Yesterday was a day which was not a good one for Bank of England Governor Mark Carney. Even the usually supine and tame press corps have spotted that Forward Guidance has been a dismal failure especially for those who remortgaged on the hints and promises of higher mortgage rates only to find that they have fallen. In fact the situation was so bad we got an official denial that it had failed. Also the man who told us that monetary policy was not “maxxed out” ended up going down a familiar road with hints of lower interest-rates and more QE (Quantitative Easing). That does not go well with his mantra of higher interest-rate soon! Indeed this was the theme of the Open Mouth Operations as inflation and interest-rates were to be “higher…….or lower”.
We can take this theme wider as the attempts at central planning abroad are not going so well either. If we look at the Far East and Japan the policy of the Bank of Japan which is only a week old is already looking to be in dissarray. What I mean by this is that the mechanisms by which it is supposed to work are via a lower exchange-rate and via wealth effects from a higher stock market. If you boil Abenomics down to its basics then you have these two.
If we start with the value of the Yen then the main transmission mechanism is via the US Dollar exchange rate because it is the reserve currency in which most commodities are priced. But it is now at 116.9 which is stronger than it was before Governor Kuroda announced the move to an interest-rate of -0.1%. Yes the Yen shot lower as an initial response but since it has regained the ground and some. If we move to the Nikkei 225 equity index we see a similar theme where it shot higher on the announcement but since has come back to where it started and is now at 16,819 for the weekend.
The other mechanism that economic theory would suggest to be at play involves lower interest-rates stimulating the economy. We certainly have lower interest-rates although there are exceptions to the official -0.1% and bond yields too are now ultra-low with the ten-year JGB (Japanese Government Bond) falling as low as 0.01% this morning. But if lower interest-rates provided much of a stimulus in Japan we would not have the concept of the “lost decade(s)” would we?
The situation described above has echoes for Mario Draghi and the ECB (European Central Bank). They have cut interest-rates to -0.3% promised further cuts to around -0.5% and are spending 60 billion Euros a month on QE bond purchases. Yet the Euro has gone boing like Zebedee in The Magic Roundabout and is now around 1.12 to the US Dollar. It has also risen to 1.30 versus the UK Pound £. Bloomberg sums it up thus.
The European Central Bank’s own calculation of the single currency’s effective exchange rate against a trade-weighted basket of 38 other currencies stood at 119.9056 on Thursday. That means that the real-world value of the euro has risen faster than the more commonly tracked exchange rate against the dollar.
Trade-weighted, the euro is at the highest level since Jan. 2, 2015,
The rally in 2016 so far has been approximately equivalent to a 0.6% increase in the ECB interest-rate. So we see that in the currency wars which are the major mover and shaker these days the central planners are seeing that their tanks are in retreat. Awkward. Although the ECB is in a better position than Japan because it is seeing some growth it must be wondering if that will now fade a bit.
US Federal Reserve
This is in disarray too right now. I do not particularly mean the response to the 0.25% interest-rate rise which has its own issues. I mean the Forward Guidance that we would get “3-5” more rises of that size in 2016. That has now disappeared with Federal Reserve members suggesting that financial markets have done much of their work for them. In the complicated world in which we live the US Dollar has fallen leading to partly cause the consequences discussed above and the US economy appears to have slowed.
Not good for our “masters of the universe” and the nearest to a world central bank we have.
Are bond yields signaling a recession?
In old-fashioned terms bond yields where they currently are would be signalling more of a depression than a recession. But of course the situation has been distorted by the trillions of bond purchases in the various QE programmes. However if we look at the yield curve we are seeing a reinforcement of this view. From Reuters.
The U.S. two-year/10-year yield curve, the difference between two-year and 10-year borrowing costs, this week fell to 110 basis points, the flattest in eight years…….A flattening yield curve has in the past been a reasonably accurate portent of slowing growth and an inverted curve, when the long-dated yield falls below the short-dated yield, an even more accurate guide to looming recession.
This has worked as a signal reliably in the past although the danger is of course that bond markets are now so distorted and manipulated that it may have changed. One thing we can say is that it is a failure for Forward Guidance that people are discussing it as confidence and psychology matter.
The Baltic Dry Index
This has been falling for a while now. It became fashionable for the economic commentariat to dismiss it hence the phrase Baltic Dry Index Twitter came to be. However rather awkwardly for them it continued to fall.
I know that a move of a particular percentage should have the same impact everywhere but it is at least more symbolic when you see a change from 3 to 2 as the big figure.
Harpex Shipping Index
There are challenges to the methodology of the BDI so let us also take a look at the Harpex which is based on rates for container ships. It hit a high of 646 last summer and since then it too has been falling and seems to have stabilised in 2016 around 364. As you can see it too is signalling in the words of Taylor Swift “trouble,trouble,trouble”.
There are plenty of signals right now that are flashing yellow alert about economic developments. We will have to see how they unfold but there very existence is a challenge to the central planners who bestride the globe proclaiming success as they overlook the moral hazards and junkie culture their polices and actions have encouraged. Eight years into the credit crunch they are in danger of repeating the lost decade from Japan.
Meanwhile the usually sensible and intelligent Gillian Tett has joined the control freak squad in the Financial Times today and returned us to the subject of banning cash so that negative interest-rates would be more effective.
For better or worse, the nature of money is changing. And who knows? If this revolution helps curtail tax evasion and terrorist finance — and makes our lives more convenient along the way, too — it might turn out to be one of the better developments to have emerged from the finance industry in recent years.
There is a good reply pointing out that terrorists use cars and mobile phones so should we ban them too? But underlying this is the fact that the central planners feel they need “More,More,More”
RIP Maurice White
it has been a bad year for music with one of the founders of Earth Wind & Fire dying overnight. Let me leave you with the opening verse of my favourite song of theirs.
Do you remember the
21st night of September?
Love was changing the minds of pretenders
While chasing the clouds away