What can the UK do in the face of an economic depression?

We are facing quite a crisis and let us hope that we will end up looking at a period that might have been described by the famous Dickens quote from A Tale of Two Cities.

It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter of despair, we had everything before us, we had nothing before us.

The reason I put it like that is because we have examples of the worst of times from food hoarders to examples of an extreme economic slowdown. On a personal level I had only just finished talking to a friend who had lost 2 of his 3 jobs when I passed someone on the street talking about her friend losing his job. Then yesterday I received this tweet.

Funny, Barclays quoted me 18% interest on a £10k business loan this morning to keep my employees paid, unfortunately the state will now need to pay them. Bonkers! ( @_insole )

If we look at events in the retail and leisure sector whilst there are small flickers of good news there are large dollops of really bad news. Accordingly this is a depression albeit like so many things these days it might be over relatively quickly for a depression in say a few months. Of course the latter is unknown in terms of timing. But people on low wages especially are going to need help as not only will they be unable to keep and feed themselves they will be forced to work if they can even if they are ill. In terms of public health that would be a disaster.

Also I fear this from the Bank of England Inflation Survey this morning may be too low.

Question 2b: Asked about expected inflation in the twelve months after that, respondents gave a median answer of 2.9%, remaining the same as in November.

Whilst there are factors which will reduce inflation such as the lower oil price will come into play there are factors the other way. Because of shortages there will be rises in the price of food and vital purchases as illustrated below from the BBC.

A pharmacy which priced bottles of Calpol at £19.99 has been criticised for the “extortionate” move.

A branch of West Midlands-based chain Jhoots had 200ml bottles of the liquid paracetamol advertised at about three times its usual price.

The UK Pound

If we now switch to financial markets we have seen some wild swings here. The UK Pound always comes under pressure in a financial crisis because of our large financial sector and as I looked at on Wednesday we are in a period of King Dollar strength. Or at least we were as it has weakened overnight with the UK Pound £ bouncing to above US $1.18 this morning. Now with markets as they are we could be in a lot of places by the time you read this but for now the extension of the Federal Reserve liquidity swaps to more countries has calmed things.

Perhaps we get more of a guide from the Euro where as discussed in the comments recently we have been in a poor run. But we have bounced over the past couple of days fro, 1.06 to 1.10 which I think teaches us that the UK Pound £ is a passenger really now. We get hit by any fund liquidations and then rally at any calmer point.

The Bank of England

It held an emergency meeting yesterday and then announced this.

At its special meeting on 19 March, the MPC judged that a further package of measures was warranted to meet its statutory objectives.  It therefore voted unanimously to increase the Bank of England’s holdings of UK government bonds and sterling non-financial investment-grade corporate bonds by £200 billion to a total of £645 billion, financed by the issuance of central bank reserves; and to reduce Bank Rate by 15 basis points to 0.1%.  The Committee also voted unanimously that the Bank of England should enlarge the Term Funding Scheme with additional incentives for SMEs (TFSME).

Let me start with the interest-rate reduction which is simply laughable especially if we note what the business owner was offered above. One of my earliest blog topics was the divergence between official and real world interest-rates and now a 0.1% Bank Rate faces 40% overdraft rates. Next we have the issue that 0.5% was supposed to be the emergency rate so 0.1% speaks for itself. Oh and for those wondering why they have chosen 0.1% as the lower bound ( their description not mine) it is because they still feel that the UK banks cannot take negative interest-rates and is nothing to do with the rest of the economy. So in an irony the banks are by default doing us a favour although we have certainly paid for it!

QE

Let us now move onto this and the Bank of England is proceeding at express pace.

Operations to make gilt purchases will commence on 20 March 2020 when the Bank intends to purchase £5.1bn of gilts spread evenly between short, medium and long maturity buckets.  These operations will last for 30 minutes from 12.15 (short), 13.15 (medium) and 14.15 (long).

But wait there is more.

Prior to the 19 March announcement the Bank was in the process of reinvesting of the £17.5bn cash flows associated with the maturity on 7 March 2016 of a gilt owned by the APF.

As noted above, and consistent with supporting current market conditions, the Bank will complete the remaining £10.2bn of gilt purchases by conducting sets of auctions (short, medium, long maturity sectors) on Friday 20 March and Monday 23 March (i.e. three auctions on each day).

So there will be a total of £10.2 billion of QE purchases today and although it has not explicitly said so presumably the same for Monday. As you can imagine this has had quite an impact on the Gilt market as the ten-year yield which had risen to 1% yesterday lunchtime is now 0.59%. The two-year yield has fallen to 0.08% so we are back in the zone where a negative Gilt yield is possible. Frankly it will depend on how aggressively the Bank of England buys its £200 billion.

The next bit was really vague.

The Committee also voted unanimously that the Bank of England should enlarge the Term Funding Scheme with additional incentives for SMEs (TFSME)……

Following today’s special meeting of the MPC the Initial Borrowing Allowance for the TFSME will be increased from 5% to 10% of participants’ stock of real economy lending, based on the Base Stock of Applicable Loans.

Ah so it wasn’t going to be the triumph they told us only last week then? I hope this will do some good but the track record of such schemes is that they boost the banks ( cheap liquidity) and house prices ( more and cheaper mortgage finance).

We did also get some humour.

As part of the increase in APF asset purchases the MPC has approved an increase in the stock of purchases of sterling corporate bonds, financed by central bank reserves.

Last time around this was a complete joke as the Bank of England ended up buying foreign firms to fill its quota. For example I have nothing against the Danish shipping firm Maersk but even they must have been surprised to see the Bank of England buying their bonds.

Comment

There are people and businesses out there that need help and in the former case simply to eat. So there are real challenges here because if Bank of England action pushes prices higher it will make things worse. But the next steps are for the Chancellor who has difficult choices because on the other side of the coin many of the measures above will simply support the Zombie companies and banks which have held us back.

Also this is a dreadful time for economics 101. I opened by pointing out that unemployment will rise and maybe by a lot and so will prices and hence inflation. That is not supposed to happen. Then the UK announces more QE and the UK Pound £ rises although of course it is easier to state who is not doing QE now! I guess the Ivory Towers who so confidently made forecasts for the UK economy out to 2030 are now using their tippex, erasers and delete buttons. Meanwhile in some sort of Star Trek alternative universe style event Chris Giles of the Financial Times is tweeting this.

In a moment of irritation, am amazed at how little UK public science has learnt from economics – making mistakes no good economist has made in 50 years Economists have been beating themselves up for a decade Shoe now on other foot…

Podcast

 

Is it to be QE for everyone and everywhere?

It was only yesterday that I signed off with the heat is on and indeed it was. That was true if you looked at the fall in the UK Pound or the Norwegian Krona and even more so with crude oil. In response there was an evening emergency meeting ( by telephone) of the European Central Bank. This was because it had been on the back foot in several of its bond markets in spite of its announcement of more QE ( Quantitative Easing) bond buying as recently as last Thursday. In Italy the benchmark ten-year yield approached 3% and reignited crisis fears. So let us go to the response and the emphasis is mine.

To launch a new temporary asset purchase programme of private and public sector securities to counter the serious risks to the monetary policy transmission mechanism and the outlook for the euro area posed by the outbreak and escalating diffusion of the coronavirus, COVID-19.

We know what temporary means as for example the original emergency interest-rate cuts were supposed to be that as was the original QE and negative interest-rates. They are all still here. In a way that is the difference this time around as central bank action is supposed to be reversed a few years later when things are better but that never happened. Instead it is “More! More! More!”

This new Pandemic Emergency Purchase Programme (PEPP) will have an overall envelope of €750 billion. Purchases will be conducted until the end of 2020 and will include all the asset categories eligible under the existing asset purchase programme (APP).

Actually they highlight my temporary point because that feels like an end date but later we get this.

The Governing Council will terminate net asset purchases under PEPP once it judges that the coronavirus Covid-19 crisis phase is over, but in any case not before the end of the year.

Number-Crunching

There are various perspectives to this as assuming they started immediately which they have then there will now be around 115 billion Euros of QE bond purchases from the ECB. There was also this for Italy.

If capital key is fully respected this means almost 10.5 bln additional monthly purchases of BTPs, for the next 9 months. #BringItON  ( @gusbaratta)

As you can see Gus was enthusiastic. I do not know if he was long the market but anyway it seemed set to offer some relief to hard-pressed Italy.

There was also something that looks set to be significant but has got a little lost in the fog.

To the extent that some self-imposed limits might hamper action that the ECB is required to take in order to fulfil its mandate, the Governing Council will consider revising them to the extent necessary to make its action proportionate to the risks that we face.

That made me thing of the capital key point made by Gus where purchases are proportionate to each country’s share in the ECB itself, This is mostly but not entirely related to the size of their economy. So clearing the decks in case Italy for example needs more and also at the other end of the scale should they run out of bonds to buy in the Netherlands or Germany.

Also there was a plan for Greece.

A waiver of the eligibility requirements for securities issued by the Greek government will be granted for purchases under PEPP.

Rather curiously there are not that many Greek bonds to buy because they have bought so many in the past! The European Stability Mechanism has a very large holding for example.

Together, the EFSF and ESM disbursed €204 billion to Greece, and now hold more than half of its public debt.

Market Reaction

It seems as though the ECB has steamed in this morning all guns blazing or as they put it.

At the same time, purchases under the new PEPP will be conducted in a flexible manner. This allows for fluctuations in the distribution of purchase flows over time, across asset classes and among jurisdictions.

This has seen the Italian bond future rally over 8 points to 138 as the ten-year yield fell to 1.7%. This is a tactical success although care is needed as only central bankers regard paying much more for something as a success. It should help Italy relax fiscal policy if it is sustained. However, there is a deeper perspective which is that some short of Italian bonds will have been screaming for the financial stretcher-bearers and may not return. Please remember that if down the road we see central bankers and their acolytes complaining of a lack of liquidity.

The situation in equity markets is not so happy because as I type this the Dax of Germany is some 1% lower although the EuroStoxx 50 is hanging onto a few points gain.

The Euro

This is off 1% versus the US Dollar at 1.083 but as we looked at yesterday we are seeing a phase of King Dollar so the picture is blurry. We maybe learn a little that the Euro has slipped against the UK Pound £ but the move is much smaller than its gain yesterday so again we learn not much. So lower yes but we have no way of knowing if the QE has contributed much here in another fail for economics 101.

On that subject someone has announced this morning that they are buying.

The SNB is intervening more strongly in the foreign exchange market to contribute to the stabilisation of
the situation. ( Swiss National Bank)

Australia

It feels like yesterday when the Reserve Bank of Australia announced it might do QE if interest-rates were cut to 0.25%. Well this morning we learnt that beds may be burning in the land of midnight oil.

A reduction in the cash rate target to 0.25 per cent.

Followed by.

A target for the yield on 3-year Australian Government bonds of around 0.25 per cent.

This will be achieved through purchases of Government bonds in the secondary market. Purchases of Government bonds and semi-government securities across the yield curve will be conducted to help achieve this target as well as to address market dislocations. These purchases will commence tomorrow.

As I have pointed out earlier please remember the “market dislocations” bit should liquidity disappear and the RBA complains about it.

Poland

Earlier this week the Polish central bank joined the party.

NBP will also purchase government bonds on the secondary
market as part of the structural operations that change the long-term liquidity structure in the banking sector and contribute to maintaining the liquidity in the government bond secondary market.

Notice how they are getting a liquidity denial in early? Also they did this.

The Council decided to cut the NBP reference rate by 0.5 percentage points, i.e. to 1.00%

Bank of Korea

From Bloomberg.

The Bank of Korea plans to buy $1.2 billion in government bonds to stabilize markets

I would imagine the central banking dark web is full of messages saying “lightweights” after starting with such a small amount.

Comment

When the credit crunch started some central banks sung along with Huey Lewis and te News.

I want a new drug, one that won’t hurt my head
One that won’t make my mouth too dry
Or make my eyes too red

As time has passed more joined in and now the chorus is deafening as more join the QE party. I expect that there will be more in terms of volume for existing players and more new entrants because it is now about oiling the wheels of fiscal policy. When central banks were made “independent” this was not the purpose ( they are not that bright) but the traditional bureaucratic way of appointing people who are to coin a phrase “one of us” means that actually they are doing more than elected politicians would be allowed to. There is a democracy deficit hidden behind the crisis measures.

The picture is complex as there are many areas which badly need help right now. On a personal level in a short space of time I heard about 2 people losing jobs and a business owner losing work. But the history of central bank action is that it favours big not small business or the self employed. One certainty is that once we get any bit of stability the money will pour into the housing market as banks find that easy to do.

Meanwhile we are reminded that mistakes can be very expensive but not for our lords and masters.

Last Thursday: Lagarde says ECB is not there to close bond spreads

Tonight: ECB announces an extra 750 billion of QE to close bond spreads

 

The world wants and needs US Dollars and it wants them now

In the midst if the financial market turmoil there has been a consistent theme which can be missed. Currency markets rarely get too much of a look in on the main stream media unless they can find something dramatic. But CNN Business has given it a mention.

The US dollar is rallying against virtually every other currency and it seems like nothing can stop it.

There are lots of consequences and implications here but let us start with some numbers. My home country has seen an impact as the UK Pound £ has been pushed back to US $1.20 and even the Euro which has benefited from Carry Trade reversals ( people borrowed in Euros to take advantage of negative interest-rates) has been pushed below 1.10. Even the Japanese Yen which is considered a safe haven in such times has been pushed back to 107.50. We can get more thoughts on this from The Straits Times from earlier today.

SYDNEY (REUTERS) – The Australian dollar was ravaged on Wednesday (March 18) after toppling to 17-year lows as fears of a coronavirus-induced global recession sent investors fleeing from risk assets and commodities, with panic selling even spilling over into sovereign bonds.

The New Zealand dollar was also on the ropes at US$0.5954, having shed 1.7 per cent overnight to the lowest since mid-2009.

The Aussie was pinned at US$0.6004 after sliding 2 per cent on Tuesday to US$0.5958, depths not seen since early 2003.

So there are issues ans especially in a land down under as an Aussie Dollar gets closer to the value of a Kiwi one. In fact the Aussie has been hit again today falling to US $0.5935 as I type this. No doubt it is being affected by lower commodity prices signalled in some respects by Dr. Copper falling by over 4% to US $2.20

Sadly the effective or trade-weighted index is not up to date but as of the 13th of this month the official US Federal Reserve version was at 120.7 as opposed to the 115 it began the year.

Demand for Dollars

It was only on Monday we looked at the modifications to the liquidity or FX Swaps between the world’s main central banks. Hot off the wires is this.

BoE Allots $8.210B In 7 Day USD Repo Operation ( @LiveSquawk )

This means that even in the UK we are seeing demands for US Dollars which cannot be easily got in the markets right now. Maybe whoever this is has been pushing the UK Pound £ down but we get a perspective by the fact that this facility had not been used since mid-December when the grand sum of $5 million was requested. There were larger requests back in November 2008.

I was surprised that so little notice was taken when I pointed this out yesterday.

Interesting to see the Bank of Japan supply some US $30.3 billion this morning until June 11th. Was it Japanese banks who were needing dollars?

Completing the set comes the European Central Bank or ECB.

FRANKFURT (Reuters) – The European Central Bank on Wednesday lent euro zone banks $112 billion at two auctions aimed at easing stress in the U.S. dollar funding market, part of the financial fallout of the coronavirus outbreak.

The ECB said it had allotted $75.82 billion in its new 84-day auction, introduced by major central banks last weekend in response to global demand for greenbacks, and $36.27 billion at its regular 7-day tender.

Actually it was good the ECB found the time as it is otherwise busy arguing with itself.

With regards to comments made by Governor Holzmann, the ECB states:

The Governing Council was unanimous in its analysis that in addition to the measures it decided on 12 March 2020, the ECB will continue to monitor closely the consequences for the economy of the spreading coronavirus and that the ECB stands ready to adjust all of its measures, as appropriate, should this be needed to safeguard liquidity conditions in the banking system and to ensure the smooth transmission of its monetary policy in all jurisdictions.

So we see now why the Swap Lines were reinforced and buttressed.

Oh and even the Swiss Banks joined in.

*SNB GETS $315M BIDS FOR 84-DAY DOLLAR REPO ( @GregBeglaryan )

Emerging Markets

This is far worse and let me give you a different perspective on this. During the period of the trade war we looked regularly at the state of play in the Pacific as it was being disproportionately affected.

Let me hand you over to @Trinhnomics or Trinh Nguyen.

Swap lines to EM please (also to Australia – we like Australia in Asia too as it’s APAC). “the supply of liquidity by central banks is beneficial only to those who can access it,

Her concern was over that region and EM is Emerging Markets. I enquired further.

Operationally, the bid for USD in Asia and squeeze in liquidity reflects the massive role of the USD in the global economy & finance. For example, 87% of China merchandise trade is invoiced in US. and the loss of income from export earnings will further push higher the demand of USD. To overcome the global USD squeeze, the Fed must step up its operational support via swap lines with economies such as South Korea.

That was from a piece she wrote for the Financial Times but got cut from it. On twitter she went further with a theme regular readers will find familiar

Guys, the reason why we have a dollar shortage is because we have levered!!!!!!!!!!! So when income collapses, we got major problem because we have leveraged & so debt needs servicing etc. Aniwaize, the stress u see is because we live in a world that’s too leveraged!!!

And again although I would point out that leverage can simply be a gamble rather than a hope for better times.

Don’t forget that low rates only lower interest expense, u still got principal that is high if ur debt stock is high. When u lever, u think the FUTURE IS BETTER THAN TODAY. Obvs very clearly that whoever thought there was growth is in for a surprise given the pandemic situation.

She looks at this from the perspective of the Malaysian Ringgit which has fallen to 4.37 versus the US Dollar and the Singapore Dollar which is at 1.44.

Comment

We are now seeing a phase of King Dollar or Holla Dollar and let me add some more places into the mix. We have previously looked at countries which have borrowed in US Dollars and they will be feeling the strain especially if they are commodity producers as well. This covers quite a few countries in Latin America and of course some of those have their own problems too boot. I also recall Ukraine running the US Dollar as pretty much a parallel currency.

The beat goes on.

In times of stress, capital flees emerging markets to seek safety in $USD . This crisis is no different. ( @IceCapGlobal)

which got this reply.

Investors have yanked at least US$55bn from EMs since January 21, according to the Institute of International Finance, exceeding the withdrawal in 2008. ( @alexharfouche1 )

Let me finish by reminding you that ordinarily we discuss matters around the price of something. But here as well as that we are discussing how much you can get and for some right now that people will not trade with you at all. That is why we are seeing what is effectively the world’s central bank the Federal Reserve offering US Dollars in so many different ways. It is spraying US $500 billion Repo operations around like confetti but I am reminded of the words of Glenn Frey.

The heat is on, on the street
Inside your head, on every beat
And the beat’s so loud, deep inside
The pressure’s high, just to stay alive
‘Cause the heat is on

The Investment Channel

Fiscal Policy will now take centre stage as France has shown

One of our themes is now fully in play. We have observed over the past year or two a shift in establishment thinking towards fiscal policy. This had both bad and good elements. The bad was that it reflected a reality where all the extraordinary monetary policies had proved to be much weaker than the the claims of their supporters and even worse for them were running out of road. The current crisis has reminded us of this as we have had, for example, two emergency moves from the US Federal Reserve already, in its role as a de facto world central bank.

A more positive factor in this has been the change we have been observing in bond yields. We can get a handle on this by looking back at the world’s biggest which is the US Treasury Bond market. Back in the autumn of 2018 when worlds like “normalisation” ans phrases like “Quantitative Tightening” were in vogue the benchmark ten year yield saw peaks around 3.15%. Basically it then spent most of a year halving before rallying back to 1.9% at the end of last year and beginning of this. But this move took place in spite of the fact that we have the Trump Tax Boost which was estimated to have an impact of the order of one trillion US Dollars. I mention this because as well as the obvious another theme was in play which was that the Ivory Towers were wrong-footed yet again. The Congressional Budget Office has had to keep reducing its estimate of debt costs as the rises it expected turned into falls. Also whilst I am on this subject I am not sure this from January is going to turn out so well!

In 2020, inflation-adjusted GDP is projected to grow by 2.2 percent, largely because
of continued strength in consumer spending and a rebound in business fixed investment. Output is
projected to be higher than the economy’s maximum sustainable output this year to a greater degree
than it has been in recent years, leading to higher inflation and interest rates after a period in which
both were low, on average.

Best of luck with that.

Meanwhile we have seen a fair bit of volatility in bond yields but the US ten-year is 0.8% as I type this. Even the long bond ( 30 years) is a relatively mere 1.4%.

Thus borrowing is very cheap and only on Sunday night the US Federal Reserve arrived in town and did its best to keep it so.

 over coming months the Committee will increase its holdings of Treasury securities by at least $500 billion and its holdings of agency mortgage-backed securities by at least $200 billion.

Step Forwards France

There was an announcement yesterday evening by President Macron which was announced in gushing terms by Faisal Islam of the BBC.

The €300 billion euro fiscal support package announced by Macron for the French economy, to ensure businesses dont go bust and taxes/ charges suspended, is worth about 12% of its GDP – in UK terms that would mean £265 billion…

This morning the French Finance Minster has given some different numbers.

French measures to help companies and employees weather the coronavirus storm will be worth some €45bn, the country’s finance minister Bruno Le Maire said on Tuesday. ( Financial Times)

He went on to give some details of how it would be spent.

He told RTL radio the package of financial aid, which includes payments to temporarily redundant workers and deferments of tax and social security bills, would help “the economy to restart once the corona virus epidemic is behind us”. Previously he had referred to “tens of billions of euros”.

Now let us look at the previous position for France. We had previously note that France was in the middle of a fiscal nudge anyway as the first half of 2019 saw quarterly deficits of 3.2% and 3.1% of GDP respectively, The third quarter was back within the Maastricht rules as it fell to 2.5% of GDP but we still had a boost overall and as you can see below the national debt to GDP ratio went over 100%

At the end of Q3 2019, Maastricht’s debt reached €2,415.1 billion, up €39.6 billion in comparison to Q2 2019. It accounted for 100.4% of gross domestic product (GDP), 0.9 points higher than last quarter. Net public debt increased more moderately (€+15.0 billion) and accounted for 90.3 % of GDP.

Of course debt to GDP numbers have gone out of fashion partly because the “bond vigilantes” so rarely turn up these days. There was a time that a debt to GDP ratio above 100% would have them flying in but they restricted their flying well before the Corona Virus made such a move fashionable. The French ten-year yield is up this morning but at 0.27% is hardly a deterrent in itself to more fiscal action. However whilst it is still as low as it has ever been before this stage of the crisis a thirty-year yield of 0.8% is up a fair bit on the 0.2% we saw only last week. Another factor in play is this.

Third, we decided to add a temporary envelope of additional net asset purchases of €120 billion until the end of the year, ensuring a strong contribution from the private sector purchase programmes. ( ECB )

Whilst only a proportion of the buying we can expect monthly purchases of French government bonds to rise from the previous 4 billion Euros or so and accordingly the total to push on from 434.4 billion. Also whilst President Lagarde was willing to express a haughty disdain for “bond spreads” I suspect the former French Finance Minister would be charging to the rescue of France if necessary.

One feature of French life is that taxes are relatively high.

The tax-to-GDP ratio varies significantly between Member States, with the highest share of taxes and social
contributions in percentage of GDP in 2018 being recorded in France (48.4%), Belgium (47.2%) and Denmark
(45.9%), followed by Sweden (44.4%), Austria (42.8%), Finland (42.4%) and Italy (42.0%). ( Eurostat )

Short Selling Bans

France along with some other European nations announced short-selling bans this morning which stop investors selling shares they do not own.

#BREAKING French market regulator bans short-selling on 92 stocks: statement ( @afp )

I pointed out that these things have a track record of failure

These sort of things cause a market rally in the short-term but usually wear off in a day or two.

The initial rally to over 4000 on the CAC 40 index soon wore off and we are now unchanged on the day having at one point being 100 points off. Of course some policy work will be writing a paper reminding us of the counterfactual.

Comment

I am expecting a lot more fiscal action in the next few days. The French template is for a move a bit less than 2% of GDP. That will of course rise as GDP falls.

The French government was assuming the economy would shrink about 1 per cent this year, instead of growing more than 1 per cent as previously predicted, Mr Le Maire said. ( Financial Times)

Frankly that looks very optimistic right now. The situation is fast moving as doe example Airbus which only yesterday expected to remain open announced this today.

Following the implementation of new measures in France and Spain to contain the COVID-19 pandemic, Airbus has decided to temporarily pause production and assembly activities at its French and Spanish sites across the Company for the next four days. This will allow sufficient time to implement stringent health and safety conditions in terms of hygiene, cleaning and self-distancing, while improving the efficiency of operations under the new working conditions.

Let me now shift to the other part of the package.

Mr Le Maire said ammunition to prop up the economy also included €300bn of French state guarantees for bank loans to businesses and €1tn of such guarantees from European institutions. ( FT )

The problem is how will this work in practice? The numbers sound grand but for example the Bank of England announced up to £290 billion for SMEs only last week which everyone seems to have forgotten already! One bit that seemed rather devoid of reality to me at the time was this.

The release of the countercyclical capital buffer will support up to £190bn of bank lending to businesses. That is equivalent to 13 times banks’ net lending to businesses in 2019.

Returning to pure fiscal policy I am expecting more of it and would suggest it is aimed at two areas.

  1. Supporting individuals who through not fault of their own have seen incomes plunge and maybe disappear.
  2. Similar for small businesses and indeed larger ones which are considered vital.

Just for clarity that does not mean for banks and the housing market where such monies have a habit of ending up.

Meanwhile a country which badly needs help is still suffering from the “ECB not here to close bond spreads” of Christine Lagarde last week as its ten-year yield has risen to 2.3%. Her open mouth operation has undone a lot of ECB buying.

The biggest move by the US Federal Reserve was the one concerning liquidity or FX Swaps

Last night the week started with the arrival of the Kiwi cavalry as the Reserve Bank of New Zealand announced this.

The Official Cash Rate (OCR) is 0.25 percent, reduced from 1.0 percent, and will remain at this level for at least the next 12 months.

With international sporting events being cancelled this was unlikely to have been caused by a defeat for the All Blacks as the statement then confirmed.

The negative economic implications of the COVID-19 virus continue to rise warranting further monetary stimulus.

But soon any muttering in the virtual trading rooms was replaced by quite a roar as this was announced.

Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The effects of the coronavirus will weigh on economic activity in the near term and pose risks to the economic outlook. In light of these developments, the Committee decided to lower the target range for the federal funds rate to 0 to 1/4 percent. The Committee expects to maintain this target range until it is confident that the economy has weathered recent events and is on track to achieve its maximum employment and price stability goals. This action will help support economic activity, strong labor market conditions, and inflation returning to the Committee’s symmetric 2 percent objective. ( US Federal Reserve)

So a 1% interest-rate cut to the previous credit crunch era low for interest-rates and whilst the timing was a surprise it was not a shock. This is because on Saturday evening President Donald Trump had ramped up the pressure by saying that he had the ability to fire the Chair Jeroen Powell. The odd points in the statement were the reference to returning to being “on track” for its objectives which seems like from another world as well as reminding people of Greece which has been “on track” to recovery all the way through its collapse into depression. Also “strong labor market conditions” is simply untrue now. All that is before the reference to inflation returning to target when some will be paying much higher prices for goods due to shortages.

QE5

This came sliding down the slipway last night which will have come as no surprise to regular readers who have followed to my “To Infinity! And Beyond!” theme.

To support the smooth functioning of markets for Treasury securities and agency mortgage-backed securities that are central to the flow of credit to households and businesses, over coming months the Committee will increase its holdings of Treasury securities by at least $500 billion and its holdings of agency mortgage-backed securities by at least $200 billion.

This is quite punchy as we note that the previous peak for its balance sheet was 4.5 trillion Dollars and now it will go above 5 trillion. The Repos may ebb and flow bad as we stand it looks set to head to 5.2 trillion or so. The odd part of the statement was the reference to the “smooth functioning” of the Treasury Bond market when buying such a large amount further reduces liquidity in a market with liquidity problems already. For those unaware off the run bonds ( non benchmarks) have been struggling recently. The situation for mortgage bonds is much clearer as some will no doubt be grateful for any buyers at all. Although whether buying the latter is a good idea for the US taxpayer underwriting all of this is a moot point. At least the money used is effectively free at around 0%.

Liquidity Swaps

This was the most significant announcement of all for two reasons. Firstly it was the only one which was coordinated and secondly because it stares at the heart of one of the main problems right now. Cue Aloe Blacc.

I need a dollar dollar, a dollar is what I need
Hey hey
Well I need a dollar dollar, a dollar is what I need
Hey hey
And I said I need dollar dollar, a dollar is what I need
And if I share with you my story would you share your dollar with me
Bad times are comin’ and I reap what I don’t sow.

I have suggested several times recently that there will be banks and funds in trouble right now as we see simultaneous moves in bond, equity and oil markets. That will only be getting worse as the price of a barrel of Brent Crude Oil approaches US $31. This means that some – and the rumour factory will be at full production – will be finding hard to get US Dollars and some may not be able to get them at all. So the response is that the main central banks will be able to.

The Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, the Federal Reserve, and the Swiss National Bank are today announcing a coordinated action to enhance the provision of liquidity via the standing U.S. dollar liquidity swap line arrangements.

These central banks have agreed to lower the pricing on the standing U.S. dollar liquidity swap arrangements by 25 basis points, so that the new rate will be the U.S. dollar overnight index swap (OIS) rate plus 25 basis points.

So it appears that price matters for some giving us a hint of the scale of the issue here. If I recall correct a 0.5% cut was made as the credit crunch got into gear. Also there was this enhancement to the operations.

 To increase the swap lines’ effectiveness in providing term liquidity, the foreign central banks with regular U.S. dollar liquidity operations have also agreed to begin offering U.S. dollars weekly in each jurisdiction with an 84-day maturity, in addition to the 1-week maturity operations currently offered. These changes will take effect with the next scheduled operations during the week of March 16.

Then we got something actively misleading because the real issue here is for overseas markets.

The new pricing and maturity offerings will remain in place as long as appropriate to support the smooth functioning of U.S. dollar funding markets.

For newer readers wondering who these might be? The main borrowers in recent times have been the European Central Bank and less so the Bank of Japan. This is repeated at the moment as some US $58 million was borrowed by a Euro area bank last week. Very small scale but maybe a toe in the water.

Comment

Some of the things I have feared are taking place right now. We see for example more and more central banks clustering around an interest-rate of 0% or ZIRP ( Zero Interest-Rate Policy). Frankly I expect more as you know my view on official denials.

#BREAKING Fed’s Powell says negative interest rates not likely to be appropriate ( @AFP )

You could also throw in the track record of the Chair of the US Federal Reserve for (bad) luck.

Meanwhile rumours of fund collapses are rife.

Platinum down 18%, silver down 14% Palladium down 12%, Gold down 4% – someone is getting liquidated ( @econhedge )

Some of that may be self-fulfilling but there is a message in that particular bottle.

As to what happens next? I will update more as this week develops but I expect more fiscal policy back stopped by central banks. More central banks to buy equities as I note the Bank of Japan announced earlier it will double its operations this year. Helicopter Money is a little more awkward though as gathering to collect it would spread the Corona Virus. As Bloc Party put it.

Are you hoping for a miracle? (it’s not enough, it’s not enough)
Are you hoping for a miracle? (it’s not enough, it’s not enough)
Are you hoping for a miracle? (it’s not enough, it’s not enough)
Are you hoping for a miracle? (it’s not enough, it’s not enough)

Let me sign off for today by welcoming the new Bank of England Governor Andrew Bailey.

Podcast

I would signpost the second part of it this week as eyes will turn to the problems in the structure of the ECB likely to be exposed in a crisis.

 

 

The US Repo cavalry arrives with the “Lagarde bond yield bounce”

This has been an extraordinary week, so much so that I am going to relegate the shambles that was the ECB action yesterday as President Lagarde lived down to all my criticisms of her to second place. This is because at around 5pm London time yesterday the US Cavalry arrived so let me hand you over to the New York Federal Reserve,

As a part of its $60 billion reserve management purchases for the monthly period beginning March 13, 2020 and continuing through April 13, 2020, the Desk will conduct purchases across a range of maturities to roughly match the maturity composition of Treasury securities outstanding.  Specifically, the Desk plans to distribute reserve management purchases across eleven sectors, including nominal coupons, bills, Treasury Inflation-Protected Securities, and Floating Rate Notes

So most of the “not QE” is now outright QE ar least for now and we know what tends to happen to such temporary moves. After all weren’t the daily Repos supposed to be temporary when they started last September?

Also in another very familiar theme we see that any attempt at a “taper” seems to morph into an expansion.

Today, March 12, 2020, the Desk will offer $500 billion in a three-month repo operation at 1:30 pm ET that will settle on March 13, 2020.  Tomorrow, the Desk will further offer $500 billion in a three-month repo operation and $500 billion in a one-month repo operation for same day settlement.  Three-month and one-month repo operations for $500 billion will be offered on a weekly basis for the remainder of the monthly schedule.

There is a lot of numbers bingo there and many on social media either fell for it or chose to fall for it by declaring an extra US $1.5 trillion of QE. But let us take the advice of Kylie Minogue.

I’m breaking it down
I’m not the same

We had to wait less than an hour to discover that the first Repo was for US $78.4 billion. So we saw that the Fed has in fact finally taken my advice and made sure it was offering too much to find out as much as possible what the true state of play is. Rather late in the day though as it is doing it in an equity market inspired panic as opposed ti thinking ahead. As to QE we have something of a US $78.4 as an 84 day Repo qualifies for me in spite of officially being “not QE” plus we have an Operation Twist style extension of average maturity on the existing US $60 billion a month.

I do not know what today’s Repo allocations will be only that bids will be filled in full up to the US $500 billion maximum. Should they be like last night’s then we will see a US $225 billion increase in QE which is quite some distance from many claims. Of course more or less might be taken.

What is really happening here?

There is an elephant in the room and it was sung about by Aloe Blacc

I need a dollar dollar, a dollar is what I need
Hey hey
Well I need a dollar dollar, a dollar is what I need
Hey hey
And I said I need dollar dollar, a dollar is what I need
And if I share with you my story would you share your dollar with me

Indeed he was especially prescient here.

Bad times are comin’ and I reap what I don’t sow
Hey hey
Well let me tell you somethin’ all that glitters ain’t gold
Hey hey

Actually at US $1583 gold is not glittering much either with rumours abounding that it is being sold to help settle margin payments elsewhere. In a crisis people want the security of King Dollar or the world’s reserve currency. This adds to the existing dollar shortage which I wrote about on the 25th of September 2018, and to the issue last September when a Euro area bank had to go to the US Federal Reserve for dollars.

This brings us to the banks who are the drivers of this. The suspicion is that at a minimum some cannot get dollars in the usual way via markets and thus have to go to the US Federal Reserve. With markets being as they have ( oil, bonds and equities) frankly I would not be surprised if some banks are in trouble. On that note I see one at least has made an official denial of such problems already today.

FRANKFURT (Reuters) – Deutsche Bank’s <DBKGn.DE> top executives sought to assure employees and investors over its ability to weather the coronavirus as shares in the German lender hit a new low on Thursday amid a wider stock market sell-off.

Christian Sewing, chief executive of Germany’s largest bank, told employees in a memo seen by Reuters that Deutsche Bank’s business was in “good shape as the positive momentum of the fourth quarter has continued”.

A Communications Break Down at the ECB

There was some surprise at the lack of much action from the ECB yesterday highlighted by the fact that even more bank subsidies were accompanied by further falls in bank share prices. But it got worse and then much worse. The worse bit was when the ECB press officer had to correct President Lagarde about the size of the extra QE announced as it was 120 billion Euros and not 100 billion. So the claim that Christine Lagarde was good at reading off a teleprompter crashed and burned, But then things got even worse.

Well, we will be there, as I said earlier on, using full flexibility, but we are not here to close spreads[1]. This is not the function or the mission of the ECB.

Curious because you could summarise the term of her “Whatever it takes” predecessor as doing exactly that. Rather than me describe the issue let me hand you over to the correction issued by the ECB.

[Statement in CNBC interview after press conference:] I am fully committed to avoid any fragmentation in a difficult moment for the euro area. High spreads due to the coronavirus impair the transmission of monetary policy. We will use the flexibility embedded in the asset purchase programme, including within the public sector purchase programme.

By down she meant up etc….

This was issued because the statement detonated across Euro area bond markets with the Italian ten-year yield going from 1.3% to 1.8%. Actually as a result of what no doubt will be called “The Lagarde Bounce” the ten-year yield is now 1.88%. So just as the corona virus ravaged Italy needs a helping hand Christine Lagarde has kicked it in the teeth. In fact just like she did to Greece and Argentina. You might think there was a theme there and that such a theme would have stopped her appointment. But no and of course so much of the media joined in by lauding it. Sadly we have a sort of Marie Antoinette theme in play.

Meanwhile two bank subsidies were announced. Firstly the new liquidity measures announced that via the TLTRO banks will be able to get cash at interest-rates as low as -0.75% compared to the -0.5% of everyone else. As Gollum would say.

We wants it, we needs it. Must have the precious.

Also there was something tucked away in the rules so let me hand you over to JohannesBorgen on twitter

As pointed out by @borisg_work I forgot to remove our Brexited friends, so RWA are more likely around 14tn now (anyone has an accurate recent # i’m interested) which suggest between 500bn and 600bn – still very big!

Changes in the Risk Weighted Assets rules meant a boost of around 500 billion Euros of capital relief. He got a boost as the ECB press officer retweeted him so perhaps he explained their own policy to them.

Comment

As you can see this is a bit of a shambles. If you argue that this could be like 2008 then the central planners at least managed a concerted fusillade. This time around they are taking individual pop shots and in at least one case have shot themselves in the foot. Actually at the ECB things are going from bad to worse.

@bancaditalia  governor #Visco @ecb  will do more if needed and can front load purchases if needed. Thursday decision was “not the final word” and ECB policy is aimed to ensure adequate liquidity. in exclusive interview with @BloombergTV

Let me deal with it in terms of bullet points.

  1. Presumably the Governor of the Bank of Italy is furious
  2. What is the point of declaring a number and then saying not only it might be larger but also the timing could be faster only 24 hours later?
  3. Actually they declared the next meeting would not be until April Fools Day less then 24 hours ago.
  4. QE reduces bond market liquidity.

Looking at markets then equity markets are surging as I type this because the stimulus fairy has been deployed. Is that the same stimulus fairy that was supposed to appear in the Euro area yesterday or a different one please? But that is my point because as the swings get wider I am more concerned about a fund or funds blowing up. This week alone we have seen wild swings in the bond,oil,equity and gold markets so in fact I am surprised it has not happened and wonder if we are being told the whole truth?

What can the ECB and European Commission do to help the Euro area economy?

Today our focus switches to the Euro area and the European Central Bank as we await a big set piece event from the ECB. However as is his wont The Donald has rather grabbed the initiative overnight. From the Department of Homeland Security.

(WASHINGTON) Today President Donald J. Trump signed a Presidential Proclamation, which suspends the entry of most foreign nationals who have been in certain European countries at any point during the 14 days prior to their scheduled arrival to the United States. These countries, known as the Schengen Area, include: Austria, Belgium, Czech Republic, Denmark, Estonia, Finland, France, Germany, Greece, Hungary, Iceland, Italy, Latvia, Liechtenstein, Lithuania, Luxembourg, Malta, Netherlands, Norway, Poland, Portugal, Slovakia, Slovenia, Spain, Sweden, and Switzerland.

I have pointed it out in this manner as sadly the mainstream media is misreporting it with Beth Rigby of Sky News for example tweeting it as Europe. Much of it yes but not all of it. Moving on to our regular economics beat this will impact on an area we looked at back on the 27th of February.

Announcing the new findings, ENIT chief Giorgio Palmucci said tourism accounted for 13 percent of Italy’s gross domestic product…… tourism-related spending by both French residents and non-residents, represents around 7.5% of GDP (5% for residents, 2.5% for non-residents)…..This figure represented 11.7% of GDP, 0.4% more than in 2016.  ( Spain)

Numbers must have been hit already in what is as you can see an important economic area. One sector of this is illustrated by the German airline Lufthansa which has a share price dipping below 9 Euros or down 11% today as opposed to over 15 Euros as recently as the 19th of February. There are the beginnings of an official response as you can see from @LiveSquawk below.

Spanish Foreign Minister Gonzalez: Spain To Special Steps To Support Tourism

I presume the minister means the tourism sector here as there is nothing that can be done about current tourism as quarantines and the like move in exactly the opposite direction.

There is also the specific case of Italy where it is easier now I think to say what is open rather than closed. As the economic numbers will be out of date we can try and get a measure from the stock market. We see that the FTSE MIB index is at 17,000 as I type this as opposed to 25,477 on the 19th of last month. It is of course far from a perfect measure but it is at least timely and we get another hint from the bond market. Here we see for all the talk of yield falls elsewhere the ten-year yield has risen to 1.3% as opposed to the 0.9% it had fallen to. That is a signal that there are fears for how much the economy will shrink and how this will affect debt dynamics albeit we also get a sign of the times that an economic contraction that looks large like this only raises bond yields by a small amount.

Meanwhile actual economic data as just realised was better.

In January 2020 compared with December 2019, seasonally adjusted industrial production rose by 2.3% in the euro area (EA19) and by 2.0% in the EU27, according to estimates from Eurostat, the statistical office of the
European Union. In December 2019, industrial production fell by 1.8% in the euro area and by 1.6% in the EU27.

The accompanying chart shows a pick-up in spite of this also being true.

In January 2020 compared with January 2019, industrial production decreased by 1.9% in the euro area and by
1.5% in the EU27.

The problem is that such numbers now feel like they are from a different economic age.

The Euro

This has been strengthening through this phase as we note that the ECB effective or trade weighted index was 94.9 on the 19th of February and was 98.14 yesterday. So if there is a currency war it is losing.

As to causes I think there is a bit of a Germany effect an the interrelated trade surplus. But the main player seems to be the return of the carry trade as Reuters noted this time last year.

On the other hand, the Japanese yen, Swiss franc and euro tend to be carry traders’ funding currencies of choice, as their low yields make them attractive to sell.

Yields in Switzerland on the benchmark bond return -0.35 percent; in Germany barely 0.07 percent. But the euro has been particularly popular this year as the struggling economy has further delayed policy tightening plans in the bloc.

Of course both Euro interest-rates and yields went lower later in the year as the ECB eased policy yet again. But can you spot the current catch as Reuters continues?

Should U.S. growth deteriorate, international trade conflicts escalate or the end of the decade-long bull run crystallise, the resulting volatility spike can send “safe” currencies such as the yen, euro and Swiss franc shooting higher, while inflicting losses on riskier emerging markets.

Comment

There is quite an economic shock being applied to the Euro area right now and it is currently being headlined by Italy. In terms of a response the Euro area has been quiet so far in terms of action although ECB President Christine Lagarde has undertaken some open-mouth operations.

Lagarde, speaking on a conference call late on Tuesday, warned that without concerted action, Europe risks seeing “a scenario that will remind many of us of the 2008 Great Financial Crisis,” according to a person familiar with her comments. With the right response, the shock will likely prove temporary, she added. ( Bloomberg).

 

I have no idea how she thinks monetary action will help much with a virus pandemic but of course in places she goes ( Greece, Argentina) things often get worse and indeed much worse. She has also rather contradicted herself referring to the great financial crisis because she chose not to coordinate her moves with the US Federal Reserve as happened back then. Also all her hot air contrasts rather with her new status as a committed climate change warrior.

A real problem is the limited room for manoeuvre she has which was deliberate. In my opinion she was given the job and was supposed to have a long honeymoon period because her predecessor Mario Draghi had set policy for the early part of her term. But as so often in life  we are reminded of the Harold MacMillan statement “events, dear boy, events” and now Christine Lagarde has quite a few important decisions to make. Even worse she has limited room. It used to be the case that the two-year yield of Germany was a guide but -1% seems unlikely and instead we may get a frankly ridiculous 0.1% reduction to -0.6% in the Deposit Rate.

The ECB may follow the Bank of England path and go for some credit easing to rev up the housing market, so expect plenty of rhetoric that it will boost smaller businesses. We may see the credit easing TLTRO with a lower interest-rate than the headline to boost the banks ( presented as good for business borrowers).

However the main moves now especially in the Euro area are fiscal even more than elsewhere as the monetary ones have been heavily used. So the ECB could increase its QE purchases to oil that wheel. Eyes may switch to European Commission President Von der Leyen’s statement yesterday.

These will concern in particular how to apply flexibility in the context of the Stability and Growth Pact and on the provision of State Aid.

I expect some action here although it is awkward as again President Von der Leyen had a pretty disastrous term as German Defence Minister. Although not for her, I mean for the German armed forces. So buckle up and let’s cross our fingers.

Also do not forget there may be a knock on effect for interest-rates in Denmark and Switzerland in particular as well as Sweden.

The Investing Channel