeed on Tuesday he was tweeting other people’s research on the matter.

“If the Fed backs off and starts talking a little more Dovish, I think we’re going to be right back to our 2,800 to 2,900 target range that we’ve had for the S&P 500.” Scott Wren, Wells Fargo.

There is a danger in favouring one company over another when you are US President especially with the recent record of Wells Fargo. But the Donald is clearly a fan of higher equity markets, especially on his watch, and was noticeably quiet when we saw falls earlier this month. This does link in a way with the suggestions of a trade deal with China that boosted equity markets late on yesterday, although with the People’s Bank of China hinting at more easing the picture is complex.

The US Federal Reserve

Unless Standard and Poorski is correct below then the Fed is currently out of the wealth effects game.

FEDERAL RESERVE ANNOUNCES IT WILL BEGIN PURCHASES OF APPLE IPHONES AND IWATCHES AT A PACE OF $1 BILLION PER MONTH

One cautionary note is that humour in this area has a habit of becoming reality later as someone in authority might see this as a good idea. Also even the many central banking apologists may struggle with the US Fed buying Apple shares from the Swiss National Bank.

The current reality is rather different because as we stand QE ( Quantitative Easing) has morphed into QT  where the T is for Tightening. For example yesterday’s weekly update told us that its balance sheet  has shrunk by US $299 billion dollars to  US $4.1 trillion and the reduction was mostly due to the sale of US Treasury Bonds ( US $173 billion) followed by US $101 billion of Mortgage-Backed Securities. Over the next year we will expect to see around double the rate of change if it continues at its new raised pace.

 Effective in October, the Committee directs the Desk to roll over at auction the amount of principal payments from the Federal Reserve’s holdings of Treasury securities maturing during each calendar month that exceeds $30 billion, and to reinvest in agency mortgage-backed securities the amount of principal payments from the Federal Reserve’s holdings of agency debt and agency mortgage-backed securities received during each calendar month that exceeds $20 billion. ( Federal Reserve ).

Consequences

From the Wall Street Journal on Monday.

After hovering around 2.3% for most of the spring and summer, the three-month London interbank offered rate, or Libor, has been climbing since the middle of September, settling at 2.53% on Monday, its highest level since November 2008.

I am sure most of you are thinking about the rises in US official interest-rates and the shrinking balance sheet as well as the year-end demand for US Dollars I looked at back on the 25th of September . Well your Easter Egg hunt looks likely to be much more fruitful than the one at the WSJ.

Analysts don’t fully know why the spread has moved the way it has in recent months.

If we ignore the why and move onto what happens next? Lisa Abramowich of Bloomberg is on the case.

3-month U.S. Libor rates have surged to a new post-crisis high, of 2.54%, more than double where it was last year. This is important because so much debt, including leveraged loans, are pegged to this rate. Companies will find themselves paying more interest on their debt…

As to how much debt I note Reuters have been estimating it at US $300 trillion which even if we take with a pinch of salt puts the Federal Reserve balance sheet into perspective. Oh and remember the booming leveraged loan market that had gone to about US $1.1 trillion if I recall correctly? Well Lisa has been on the case there too.

Short interest in the biggest leveraged-loan ETF has risen to a record high.

So in areas which bankers would describe as being “innovative” we see that Glenn Frey is back in fashion.

The heat is on, the heat is on, the heat is on
Oh it’s on the street, the heat is on

We can add that to the troubles we have seen in 2018 in emerging markets as the double combination of higher US interest-rates and a stronger Dollar have turned up the heat there too.

The US Dollar

Firstly we need to establish that whilst talk of challenges abounds the US Dollar remains the world’s reserve currency. So a rise impacts on other countries inflation via its role in the pricing of most commodity contracts and more helpfully may make their economies more competitive. But if we are looking for signs of trouble it hits places which have borrowed in US Dollars and that has been on the rise in recent times. I have reported before on the Bank for International Settlements or BIS data on this and here is the September update.

The US dollar has become even more dominant as the prime foreign currency for international borrowing. Dollar credit to the non-bank sector outside the US rose from 9.5% of global GDP at end-2007 to 14% in Q1 2018…….The growth in dollar borrowing by EMEs or  emerging market economies  has been especially strong, but dollar exposures vary substantially both across countries and in terms of sectoral composition.

An example of this has been Argentina which is caught in a trap of its own making as for example a devaluation would make its US Dollar debts more expensive. Or if we look at India it seems its shadow banks have caught something of a cold in this area.

India Is Said to Expect Shadow Banking Default Amid Cash Squeeze- Bloomberg Non-bank financiers and mortgage lenders have 2.7 trillion rupees ($37 billion) of debt maturing in the next five months, immediately ( @SunChartist )

 

Comment

So far we have mostly looked at the international impact of US monetary policy so let us now look more internally. If we look at interest-rates then the 30 year fixed rate mortgage has risen to 4.83% having started the year at 4% and which takes it back to early 2011. This reflects rising Treasury Bond yields which will have to be paid on ever more debt with official suggestions saying US $1.34 trillion will need to be issued in the next year.

Against that the economy continues to be in a boom. We will find out more later as for example will wages growth reach 3%? But economic growth has been above that as the last 6 months suggests around 3.8% in annual terms assuming it continues. So for now it looks fine but then it always does at times like this as for example a slow down and rising bond yields could in my opinion switch things from QT to QE4 quite quickly. After all worries about US stock market falls  started with it still quite near to what are all time highs.

Also if you want some more numbers bingo the BIS provided some more for Halloween.

The notional value of outstanding OTC derivatives increased from $532 trillion at end-2017 to $595 trillion at end-June 2018. This increase in activity was driven largely by US dollar interest rate contracts, especially short-term contracts.

 

 

 

 

Decision day and the Inflation Report arrive at the Bank of England

Today brings us to what is called Super Thursday as not only does the Bank of England announce its policy decision but we get the latest Inflation Report. Actually the Bank of England has already voted in a change decided upon by Mark Carney so that the official Minutes can be released with the decision. The problem with that comes from the issue that there is plenty of time for any decision to leak. That is on my mind this morning because markets have seen moves and activity.

Sterling extended its gains on Thursday……….

The pound jumped 0.9 percent to as high as $1.2881  sending the currency to a five-day high.

Against the euro, it rose to 88.155 pence per euro  before settling up half a percent at 88.21 pence. The gains follow a rise for sterling on Wednesday.

Now let me switch to interest-rate markets.

Short Sterling being hit in monster clips this morning 20k plus sells. ( @stewhampton)

For those unaware Short Sterling is the future contract for UK interest-rates and is somewhere where I worked back in the day in its options market. The confusing name comes I guess because they were trying to describe short-term interest-rates for sterling and it all got shortened. Anyway @stewhampton has continued.

Continuation of yesterday’s price action, all sells. Smacks of a surprise BOE vote on the hawkish side to me.

Looking at the actual movements we see that the contract for September 2019 was some 0.05 lower at the worst. For comparison an actual Bank of England move is usually 0.25%.

The Shadow MPC

The Times newspaper runs a Shadow Monetary Policy Committee so let us take a look at what it decided.

Sir John Gieve, Charles Goodhart and Andrew Sentance, all former Bank ratesetters, called on the monetary policy committee to increase rates after the £103 billion of fiscal loosening over six years unveiled in Monday’s budget.

Sir Steve Robson, a former Treasury mandarin, Geoff Dicks, a former member of the Office for Budget Responsibility, and Bronwyn Curtis, a non-executive member of the OBR, agreed. All six also cited the tight labour market, with unemployment at a 43-year low of 4 per cent, and rising wages.

On a personal note it is nice to see that Charles Goodhart is still active as he wrote a fair few of the books I read on UK monetary policy as an undergraduate. Also not many people call for a rise in interest-rates at their own semi-retirement party as Andrew Sentance did on Tuesday!

Before I move on I would also like to note that some seem to be catching up with a suggestion I first made in City-AM a bit over five years ago.

Of those who voted to hold rates, Rupert Pennant-Rea, a former deputy governor at the Bank, said that the MPC should start unwinding the £435 billion quantitative easing programme — signalling a bias on The Times panel for tighter policy.Ms Curtis and Sir Steve also called for QE to be wound down.

Decision Day

These are always rather fraught when there is the remote possibility that something may happen. Back in the day that usually meant an interest-rate change and moves were regularly larger which we returned to for a while with the cuts post credit crunch. These days it can also reflect a change in the rhetoric of the Bank of England as well as its Forward Guidance. That is of course if anyone takes much notice of the Forward Guidance which has been wrong more often than it has been right.

But you can have some humour as this from @RANSquawk shows.

Lloyds on – Prices have reversed from the 1.2660 range lows, back through 1.2850 resistance – This, along with momentum back in bull mode, supports our view for a move back towards the top of the 1.2660-1.3320 range

Yes now it has gone up the only way is up and you can guess which song has been linked to on social media.

Doubts

If we now look at the other side of the coin there have been other factors at play over the past 24 hours. First there was the announcement by Brexit Secretary Dominic Raab of progress followed this morning by this.

The UK has struck a deal with the EU on post-Brexit financial services, according to unconfirmed reports.

The Times newspaper said London had agreed in talks with Brussels to give UK financial services firms continued access to the bloc. ( BBC)

On this road we see reasons to be cheerful for the UK Pound £ and also a possible explanation for the lower short sterling. After all a Brexit deal and a likely stronger Pound £ might mean the Bank of England might raise interest-rates again at some future date. Of course we are building up something of a Fleetwood Mac style chain here as we are relying on the words of journalists about the acts of politicians influencing an unreliable boyfriend. Oh well.

House Prices

Having gone to so much effort to raise house prices for which during the tenure of Governor Carney the only way has indeed been up this will worry the Bank of England.

October saw a slowdown in annual house price growth to
1.6% from 2.0% in September. As a result, annual house
price growth moved below the narrow range of c2-3%
prevailing over the previous 12 months. Prices flat month-on-month after accounting for seasonal effects. ( Nationwide)

Reuters have implictly confirmed my point about Mark Carney’s tenure.

That was the weakest increase since May 2013, before Britain’s housing market started to throw off the after-effects of the global financial crisis.

Manufacturing

There was also a downbeat survey from Markit released at 9:30 am.

The seasonally adjusted IHS Markit/CIPS Purchasing
Managers’ Index® (PMI®) fell to a 27-month low of 51.1,
down from September’s revised reading of 53.6 (originally
published as 53.8).

Of course that 27-month low was when they got things really rather wrong after the EU Leave vote and perhaps most significantly helped trigger a Bank of England rate cut. As to factors here I think it is being driven by the automotive sector and the worries about trade generally. In some ways this measure has in fact been a sort of optimism/pessimism reading on views about Brexit.

One slightly odd feature of the report was this as we recall that a number above 50 is supposed to be an expansion and  after all they do measure down to 0.1.

At current levels, the survey indicates that factory output could contract in the fourth quarter, dropping by 0.2%

 

Comment

As you can see there is much for the Bank of England to consider this morning as they advance from a full English ( Scottish & Welsh versions are available) breakfast to morning coffee and biscuits. After all having voted last night there is not much to do until the press conference at 12:30 and less than half of them have to attend that. But as to a rate rise today I think it is time for some Oasis.

Definitely Maybe

Whilst some might say it is on the cards I think that if we add in the weak monetary data we have been watching in 2018 it would be an odd decision. After all it is promising to raise interest-rates like this.

As little by little we gave you everything you ever dreamed of
Little by little the wheels of your life have slowly fallen off
Little by little you have to give it all in all your life
And all the time I just ask myself why you’re really here?

But of course they have made odd decisions before………

Me on Core Finance TV

 

 

The economy of Spain provides some welcome good news for the ECB

A rush of economic data over the past 24 hours allows us as to follow Sylvia’s “I’m off to sunny Spain”. This gives us another perspective as we switch from the third largest economy ( Italy) yesterday where economic growth has ground to a halt again whereas in the fourth largest it is doing this according to the statistics office.

The Spanish GDP registers a growth of 0.6% in the third quarter of 2018 to the previous quarter in terms of volume. This rate is similar to that registered in the second quarter of the year. The annual growth of GDP stands at 2.5%, a rate similar to that of the quarter preceding.

As you can see two countries which were part of the Euro area crisis are now seeing very different circumstances. At the moment Spain is a case of steady as she goes because quarterly growth has been 0.6% for each of 2018’s quarters so far.

If we back for some perspective we are reminded of the trouble that hit Spain. It did begin to recover from the initial impact of the credit crunch but then the Euro area crisis arrived at economic growth headed into negative territory in 2011-13 peaking at a quarterly decline of 1% at the end of 2013. This was followed by improvements in 2014 such that quarterly growth reached 1.2% in the first quarter of 2015. Since then quarterly growth has been strong for these times varying between the current 0.6% and the 0.9% of the opening of 2017.

So we see that Spain saw the hard times with annual economic growth falling to -3.5% late in 2012 but can rebound as illustrated by the 4.1% of late 2015. Those who have followed my updates on Greece will recall that I often refer to the fact that after its precipitous and sustained decline it should have had in terms of economic recovery a “V-shaped” rally in economic growth. Well Spain gives an example of that whereas Greece has not. If we switch to yesterday’s theme Spain is a much happier case for the “broad-based economic expansion” claims of Mario Draghi and the ECB because whilst economic growth has slowed it is still good and is pulling the Euro area average higher.

Inflation

If we continue with the mandate of the ECB we were told this by Spain statistics yesterday.

The annual change in the flash estimate of the CPI stands at 2.3% in October, the same registered in September
The annual rate of the flash estimate of the HICP is 2.3%.

So inflation is over target and has been picking up in 2018 with the current mix described below.

In this behavior, the decrease in the prices of electricity stand out, compared to the increase
registered in 2017, and the rise in gas prices.

From the point of the ECB if we look at inflation above target and the economic growth rate and point out that it is withdrawing the stimulus provided by monthly QE. However the water gets somewhat choppier if we look at another inflation measure.

The annual variation rate of the Housing Price Index (HPI) in the second quarter of 2018 increased six tenths, standing at 6.8%. By type of housing, the variation rate of new housing stood at 5.7%, remaining unchanged
as compared with the previous quarter. On the other hand, the annual variation of second-hand housing increased by seven tenths, up to 7.0%.

The first impact is the rate of annual change and this is more awkward for the ECB as it is hard not to think of the appropriateness of its -0.4% deposit rate for Spain. Its impact on mortgage rates especially when combined with the other monetary easing has put Spain on a road which led to “trouble,trouble,trouble” last time around. For those of you wondering what Spanish mortgage rates are here via Google Translate is this morning’s update.

In mortgages on homes, the average interest rate is 2.62% (4.3%) lower than August 2017) and the average term of 24 years. 59.8% of mortgages on housing is made at a variable rate and 40.2% at a fixed rate. Mortgages at a fixed rate they experience an increase of 3.9% in the annual rate. The average interest rate at the beginning is 2.43% for mortgages on variable-rate homes. (with a decrease of 5.5%) and 2.99% for fixed rate (3.1% lower).

As fixed-interest mortgages are only around half a percent per annum higher the number taking variable-rate ones seems high. However I have to admit my view is that Mario Draghi has no intention of raising interest-rates on his watch and the overall Euro area GDP news from yesterday backs that up. Of course we are switching from fact to opinion there and as a strategy I would suggest that any narrowing of the gap between the two types gives an opportunity to lock in what are in historical terms very low levels.

Labour Market

The economic growth phase that Spain has seen means we have good news here.

The number of employed increases by 183,900 people in the third quarter of 2018 compared to the previous quarter (0.95%) and stands at 19,528,000. In terms seasonally adjusted, the quarterly variation is 0.48%. Employment has grown by 478,800 people (2.51%) in the last 12 months.

Higher employment does not necessarily mean lower unemployment but fortunately in this instance it does.

The number of unemployed persons decreased this quarter by 164,100 people (-4.70%) and it stands at
3,326,000. In seasonally adjusted terms, the quarterly variation is -2.29%. In recent months unemployment has decreased by 405,800 people (-10.87%).  The unemployment rate stands at 14.55%, which is 73 hundredths less than in the previous quarter. In the last year this rate has fallen by 1.83 points.

But whilst the news is indeed better we get some perspective by the fact that the unemployment rate at 14.55% is not only still in double-digits but is well over that Euro area average. Indeed it is more than 10% higher than in the UK or US and around 12% higher than Japan.

As to the youth employment situation the good news is that the number of 16-19 year olds employed rose by nearly 12% to 165.500 over the past year. However some 137,800 are recorded as unemployed.

Comment

The Spanish economy has provided plenty of good news for the Euro area in the past few years, but that does not mean that there are no concerns. We have already looked at the issue of house prices and the past fears which arise from their development. Also for those who consider this to be because of the “internal competitiveness” model will be worried by this described by El Pais.

External demand, which helped in the worst moments to pull the Spanish economy, subtracted 0.5 points per year from GDP. And in the quarter, exports fell by 1.8%, entering for the first time negative rates since the third quarter of 2013. While it is true that imports also decreased by 1.2%.

Some of this no doubt relates to the automotive sector which for those who have not followed developments has been a success for Spain albeit that some of the gains have come from cannibalising production from elsewhere in the Euro area. An example of a troubled 2018 has been provided by Ecomotor today by revealing that VW Navarra has cut its production target by 10,000 cars for 2018. Oh and I nearly forgot to mention the Spanish banks especially the smaller ones hit by the court ruling on Stamp Duty.

But returning to the good news the economic growth means that Spain has seen the debt to GDP ratio that had nudged above 100% drop back to 98.3%. That is the road to a ten-year bond yield less than half that of Italy at 1.56% in spite of the fact that the planned fiscal deficit at 2.7% is higher.

The Euro area GDP slow down puts the ECB in a pickle

Some days several economic themes come at us at once and this morning is an example of that. Only yesterday I was pointing out the problems of establishment Ivory Tower economic forecasting via the continued failures of the Office for Budget Responsibility or OBR. For many in the media it was a case of carry on regardless in spite of the fact that it was a Budget essentially based on past OBR errors. Perhaps they did not realise as they gave credibility to the GDP forecasts that they were based on the new establishment Ivory Tower theory that the economy cannot grow at an annual rate of more than 1.5%. A few decimal points were added and taken away at random to give a veneer of ch-ch-changes but that is the basis of it. Let me give you an example of this sort of Ivory Tower thinking from the OBR Report yesterday and the emphasis is mine.

In March 2017 and then again in November 2017, we reduced our estimate of the equilibrium rate of unemployment, in both cases reflecting the fact that unemployment had fallen below our previous estimate with little apparent impact on wage growth.

Actually those who recall the Bank of England using its Forward Guidance, which of course turned out to be anything but, pointing us towards a 7% unemployment rate will understand the intellectual bankruptcy of all this. But on this “output gap” rubbish goes mostly unchallenged.

Also what is not explained is why the future is so dim after so many extraordinary monetary policies that we keep being told were to boost growth.

The Italian Job

Those themes come to mind as yet another one has been demonstrated yet again by Italy this morning. From its statistics office.

In the third quarter of 2018 the seasonally and calendar adjusted, chained volume estimate of Gross Domestic Product (GDP) was unchanged with respect to the previous quarter and increased by 0.8 per cent over the same quarter of previous year.

This brings us back sadly to the “Girlfriend in a coma theme” where Italy cannot grow at more than 1% per annum on any sustained basis.

The carry-over annual GDP growth for 2018 is equal to 1.0%.

There was even a sort of a back to the future element if you take a look at the breakdown.

The quarter on quarter change is the result of an increase of value added in agriculture, forestry and
fishing and in services and a decrease in industry. From the demand side, there is a null contribution by
both the domestic component (gross of change in inventories) and the net export component.

If we now switch to forecasting it was only last Thursday lunchtime that Mario Draghi told us this at the ECB press conference.

Incoming information, while somewhat weaker than expected, remains overall consistent with an ongoing broad-based expansion of the euro area economy and gradually rising inflation pressures. The underlying strength of the economy continues to support our confidence that the sustained convergence of inflation to our aim will proceed……remains overall consistent with our baseline scenario of an ongoing broad-based economic expansion, supported by domestic demand and continued improvements in the labour market.

Just like in the song New York, New York it was apparently so good he told us twice. As to looking at Italy specifically we got a sort of official denial.

On Italy, you have to remember that Italy is a fiscal discussion, so there wasn’t much discussion about Italy.

An interesting reply as we note that no doubt they did have an estimate of the number and without the third-largest economy can you call an expansion broad-based? Actually the latest Eurostat release challenges that statement much more generally.

Seasonally adjusted GDP rose by 0.2% in the euro area (EA19) and by 0.3% in the EU28 during the third quarter
of 2018…. In the second quarter of 2018, GDP had grown by 0.4% in the euro area and by 0.5% the EU28. Compared with the same quarter of the previous year, seasonally adjusted GDP rose by 1.7% in the euro area and
by 1.9% in the EU28 in the third quarter of 2018, after +2.2% and +2.1% respectively in the previous quarter.

As you can see the annual economic growth rate in the Euro area has been falling throughout 2018 as we recall that in the last quarter of 2017 it was 2.7% as opposed to the current 1.7%. This poses a question for a central bank doing this.

Regarding non-standard monetary policy measures, we will continue to make net purchases under the asset purchase programme (APP) at the new monthly pace of €15 billion until the end of December 2018. We anticipate that, subject to incoming data confirming our medium-term inflation outlook, we will then end net purchases.

The simple fact is that if we allow for monetary lags then the reduction in monthly asset purchases from the peak of 80 billion Euros a month has been followed by a fall in economic growth. If we switch to the quarterly numbers we see a fall from 0.7% to 0.2% and there must be further worries for the last quarter of 2018.

Eurozone GDP growth continues to ease in line with PMI data, according to initial Q3 estimate. Flash October data signals further loss of momentum at the start of Q4. ( Markit PMI)

Back to Italy

Returning to an Italian theme there are genuine concerns of further trouble combined with some perspective from @fwred on twitter.

Italian GDP misses: stagnation in Q3 (+0.02% QoQ) and still 5% below pre-crisis levels. Material risk of a ‘triple dip’. Economic reality comes at you fast.

Let us hope that Italy has the same luck with a “triple dip” that the UK had back in 2012. But the real perspective and indeed measure of this part of the Euro area crisis is the fact that the economy is still some 5% smaller than a decade ago. No wonder voters wanted change.

A catch comes if we switch back to looking at forecasts again as we note that the new government has veered between optimistic ( 1.5%) on economic growth and what Cypress Hill described as “Insane in the membrane” with 3%. Politicians like a 3% growth rate as for example it was used by both sides in the UK 2010 general election. Why? It makes their plans look affordable and if (when) it goes wrong they simply sing along with Temptation(s).

But it was Just my imagination,
once again runnin’ away with me.
It was just my imagination runnin’ away with me.

If it goes really badly then they deploy Lily Allen.

It’s Not Me, It’s You

Meanwhile the tweet below describes the consequences.

Comment

There is a lot to consider here so let me start with the ECB. It now staring down a future like the one I have feared and written about for some time where the Euro area economy behaves in a junkie economics manner. Once the honey is withdrawn so is the growth. As ever that is not the only factor in play as economics does not have any test tubes but governing council members must be thinking this as they close their eyes at night. Well the brighter ones anyway.

What does it do then? It may still end monthly QE but that is mostly because it has been running out of German bonds to buy. My view that Mario Draghi intends to leave without ever raising interest-rates gets another tick. Maybe we will see the so far mythical OMTs or Outright Monetary Transactions deployed and Italy would be an obvious test case.

Also let me offer you one more morsel as food for thought. We keep being told about the OBR and ECB being “independent”. Have you spotted how “independent” bodies so regularly do the will of the establishment and sometimes manage to do more than the establishment itself could get away with?