Germany and Deutsche Bank both face economic problems

One of the supposed constants of the credit crunch era has been the economic performance of Germany. Earlier this week saw a type of confirmation of past trends as the European Central Bank or ECB updated its capital key, which is calculated on the basis show below.

The shares of the NCBs in the ECB’s capital are weighted according to the share of the respective Member States in the total population and gross domestic product of the European Union (EU), in equal measure.

Few will be surprised to read that in Euro area terms ( other European Union members are ECB shareholders with the Bank of England at 14.33%) the share of Germany has risen for 25.6% to 26.4%. That poses an issue for any future ECB QE especially as the Italian share has declined. But a little food for thought is provided by the fact that the Bank of England share went up proportionately more.

The economic outlook

As the latest monthly economic report from the Bundesbank points out the situation is not starting from its usual strength.

Economic output in Germany dipped slightly in
the third quarter of 2018. According to the
Federal Statistical Office’s flash estimate, real
gross domestic product (GDP) contracted by
0.2% in seasonal and calendar-adjusted terms
as compared to the previous quarter.

That has tended to be swept under the carpet by the media partly because of this sort of analysis.

This decline was mainly caused by a strong temporary
one-off effect in the automotive sector.

Central banks always tell you a decline is temporary until they are forced not too and in this instance we see two bits at this particular cherry as “temporary” finds “one-off” added to it. But the detail begs a question.

Major problems in connection with the introduction
of a new EU-wide standard for measuring exhaust emissions led to significant production
stoppages and a steep drop in motor vehicle
exports.

Fair enough in itself but we know from our past analysis that production boomed ahead of this so we are counting the down but omitting the up. Whereas next we got something I had been suggesting was on the cards.

At the same time, private consumption was temporarily absent as an important force driving the economy.

This reminds me of my analysis from October 12th.

 Regular readers will be aware of the way that money supply growth has been fading in the Euro area over the past year or so, and thus will not be surprised to see official forecasts of a boom if not fading to dust being more sanguine.

The official view blames the automotive sector but if we take the estimate of that below we are left with economic growth of a mere 0.1%.

 IHS Markit estimates that the autos drag on Germany was around -0.3 ppts on GDP in Q3

Apparently that is a boom according to the Bundesbank as its view is that the economy marches on.

Despite these temporary one-off effects, the economic
boom in Germany continues.

Indeed we might permit ourselves a wry smile as the usual consensus that good weather boosts an economy gets dropped like a hot potato.

as well as the exceptionally hot, dry
weather during the summer months.

No ice-creams or suntan oil apparently.

What about now?

The official view is of a powerful rebound this quarter but the Markit PMI survey seems to be struggling to find that.

 If anything, the underlying growth trajectory for the industry remains downward: German manufacturers reported a near stagnation of output in November, the sharpest reduction in total new orders for four years and a fall in exports not seen since mid-2013. Moreover, Czech goods producers, who are sensitive to developments in the autos sector, again commented on major disruption,

If we look wider we see this.

The Composite Output Index slipped to a near four-year low of 52.3 in November, down from 53.4 in October.

Moving to this morning’s official data we were told this.

In October 2018, production in industry was down by 0.5% from the previous month on a price, seasonally and calendar adjusted basis according to provisional data of the Federal Statistical Office (Destatis).

It was 1.6% higher than a year ago on the other side of the coin but Bundesbank hopes of a surge in consumption do not seem to be shared by producers.

The production of consumer goods showed a decrease of 3.2%.

Yesterday’s manufacturing orders posed their own questions.

+0.3% on the previous month (price, seasonally and calendar adjusted)
-2.7% on the same month a year earlier (price and calendar adjusted)

Deutsche Bank

The vultures are circling again and here is how the Wall Street Journal summed it up yesterday.

Deutsche Bank shares were down about 4% in afternoon trading Thursday in Frankfurt, roughly in line with European banks amid broader market declines. Deutsche Bank shares have fallen 51% this year to all-time lows below €8 ($9.08).

As I type this it has failed to benefit much from today’s equity market bounce and is at 7.73 Euros. Perhaps because investors are worried that if it has not done well out of “the economic boom” then prospects during any slow down look decidedly dodgy. Also perhaps buyers are too busy laughing at the unintentional comedy here.

Deutsche Bank on Thursday and last week defended senior executives. Improving compliance and money-laundering controls “has been a real emphasis of current management,” and the bank has made “enormous investments” in fighting financial crime, said Mr. von Moltke, who joined the bank in 2017, in the CNBC interview.

Could it do any worse? The numbers are something of a riposte also to those like Kenneth Rogoff who blame cash and Bitcoin for financial crime.

Deutsche Bank processed an additional €31bn of questionable funds for Danske Bank than previously thought – that takes the total amount of money processed by the German lender for Danske’s tiny Estonian branch to €163bn ( Financial Times).

That compares to the present market value of 16 billion Euros for its shares. That poses more than a few questions for such a large bank and whilst banking sectors in general have been under pressure Deutsche Bank has been especially so. Personally I do not seem how merging it with Commerzbank would improve matters apart from putting a smoke screen over the figures for a year or two. One thing without doubt is that it would make the too big to fail issue even worse.

Comment

If we look at the broad sweep Germany has responded to the Euro area monetary slow down as we would have expected. What is less clear is what happens next? This quarter has not so far show the bounce back you might expect except in one area. The positive area is the labour market where employment is 1.2% higher than a year ago and wages have risen with some estimates around 3%. So the second half of 2018 seems set to be a relatively weak one.

One area which must be an issue is the role of the banks because as they, and Deutsche Bank especially, get weaker how can they support the economy via lending to businesses? At least with the fiscal position strong ( running a surplus) Germany has ammunition for further bailouts.

Moving back to the ECB I did say I would return to the capital key change. It means that under any future QE programme it would buy relatively more German bunds except with its bond yields so low with many negative it does not need it. Also should the slow down persist there is the issue of it being despite monetary policy being so easy.

 

 

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The world of negative interest-rates now has negative economic growth too

It was not that long ago that many of us “experts” in the interest-rate market felt that negative interest-rates could not be sustained. Back then the past Swiss example could be considered a tax – which remains a way of considering negative interest-rates – and the flicker in Japan was covered by it being Japan. Yesterday brought some fascinating news from the front line which has been in danger of being ignored in the current news flow.

Sweden’s GDP decreased by 0.2 percent in the third quarter of 2018, seasonally adjusted, compared with the second quarter of 2018. GDP increased by 1.6 percent, working-day adjusted, compared with the third quarter of 2017. ( Sweden Statistics).

Firstly let me reassure you that Sweden has no Brexit style plans. What it does have is negative interest-rates as this from the Riksbank shows.

Consequently, in line with the previous forecast, the Executive Board has decided to hold the repo rate unchanged at -0.50 per cent.

I bet they now regret opening their latest forward guidance report like this.

Since the Monetary Policy Report in September, economic developments have been largely as expected, both in Sweden and abroad.

In fact the Riksbank was expecting this.

The most recently published National Accounts paint a picture of  slightly weaker GDP growth in recent years. Nevertheless, the Riksbank deems that economic activity in Sweden has been and continues to be strong.

In fact it has been so nonplussed that it has already reached for the central banking playbook and wondered what is Swedish for Johnny Foreigner?

Riksbank Floden: Sees Increased Uncertainty In World Economy ( @LiveSquawk )

Those who have followed my analysis that central banks will delay moving out of extraordinary monetary policy and negative interest-rates and thus are in danger of being trapped, will have a wry smile at this.

The forecast for the repo rate is unchanged since
the monetary policy meeting in September and indicates that the repo rate will be raised by 0.25
percentage points either in December or in February. As with the first raise, monetary policy will also
subsequently be adjusted according to the prospects for inflation.

That’s the spirit! You keep interest-rates negative through a strong phase of economic growth then you raise them when you have a quarterly decline. Oh hang on. I am not being clever after the event here because a month or so before the Riksbank report on the 6th of September I pointed out this.

This is also true of Sweden because if we look at the narrow measure or M1 we see that an annual rate of growth of 10.5% in July 2017 was replaced with 6.3% this July. …..A similar but less volatile pattern can be seen from the broad money measure M3. That was growing at an annual rate of 8.3% in July 2015 as opposed to the 5.1% of this July.

Since then M1 has stabilised but M3 has fallen further and was 4.5% in October. In fact if you were looking for an area it might effect then it would be domestic consumption so lets take a look.

Household consumption expenditures decreased by 1.0 percent and government consumption expenditures remained unchanged, seasonally adjusted, compared with the previous quarter ( Sweden Statistics).

Time for page 2 of the central banking play book.

Riksbank’s Floden: Recent Data Since Latest Policy Meeting Have Been Disappointing -But There Were Some Temporary Effects In 3Q GDP Data,

Something else caught my eye and it was this.

 Exports grew by 0.3 percent and imports declined by 0.6 percent.

So foreign demand flattered the numbers in a rebuttal to the central banking play book. But if we look at the overall pattern then economics 101 has yet more to think about.

J curve R.I.P. (?) – In Sweden, 2018 is heading for the worst trade year ever. The Oct deficit was SEK8.4bn. One observation: J curve effect does not work and thus the exchange rate channel (on real economy) is partially broken.   ( Stefan Mullin)

So let’s see you have negative interest-rates to boost domestic demand which is falling and you look to drive the currency lower which does not seem to be helping trade. Oh and you plan to raise interest-rates into a monetary decline. What could go wrong?

As it is the end of the week let us have some humour albeit of the gallows variety from Forex Crunch yesterday.

Analysts at TD Securities suggest that their nowcast models point to a 0.6% q/q gain to Sweden’s GDP (mkt: 0.2% q/q on a wide range of estimates), which if materialised would leave TD (and likely the Riksbank) comfortable with a December rate hike

Switzerland

Let us start with a response from Nikolay Markov of Pictet Asset Management.

GDP growth plunged to its lowest pace since the introduction of negative rates in Q1 2015. There is no reason to panic as this is a temporary drop:

There are few things more likely to cause a panic than being told there is no reason for it. I also note he was not so kind to the Swedes. Let us investigate using Swiss Statistics.

Switzerland’s GDP fell by 0.2% in the 3rd quarter of 2018, after climbing by 0.7% in the previous quarter. The strong, continuous growth phase enjoyed by the Swiss economy for one and a half years was suddenly interrupted.

The change has seen annual growth dip from 3.5% to 2.4% so different to Sweden although there has been a fall in the growth of domestic consumption. Quite what a central bank with an interest-rate of -0.75% can do about falling domestic consumption is a moot point. A driver of the decline is a familiar one.

Value added in manufacturing dipped slightly (−0.6%);  Total exports of goods (−4.2%) also contracted substantially.

The official view is that is just a blip but it does require watching as I note this area still seems to be troubled as this from earlier shows.

How cold is ‘s auto market? Passenger car sales down 28% in first 3 weeks of Nov. Whole year drop “inevitable”. Car dealers’ inventory climbing and many of them making losses. Authority said bringing back purchase tax cut will not help much. ( @YuanTalks )

Just as a reminder the Swiss National Bank holds some 778.05 billion Swiss Francs of foreign currency investments as a result of its interventions to reduce the exchange-rate of the Swissy.

Comment

These developments add to those at some other members of the negative interest-rates club or what is called NIRP.

German economic growth has stalled. As the Federal Statistical Office (Destatis) already reported in its first release of 14 November 2018, the gross domestic product (GDP) in the third quarter of 2018 was by 0.2% lower – upon price, seasonal and calendar adjustment – than in the second quarter of 2018.

And another part of discovering Japan.

Japan’s economy shrank in the third quarter as natural disasters hit spending and disrupted exports.

The economy contracted by an annualised 1.2% between July and September, preliminary figures showed. ( BBC )

As you can see we go to part three of the play book as the poor old weather takes another pounding. Quite what this has done to IMF News I am not sure as imagine how it would report such numbers for the UK?

has had an extended period of strong economic growth—GDP expected to rise by 1.1% in 2018.

 

Perhaps it has been discombobulated by a period when expansionary monetary policy has not only crunched to a halt but gone into reverse at least for a bit. But imagine you are a central banker right now wondering of this may go on and you will be starting it with interest-rates already negative. Or to use the old City phrase, how are you left?

Oh and hot off this morning’s press there is also this.

In the third quarter of 2018 the seasonally and calendar adjusted, chained volume measure of Gross Domestic Product (GDP) decreased by 0.1 per cent to the previous quarter and increased by 0.7 per cent in comparison with the third quarter of 2017. ( Italy Statistics)

Japan

There as been a development in something predicted by us on here quite some time ago. So without further ado let me hand you over to The Japan Times.

Japan is considering transforming a helicopter destroyer into an aircraft carrier that can accommodate fighter jets, a government source said Tuesday,

 

 

 

 

What is happening to the economy of Germany?

This morning has brought news which will bring a smile of satisfaction to the central bankers at the ECB (European Central Bank). From the German statistics office.

The harmonised index of consumer prices (HICP) for Germany, which is calculated for European purposes, rose by 2.2% in September 2018 on September 2017. Compared with August 2018, the HICP increased by 0.4% in September 2018.

All the ECB’s efforts have got German inflation pretty much to where they want it to be. It has been quite an effort as the official deposit rate is still -0.4% and there are still around US $1.5 trillion of bonds with a negative yield in the Euro area. But we are near to the target and the extra 0.2% can be responded to by pointing out that the amount of monthly QE is on its way to zero.

The ordinary German consumer and worker may not be quite so keen as items downgraded to non-core by central bankers are important to them.

 Energy prices rose 7.7% in September 2018 on September 2017. The rate of energy price increase thus increased again (August 2018: +6.9%). ………Food prices rose above average (+2.8%) from September 2017 to September 2018. The year-on-year price increase thus accelerated slightly in September 2018 ( August 2018: +2.5%).  ( From the German CPI detail)

Indeed they may be wondering how to translate ” I cannot eat an I-Pad” into German?

Consumers benefited, among other things, of lower prices of telephones (-5.3%) and consumer electronics (-4.6%).

Those who think that rents are related to real wage growth will get a little food for thought from this.

 A major factor contributing to the increase in service prices was the development of net rents exclusive of heating expenses (+1.5%), as households spend a large part of their consumption expenditure on this item.

Travelling through the detail shows us that whilst the aggregate looks good in fact the inflation numbers have only moved to around the target level because of energy costs. All that monetary easing had little effect on consumer inflation but of course saw large wealth gains for those holding assets and subsidised government borrowing costs.

Asset Prices

This has been an area of satisfaction for the central banker play book as we note that in the first two quarters of 2018 house prices rose at an annual rate of 5.5% and 4.7%. The index set at 100 in 2015 has reached 115.1. So a win double for the establishment as it can claim wealth effects of between 4% and 5% whilst as we have observed above tell the ordinary person that via the use of fantasy imputed rents inflation in this area is only 1.5%.

Although as DW pointed out in May last year not even every central banker is a believer.

Bundesbank warns of German real estate bubble

Why might this be?

Due to mortgage interest rates of well below two percent, Germany has been experiencing a rapid transition towards home ownership in recent years, now creating fears familiar in many other property markets. Housing prices, which were relatively cheap compared with other European countries in the past, have risen sharply.

Real estate prices in cities like Berlin, Hamburg, Munich and Frankfurt have increased by more than 60 percent since 2010, according to recent estimates by the German central bank, the Bundesbank.

We look from time to time for examples of mortgage rates and DW provided us with one.

Commerzbank, the country’s second-largest lender, offers a mortgage with an ultra-cheap fixed rate of just 0.94 percent for a 10-year loan.

It is hard to over emphasise how extraordinary that is! Also should it carry on it may lead to quite a change in the structure of German life.

For many well-off Germans with permanent jobs renting no longer makes sense.

Since then house prices have continued to rise.

Economic growth

As recently as the middle of June the German Bundesbank was very upbeat.

Germany’s economic boom will continue. The already high level of capacity utilisation in the economy will increase up until 2020,

Although hang on.

although growth is unlikely to be quite as strong as in 2017. Growth in exports and business investment will be less strong. In addition, the rising shortage of skilled workers will increasingly dampen employment growth.

Indeed as we look at the specifics frankly it does not look much of a boom to me.

Against this backdrop, the Bundesbank‘s economists expect calendar-adjusted economic growth of 2.0% this year and 1.9% next year. In 2020, real gross domestic product (GDP) could increase by 1.6% in calendar-adjusted terms.

If we apply the rule that has been suggested in the comments on here that official economic growth needs to be 2% per annum for people to feel it then Germany may even be slipping backwards. This week as MarketWatch points out below has seen others fall in line with this growth but perhaps not as we know it scenario.

Germany’s economic growth is now expected to come in at 1.8% this year, rather than the 2.3% forecast previously, the government said Thursday in its autumn report. Next year’s expansion is now seen at 1.8% instead of 2.1%……..Earlier this week, the International Monetary Fund cut its growth forecasts for Germany to 1.9% for both this year and the next, decreases of 0.3 and 0.2 percentage points respectively.

We can bring this up to date by noting the industrial production figures released today by Eurostat. These show a flatlining in August meaning that the annual figure had declined by 0.5%.

Comment

After a good spell for the German economy ( which expanded by 2.2% in 2017) we are starting to wonder if that was as good as it gets? Regular readers will be aware of the way that money supply growth has been fading in the Euro area over the past year or so, and thus will not be surprised to see official forecasts of a boom if not fading to dust being more sanguine. As the money supply changes have as a major factor the fading of ECB QE we return to the theme of Euro area economies being monetary junkies which perhaps Mario Draghi has confirmed this morning.

*DRAGHI: SIGNIFICANT MONETARY POLICY STIMULUS IS STILL NEEDED

After all we are in official parlance still in a broad-based expansion. Moving back to Germany it is starting a little bit to feel like what happened to high streets when they lost individuality and became clones. Some economic growth accompanied by asset price rises whilst official inflation rises by less than you might have thought.Or the equivalent of finding Starbucks and various estate agents on every high street,or putting it another way look at this from the Bundesbank.

German economic growth will therefore consistently outstrip potential output growth,

Yes even the sub 2% economic growth is apparently too much just like most of us in Europe. One can go too far of course as there are the surpluses to consider in trade and government finances. The former was supposed to be something that was going to be dealt with post credit crunch but by now you know the familiar and some might think never-ending story. Sometimes life feels a bit like this experience for a City-AM journalist.

Hey . How am I meant to log into my account to report my lost phone when the login process requires sending a text to my phone?

As has been pointed out the concept of Catch-22 has reached Milennials. Let me leave you with something for the weekend which believe it or not is to promote Frankfurt.

 

 

The ongoing saga that is Deutsche Bank rumbles on

As the credit crunch unfolded the story so often found its way to the banking sector and the banks. But as we approach a decade from the collapse of Lehman Brothers I doubt anyone realised the story would still so often be about them. A headliner in this particular category has been my former employer Deutsche Bank. It has turned out to be like the Black Knight in the Monty Python sketch where all troubles are “tis but a scratch” and returns to the fray. If we look back it was not explicitly bailed out by Germany although of course there were a range of measures which implicitly helped it. For example the government programme to help interbank lending and the interest-rate cuts and liquidity supply programmes of the European Central Bank ( ECB). Come to think of it we would not have expected the ECB to still be pursuing monetary easing a decade later either. Both sagas are entertwined and indeed incestuous.

As in so many cases Deutsche Bank was able to avail itself of the US bank support structure as Wall Street Parade points out.

According to the Government Accountability Office (GAO), Deutsche Bank received cumulative loans totaling $77 billion under the Federal Reserve’s Primary Dealer Credit Facility (PDCF) and $277 billion in cumulative loans under the Term Securities Lending Facility (TSLF) for a total of $354 billion.

That now seems even more significant as we have had several periods where European and Japanese banks have been singing along with Aloe Blacc.

I need a dollar, dollar, a dollar that’s what I need (Hey Hey),
Well I need a dollar, dollar, a dollar that’s what I need (Hey Hey),
Said I need a dollar, dollar, a dollar that’s what I need,
And if I share with you my story, Will you share your dollar with me?

This is in addition to the gains at the time which were liquidity and US $354 billion is quite a lot of it even in these inflated times and a type of bailout from a below market interest-rate.

On the other side of the ledger Deutsche Bank has provided support to various taxpayers around the world via the fines it has paid as a type of compensation for its many miss-selling scandals. The initial claims that these were a few rotten apples turned out to be an organisation that was rotten to the core. According to FN London it has paid around US $8 billion in fines and agreed to compensate US consumers with US $4.1 billion. So has in a sense made some recompense for the liquidity received in the US although some of the Li(e)bor fines were received by the UK.

Share Price

This is a signal of trouble again as we see that this week it has spent some time below 10 Euros again.This is significant on several levels. It was considered a sign of trouble in the autumn of 2016 when Deutsche Bank was hitting the headlines for all the wrong reasons. It also pales considerably when we look back as I note this from back in February 2009 from The Guardian.

Deutsche cut the dividend from €4.50

Back at the peak the share price was more like 94 Euros according to my monthly chart. From a shareholder point of view there has also been the pain of various rights issues to bolster the financial position. These tell their own story as the sale of 359.8 million shares raised 8.5 billion Euros  in 2014 whereas three years later the sale of 687.5 million was required to raise 8 billion Euros. The price was in the former 22.5 Euros and in the latter 11.65 Euros.

Putting it another way shareholders stumped up 16.5 billion Euros in these two issues more than doubling the number of shares to 2.066.8 million for the company to now be valued at around 21 billion Euros at the current share price. As ever a marginal price may not be a good guide but in this instance I suspect the total price would be less and not more as after all if you wanted to buy the bank it should be relatively easy.

To my mind this is made an even bigger factor by the way that the current situation is so bank friendly. Monetary policy in the Euro area remains very expansionary and we have just seen a phase described as a Euroboom. If we return to Germany’s home base we see an economy that since 2014 has grown by around 2% per annum and according to the German Bundesbank house price index (127 cities) prices rose by 9% in 2016 and 9.1% in 2017, meaning the asset base of the mortgage book has strengthened considerably. Yet in spite of all this good news the share price not only fails to recover it has headed back to the doldrums.

Fixing a hole?

The Financial Times reported this on Tuesday.

To many observers in Frankfurt a tie-up between Deutsche Bank and Commerzbank is not seen as a question of if, but when.  The prevailing view among the banking cognoscenti in Germany’s financial capital is that the country’s two largest listed lenders are very likely to merge eventually.

Eventually?

There are two scenarios that could accelerate the potential merger. One is that Deutsche realises that it is unable to turn itself round under its own steam; the other is that a foreign peer tables a bid for Commerzbank, forcing Deutsche’s chief executive Christian Sewing to make a counter offer.

Forcing? I did enjoy the reference to Deutsche turning itself around under its own steam! How’s that going after a decade? As to the second sentence below it is hard not to laugh.

Assuming a 35 per cent premium on Commerzbank’s current market capitalisation, Deutsche would have to pay €14bn for its smaller rival. “There are different ways to structure this deal but it surely would not be in cash,” said a Frankfurt-based investment banker.

If Deutsche had access to €14 billion in cash it wouldn’t need to buy Commerbank.

Comment

There is quite a bit to consider here as we see that in spite of an economic environment that is very bank friendly Deutsche Bank never seems to actually recover. More money has been taken from shareholders who must be worried about the next downturn especially as the issue below has continued to fester. From Reuters in June 2016.

“Among the G-SIBs, Deutsche Bank appears to be the most important net contributor to systemic risks, followed by HSBC  and Credit Suisse ,” the fund said…….“The relative importance of Deutsche Bank underscores the importance of risk management, intense supervision of G-SIBs and the close monitoring of their cross-border exposures,” the IMF said, adding it was also important to quickly put in place measures for winding down troubled banks.

This is a reminder of the worries about its derivatives book and its global links. It was hard not to think of that yesterday as rumours spread about Germany offering financial aid to Turkey.

As to the proposed merger with Commerzbank has everybody suddenly forgotten the problems of Too Big To Fail or TBTF banks?

With €1900bn in total assets, a merged Deutsche-Commerzbank would be the third-largest European bank after HSBC and BNP Paribas.  ( FT)

Oh and as to the question posed by etfmaven in the comments the experience in the credit crunch era is a pretty resounding no.

Do two lousy banks make one good one?

Shareholders of Commerzbank may also acquire a liking for the Pet Shop Boys.

What have I, what have I, what have I done to deserve this?
What have I, what have I, what have I done to deserve this?

 

What is driving bond yields these days?

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

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

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

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

Economic Growth

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

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

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

Inflation

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

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

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

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

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

well-anchored, longer-term inflation expectations,

 

The sum of short-term interest-rates

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

QE

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

Exchange Rate

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

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

Comment

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

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

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

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

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

Is everything based on the short-term now?

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

 

 

Trade Wars what are they good for?

This week trade is in the news mostly because of the Donald and his policy of America First. This has involved looking to take jobs back to America which is interesting when apparently the jobs situation is so good.

Our economy is perhaps BETTER than it has ever been. Companies doing really well, and moving back to America, and jobs numbers are the best in 44 years. ( @realDonaldTrump )

This has involved various threats over trade such as the NAFTA agreement primarily with Canada and Mexico and of course who can think of Mexico without mulling the plan to put a bit more than another brick in the wall? Back in March there was the Trans Pacific Partnership or TPP. From Politico.

While President Donald Trump announced steel and aluminum tariffs Thursday, officials from several of the United States’ closest allies were 5,000 miles away in Santiago, Chile, signing a major free-trade deal that the U.S. had negotiated — and then walked away from.

The steel and aluminium tariffs were an attempt to deal with China a subject to which President Trump has returned only recently. From the Financial Times.

Equities sold off and havens firmed on Tuesday after Donald Trump ordered officials to draft plans for tariffs on a further $200bn in Chinese imports should Beijing not abandon plans to retaliate against $50bn in US duties on imports announced last week.

According to the Peterson Institute there has been a shift in the composition of the original US tariff plan for China.

 Overall, 95 percent of the products are intermediate inputs or capital equipment. Relative to the initial list proposed by the Office of the US Trade Representative on April 3, 2018, coverage of intermediate inputs has been expanded considerably ……….Top added products are semiconductors ($3.6 billion) and plastics ($2.2 billion), as well as other intermediate inputs and capital equipment. Semiconductors are found in consumer products used in everyday life such as televisions, personal computers, smartphones, and automobiles.

The reason this is significant is that the world has moved on from even the “just in time” manufacturing model with so many parts be in sourced abroad even in what you might think are domestic products. This means that supply chains are often complex and what seems minor can turn out to be a big deal. After all what use are brakes without brake pads?

Thinking ahead

Whilst currently China is in the sights of President Trump this mornings news from the ECB seems likely to eventually get his attention.

In April 2018 the euro area current account recorded a surplus of €28.4 billion.

Which means this.

The 12-month cumulated current account for the period ending in April 2018 recorded a surplus of €413.7 billion (3.7% of euro area GDP), compared with €361.3 billion (3.3% of euro area GDP) in the 12 months to April 2017.

 

 

So the Euro area has a big current account surplus and it is growing.

This development was due to increases in the surpluses for services (from €46.1 billion to €106.1 billion) and goods (from €347.2 billion to €353.9 billion

There is plenty for the Donald to get his teeth into there and let’s face it the main player here is Germany with its trade surpluses.

Trade what is it good for?

International trade brings a variety of gains. At the simplest level it is access to goods and resources that are unavailable in a particular country. Perhaps the clearest example of that is Japan which has few natural resources and would be able to have little economic activity if it could not import them. That leads to the next part which is the ability to buy better goods and services which if we stick with the Japanese theme was illustrated by the way the UK bought so many of their cars. Of course this has moved on with Japanese manufacturers now making cars in the UK which shows how complex these issues can be.

Also the provision of larger markets will allow some producers to exist at all and will put pressure on them in terms of price and quality. Thus in a nutshell we end up with more and better goods and services. It is on these roads that trade boosts world economic activity and it is generally true that world trade growth exceeds world economic activity of GDP (Gross Domestic Product) growth.

Since the Second World War, the
volume of world merchandise trade
has tended to grow about 1.5 times
faster than world GDP, although in the
1990s it grew more than twice as fast. ( World Trade Organisation)

Although like in so many other areas things are not what they were.

However, in the aftermath of the global
financial crisis the ratio of trade growth
to GDP growth has fallen to around 1:1.

Although last year was a good year for trade according to the WTO.

World merchandise trade
volume grew by 4.7 per
cent in 2017 after just
1.8 per cent growth
in 2016.

How Much?

Trying to specify the gains above is far from easy. In March there was a paper from the NBER which had a go.

About 8 cents out of every dollar spent in the United States is spent on imports………..The estimates of gains from trade for the US economy that we review range from 2 to 8 percent of GDP.

Actually there were further gains too.

When the researchers adjust by the fact that domestic production also uses imported intermediate goods — say, German-made transmissions incorporated into U.S.-made cars — based on data in the World Input-Output Database, they conclude that the U.S. import share is 11.4 percent.

So we move on not enormously the wiser as we note that we know much less than we might wish or like. Along the way we are reminded that whilst the US is an enormous factor in world trade in percentage terms it is a relatively insular economy although that is to some extent driven by how large its economy is in the first place.

Any mention of numbers needs to come with a warning as trade statistics are unreliable and pretty universally wrong. Countries disagree with each other regularly about bilateral trade and the numbers for the growing services sector are woeful.

Comment

This is one of the few economic sectors where theory is on a sound footing when it meets reality. We all benefit in myriad ways from trade as so much in modern life is dependent on it. It has enriched us all. But the story is also nuanced as we do not live in a few trade nirvana, For example countries intervene as highlighted by the World Trade Organisation in its annual report.

Other issues raised by members
included China’s lack of timely and
complete notifications on subsidies
and state-trading enterprises,

That is pretty neutral if we consider the way China has driven prices down in some areas to wipe out much competition leading to control of such markets and higher prices down the road. There were plenty of tariffs and trade barriers long before the Donald became US President. Also Germany locked in a comparative trade advantage for itself when it joined the Euro especially if we use the Swiss Franc as a proxy for how a Deutschmark would have traded ( soared) post credit crunch.

Also there is the issue of where the trade benefits go? As this from NBC highlights there were questions all along about the Trans Pacific Partnership.

These included labor rights rules unions said were toothless, rules that could have delayed generics and lead to higher drug prices, and expanded international copyright protection.

This leads us back to the issue of labour struggling (wages) but capital doing rather well in the QE era. Or in another form how Ireland has had economic success but also grotesquely distorted some forms of economic activity via its membership of the European Union and low and in some cases no corporate taxes. Who would have thought a country would not want to levy taxes on Apple? After all with cash reserves of US $285.1 billion and rising it can pay.

So the rhetoric and actions of the Donald does raise fears of trade wars and if it goes further the competitive devaluations of the 1920s. But it is also true that there are genuine issues at play which get hidden in the melee a bit like Harry Kane after his first goal last night.

 

 

 

 

 

 

The ongoing problem that is Deutsche Bank

Yesterday saw what might be called an old friend return to the fore. Back in the day I worked at Deutsche Bank or more specifically for Morgan Grenfell which it purchased. Also we have had reason to follow the story of it on here due to several factors. Firstly it is not only intrinsically linked to the German economy it is of course involved all over the Euro area economy as well as being a global bank. But also because it not only was hurt by the impact of the credit crunch and then of course by the Euro area crisis but a decade or so later from the former it has never really shaken off the view that things went very wrong. You could call it a balance sheet problem or a derivatives based one or a combination of both. Perhaps it is better to put it under the label of trust as in lack of.

Or to put it another way we have seen a form of official denial this morning and we know what to do with them! From Reuters.

“At group level, our financial strength is beyond doubt,” new CEO Christian Sewing said in a letter to staff, candidly admitting that the news flow around the bank was “not good”.

We of course know what to think when somebody tells us something is beyond doubt and if we did not this from the Financial Times helps us out.

My dear colleagues, the last few years were tough. Many of you are sick and tired of bad news. That’s exactly how I feel. But there’s no reason for us to be discouraged. Yes, our share price is at a historic low. But we’ll prove that we have earned a better valuation on the financial markets. We’ve achieved a lot we can be proud of. Now we need to look forward.

It would seem that those backing things with their money are not entirely clear about the “beyond doubt” financial strength as a share price at a historic low tends to indicate exactly the reverse. Also share prices are supposed to look forwards.

Number Crunching

This morning the relief around the actual formation of an Italian government plus no doubt some rallying of the fund management troops has seen the share price rise to 9.5 Euros. But this only corrects around half of yesterday’s 7% fall which saw it bottom at 9.06 Euros and close at 9.18. This compares rather badly with the 15.88 Euros at which it closed 2017 especially as we are supposed to be in a Euro boom. Compared to a year ago the share price is some 42% lower and those of a nervous disposition might do well to look away from the over 94 Euros of early 2007.

The price was lower back in the autumn of 2016 as we mull what “historic low” means? But banks are supposed to do well in the good times and yet Deutsche seems back in the mire. Or to put it another way Welt are pointing out that it was once the same size in terms of market capitalisation as JP Morgan whereas it has now fallen to one- sixteenth of it.

Across the pond

The Wall Street Journal has pointed out this.

The Federal Reserve has designated Deutsche Bank AG’s sprawling U.S. business as being in a “troubled condition,” a rare censure for a major financial institution that has contributed to constraints on its operations, according to people familiar with the matter.

It went on to explain what this meant.

The Fed’s downgrade, which took place about a year ago, is secret and hadn’t previously been made public. The “troubled condition” status—one of the lowest designations employed by the Fed—has influenced th bank’s moves to reduce risk-taking in areas including trading and lending to customers.

It also means the bank has had to clear decisions about hiring and firing senior U.S. managers with Fed overseers. Even reassigning job duties and making severance payments for certain employees require Fed approval, the people said.

In one respect this is a welcome move in that it is a regulator acting although we also need to note that the US Fed seems much more enthusiastic about such moves for foreign banks. After all at home it has just announced plans to ease the Volcker Rule.

The issue for Deutsche Bank is that this development calls into question its plans for the US. Is it even in charge of its operations and did it or the US Fed drive the announced changes?

In many ways this is one of the most damning things you can say about a bank.

The Fed also reupped its criticism of Deutsche Bank’s financial documentation. Examiners expressed frustration at what they described as the bank’s inability to calculate, at the end of any given day, its exposures to what banks and other clients it had in specific jurisdictions, and over what duration, some of the people said.

Standard and Poors

We have learnt over time that the ratings agencies are like the cavalry which arrived the day after the battle of Little Big Horn. But sometimes they do add a little value.

June 1, 2018–S&P Global Ratings today lowered its
long-term issuer credit ratings (ICR) on Deutsche Bank AG and its core
subsidiaries to ‘BBB+’ from ‘A-‘. The outlook is stable.

So stable that they are downgrading it? Anyway we get some detail as to why this has happened.

The lowering of our long-term issuer credit rating reflects that Deutsche
Bank’s updated strategy envisages a deeper restructuring of the business model
than we previously expected, with associated non-negligible execution risks……the bank
appears set for a period of sustained underperformance compared with peers,
many of whom have now finished restructuring.

Or to put it more bluntly you are in pretty poor shape if you are behind the sorry crew listed below.

By contrast, key peers such as
Barclays, Commerzbank, Credit Suisse, and the Royal Bank of Scotland (RBS)
have now worked through their restructuring and business model optimization
and are already starting to see improved performance.

Comment

The fundamental problem here in my opinion is the view held by many within it that Germany will always have at least two banks of which Deutsche Bank will be one. Even in the protected world of banking that is an extreme position. Combined with the credit crunch and then the Euro area crisis this means that it is time for the Cranberries.

Zombie, zombie, zombie, ei, ei
What’s in your head?
In your head
Zombie, zombie, zombie

It seems to have little clear purpose other than its own survival as it struggles from one crisis to the next. So far it emerges from each of them weaker than before but the official view mimics the “Tis but a scratch” of the Black Knight.

I note some reporting that the ECB says the turnaround is going well whereas I also note that things seem not so hot in a land down under.

Australia is preparing criminal cartel charges against the country’s third-biggest bank and underwriters Deutsche Bank and Citigroup over a $2.3 billion share issue, in an unprecedented move with potential implications for global capital markets. ( Reuters)

It’s a mistake……

These days even higher house prices do not seem to be enough. From its own research in January.

During the current real-estate cycle, i.e., from 2009 to 2017, house prices have risen 80% in large metropolitan areas (A cities) and c. 60% in B and C cities….The tight market situation has pushed house prices up even more strongly in
2017 than in the preceding years. According to bulwiengesa (which covers 126 cities), house prices rose c. 6 ½% and apartment prices more than 10% on average.