What is going on at the Bank of Japan?

It is time to take another step on our journey that Graham Parker and the Rumour would have described as discovering Japan as quite a bit is currently going on. On Tuesday eyes turned to the Bank of Japan as it did this according to Marketwatch.

The central bank cut its purchases of Japanese government bonds, known as JGBs, expiring within 10-25 years and those maturing in 25-40 years by ¥10 billion ($88.8 million) each.

It created something of a stir and rippled around financial markets. There were two pretty clear impacts and the first as you might expect was a stronger Yen which has become one of the themes of this week. An opening level of above 113 to the US Dollar has been replaced by just above 111 and any dip in the 110s will give a sour taste to the Friday night glass of sake for Governor Kuroda.

If we look back to this time last year we see that the Yen is stronger on that measure as back then it was above 114 versus the US Dollar. This may seem pretty poor value in return for this.

The Bank will purchase Japanese government bonds (JGBs) so that their amount outstanding will increase at an annual pace of about 80 trillion yen.

Even in these inflated times for assets that is a lot of money and the Bank of Japan is not getting a lot of bang for its buck anymore as we have discussed. It would be particularly awkward if after not getting much progress for the extra (Q)QE any reduction or tapering took it back to where it began. The impact of Quantitative Easing on currencies is something we regularly look at as the impact has become patchy at best and this week has seen us start to wonder about what happens should central banks look to move away from centre stage. That would be a big deal in Japan as a weaker currency is one of the main arrows in the Abenomics quiver. As ever we cannot look at anything in isolation as the US Dollar is in a weaker phase as let me pick this from the Donald as a possible factor partly due to its proximity to me.

Reason I canceled my trip to London is that I am not a big fan of the Obama Administration having sold perhaps the best located and finest embassy in London for “peanuts,” only to build a new one in an off location for 1.2 billion dollars. Bad deal. Wanted me to cut ribbon-NO!

Mind you that is a lot better than what he called certain countries! If nothing else this was to my recollection also planned before the Obama administration.

Bond Markets

You will not be surprised to learn that the price of Japanese Government Bonds fell and yields rose, after all the biggest buyer had slightly emptier pockets. However in spite of some media reports the change here was not large as 0.06% for the ten-year went initially to 0.09% and has now settled at 0.07%. Up to the 7 year maturity remains at negative yields and even the 40 year does not quite yield 1%. If we look at that picture we see how much of a gift that the “independent” Bank of Japan has given the government of Shinzo Abe. It runs a loose fiscal policy where it is borrowing around 20 trillion year a year and has a debt of 1276 trillion Yen as of last September which is around 232% of GDP or Gross Domestic Product. So each year QQE saves the Japanese government a lot of money and allows it to keep its fiscal stimulus. We do not get much analysis of this in the media probably because the Japanese media is well Japanese as we mull the consequences of the owning the Financial Times.

A stronger effect was found in international bond markets which were spooked much more than the domestic one. US government bond prices fell and the 10-year yield went above 2.5% and got some questioning if we were now in a bond bear market? After around three decades of a bull market including of course these days trillions of negative yielding bonds around the globe care and an especially strong signal is needed for that. Maybe we will learn a little more if the US 2-year yield goes above 2% as it is currently threatening to do. But in a world where Italian 10-year bonds yield only 2% there is quite a way to go for a proper bond bear market.

The real economy

If we look at the lost decade(s) era then Japan is experiencing a relatively good phase right now. From The Japan Times.

The economy grew an annualized real 2.5 percent in the July-September period, revised up from preliminary data and marking seven straight quarters of growth — the longest stretch on record —.

Someone got a bit excited with history there I think as there was a time before what we now call the lost decade. However for those who call this success for Abenomics there are some things to consider such as these.

Exports grew 1.5 percent from the previous quarter amid solid overseas demand as the global economy gains traction.

Japan is benefiting from a better world economic situation but like so often in the era of the lost decades it is not generating much from within.

But private consumption, a key factor accounting for nearly 60 percent of GDP, continued to be sluggish with a 0.5 percent decline from the previous quarter as spending on automobiles and mobile phones fell.

Let us mark the fact that we are seeing another country where car demand is falling and move to what is the key economic metric for Japan.

Workers will see a 1 percent increase in their total earnings next year, the most since 1997, as rising profits and the tightest labor market in decades add upward pressure on pay, a Bloomberg survey shows.

Actually what we are not told is that compared to so many Bloomberg reports this is a downgrade as in its world wages have been on the edge of a surge for 3-4 years now. But reality according to the Japan Times is very different as we note the size of the increase it is apparently lauding.

In a sign that worker could receive better pay, a separate survey on the average winter bonus at major companies this year showed a slight increase — 0.01 percent — from a year earlier to ¥880,793, up for the fifth consecutive year.

Comment

There are quite a few things to laud Japan for as we note its ultra low unemployment rate at 2.7% and the way it takes care of its elderly in particular. At the moment the economic wheels are being oiled by a positive world economic situation which of course helps an exporting nation. That poses a question for those crediting Abenomics for the improvement as we note the more recent surveys are not as positive and the rises in commodity and oil prices and the likely effect on a nation with limited natural resources.

But more deeply this weeks market moves are tactically perhaps just a response to the way that “Yield Curve Control” works in practice which currently requires fewer bond purchases. But strategically the Bank of Japan is left with this.

 

That tweet misses out the QQE for Japan and QE for the latter two but we return yet again to monetary policy being pro cyclical and in the case of Japan fiscal policy as well. What could go wrong in a country where demographics are a ticking economic time bomb?

 

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Why have house prices in Italy continued to fall?

One of the features of these times is that economic policy is pretty much invariably house price friendly. Not only have central banks around the world slashed official interest-rates thereby reducing variable mortgage rates but many followed this up with Quantitative Easing bond buying which pushed fixed-rate mortgages (even) lower as well. If that was not enough some of the liquidity created by the QE era was invested in capital cities around the globe by investors looking to spread their risks. In addition we saw various credit easing programmes which were designed to refloat even zombie banks and get them back lending again. In my country this type of credit easing was called the Funding for Lending Scheme which did so by claiming to boost business lending but in reality boosted the mortgage market. Looked at like that we see policies which could not have been much more house price friendly.

If we switch to the Euro area we see that this went as far as the ECB declaring a negative deposit rate ( -0.4%) which it still has in spite of these better economic times and a balance sheet totaling 4.5 trillion Euros. This has led to house price recoveries and in particular in two of the countries which had symbolised a troubled housing market which were of course Ireland and Spain. But intriguingly one country has missed out as we were reminded of only yesterday.

The Italian Difference

Yesterday morning the official statistics body Istat told us this.

According to preliminary estimates, in the third quarter of 2017: the House Price Index (see Italian IPAB) decreased by 0.5% compared with the previous quarter and by
0.8% in comparison to the same quarter of the previous year (it was -0.2% in the second quarter of 2017);

The breakdown shows a small nudge higher for new properties that in aggregate is weaker than the fall in price for exisiting properties.

prices of new dwellings increased by 0.3% compared to the previous quarter and by 0.6% with respect to
the third quarter of 2016 (up from +0.3% observed in the second quarter); prices of existing dwellings
decreased by 0.7% compared to the previous quarter and by 1.3% with respect to the same quarter of the
previous year.

Property owners in Italy may be a little jealous of those in Amsterdam who have just seen a 13.5% rise in house prices in the past year.

A ( space) oddity

The situation gets more curious if we note that as discussed earlier the mortgage market has got more favourable. In terms of credit then there should be more around as at the aggregate level the ECB has expanded its balance sheet and we know that Italian banks took part in this at times on a large scale. Whilst the overall process has been an Italian style shambles there have (finally) been some bank bailouts or rather hybrid bailin/outs.

If we move from credit supply to price we see that mortgage rates have been falling in Italy. The website Statista tells us that the 3.68% of the opening of 2013 was replaced by 2.1% at the half-way point of 2017. The fall was not in a straight line but is a clear fall. Another way of putting this is to use the composite mortgage rate of the Bnak of Italy. When ECB President gave his “Whatever it takes ( to save the Euro speech)” in July 2012 it might also have been save Italian house prices as the mortgage rate fell from 3.95% then to 1.98% as of last November so in essence halved.

So if we apply the play book house prices should been rallying in Italy and maybe strongly.

House Price Slump

Reality is however very different as the data in fact shows annual falls. For example 4.4% in 2014 and 2.6% in 2015 and 0.8% in 2016. Indeed if we look for some perspective in the credit crunch era we see the Financial Times reporting this.

In real terms, Italy’s real house prices have been falling consistently since 2007 and are now 23 per cent lower — a drop that has brought the construction and property sectors to their knees.

If we look back to the credit crunch impact and then the Euro area crisis which then gave Italy a double-whammy hit then we see that lower house prices are covered by Radiohead.

No alarms and no surprises

Although existing property owners may be singing along to the next part of the lyric.

let me out of here

What is more surprising is the fact that the economic improvement has had such a different impact on house prices in Italy compared to its Euro area peers.

Italy was the only country in the EU where house prices contracted in the second quarter of last year, according to the latest figures from Eurostat, the EU statistics agency. In contrast, almost two-thirds of EU countries are reporting house price growth of more than 5 per cent. ( FT )

If we look at the house price index we see that as of the third quarter of last year it was at 98.6 compared to the 100 of 2015. So just as Mario Draghi and the ECB were “pumping up” monetary policy house prices in Italy were doing not much and if anything drifting lower. Looking further back we see that the index was 116.3 in 2010 so it has not been a good period of time for property owners in Italy and that does matter because of this.

and in a country where more than 72 per cent of households own their own home

I have to confess I was not previously aware of what a property owning nation Italy is.

The banks

We have looked many times at the troubled banking sector in Italy and we have seen from the numbers above that the property market and the banking sector have been clutching each other tightly in the credit crunch era. Maybe this is at least part of the reason why the Italian establishment has dithered so much over the banking bailouts required as it waited for a bottom which so far has not arrived. This has left the Italian banking sector with 173.1 billion Euros of bad loans sitting on their balance sheets.

Property now accounts for more corporate bad loans than any other sector: 42 per cent compared with 29 per cent in 2011………And for property-related lending the proportion of loans turning bad has been twice as high as in the manufacturing sector, weighing on banks’ €173bn of bad debts. ( FT)

So something of a death spiral as one zombie sector feeds off another as this reply to me indicates.

The trend is getting better for Italian house market but it is a vicious circle: banks’ sales of repossessed property is also contributing to the prolonged house price contraction. The number of real estate units sold via auction increased 25 % in the last 2 years ( @Raff_Perf )

As The Cranberries would say “Zombie, zombie,zombie”

Disposing of bad property loans has also been slower than for other sectors……… In contrast, banks continue to harbour hopes of greater recovery of secured loans to construction and real estate companies. As a result, this lending has remained in limbo for longer.

Another forward guidance fail?

Comment

One way of looking at Italy right now is of a property owning democracy which has had a sustained fall in house prices. This of course adds to the fact that on an individual basis economic output or GDP has fallen in the Euro area as output stagnated but the population rose meaning the net fall must now be around 5%. It is hard not to wonder if the “Whatever it takes” speech of Mario Draghi was not at least partly driven by rising mortgage rates in Italy ( pre his speech they went over 4%) and falling house prices in his home country. Along the way it is not only the banking sector which is affected.

Construction has almost halved from its pre-crisis level. ( FT)

That puts the UK’s construction problem I looked ta yesterday into perspective doesn’t it?

Looking ahead we see a better economic situation for Italy as it has returned to economic growth. What this has done if we look at annual house price numbers is slowed the decline but not yet caused any rises. In some ways this is welcome as first time buyers will no doubt be grateful that they have not seen the rises for example seen in much of my home country but if with all the monetary policy effort the results are what they are what happens when the next recession turns up?

Still if you want the bill pill Matrix style there is this from AURA who call themselves real estate experts.

“I would say it’s a mathematical fact: house prices cannot drop more than 30%. I believe that this drop of values is over and it’s now time to buy”. Stefano Rossini, Ceo for MutuiSuperket.it,

Perhaps he has never been to Ireland or more curiously Spain.

Me on Core Finance

http://www.corelondon.tv/manufacturing-gives-boost-uk-economy/

 

 

 

The link between “currency wars” and central banks morphing into hedge funds

The credit crunch era has brought us all sort of themes but a lasting one was given to us by Brazil’s Finance Minister back in September of 2010. From the Financial Times.

“We’re in the midst of an international currency war, a general weakening of currency. This threatens us because it takes away our competitiveness,” Mr Mantega said. By publicly asserting the existence of a “currency war”, Mr Mantega has admitted what many policymakers have been saying in private: a rising number of countries see a weaker exchange rate as a way to lift their economies.

The issue of fears that countries were undertaking competitive devaluations was something which raised a spectre of the 1920s being repeated. I note that Wikipedia calls it the Currency War of 2009-11 which is in my opinion around 7 years too short as of the countries mentioned back in the FT article some are still singing the same song and of course Japan redoubled its efforts and some with the advent of Abenomics.

The Euro

It was only last week that we looked at the way Germany has undertaken a stealth devaluation ironically in full media view via its membership of the Euro. But also of course if QE is a way of weakening your currency then the ECB ( European Central Bank) has had the pedal to the metal as it has expanded its balance sheet to around 4.5 billion Euros. On this road it has become something of an extremely large hedge fund of which more later but currently hedge funds seem to be fans of this.

If we combine this with the positive trade balance of the Euro area which has been reinforced this morning by Germany declaring a 25.4 billion current account surplus in November we see why the Euro was strong in the latter part of 2017. We also see perhaps why it has dipped back below 1.20 versus the US Dollar and the UK Pound £ has pushed above 1.13 to the Euro as currency traders wonder who is left to buy the Euro in the short-term?

But let us move on noting that a deposit rate of -0.4% and QE of 30 billion Euros a month would certainly have been seen as a devaluation effort back in September 2010.

Turning Japanese

Has anyone tried harder than the Japanese under Abenomics to reduce the value of their currency? We have seen purchases of pretty much every financial asset ( including for newer readers commercial property and equities) as the Bank of Japan balance sheet soared soared to nearly ( 96%) a years economic output or GDP. This did send the Yen lower but in more recent times it has not done much at all to the disappointment of the authorities in Tokyo. Is that behind this morning’s news that the Bank of Japan eased its bond buying efforts? Rather than us turning Japanese are they now aping us gaijin? It is too early to say but it is intriguing to note that December was a month in which the Bank of Japan’s balance sheet actually shrank. Care is needed here as for example the US Federal Reserve is in the process of shrinking its balance sheet but some data has seen it rise.

Perhaps the Bank of Japan should play some George Michael from its loudspeakers.

Yes I’ve gotta have faith…
Mmm, I gotta have faith
‘Cause I gotta have faith, faith, faith
I gotta have faith-a-faith-a-faith

South Korea and the Won

Last week we got a warning that a new currency wars outbreak was on the cards as this was reported. From CNBC.

South Korea’s central bank chief said that the bank will leave its currency to market forces, but would respond if moves in the won get too big. Lee Ju-yeol said the Bank of Korea will take active steps when herd behavior is seen.

Not quite a full denial but yesterday forexlive reported something you are likely to have already guessed.

Bank of Korea is suspected to have bought around $1.5 billion in USD/KRW during currency trading today.

As we wonder what herd was seen in the Won as of course the “Thundering Herd” or Merrill Lynch is no longer with us? Also as this letter from the Bank of Korea to the FT last year confirms Korea does not play what Janet Kay called “Silly Games”.

First, Korea does not manage exchange rates to prevent currency appreciation. The Korean government does not set a specific target level or direction of the exchange rate. The Korean won exchange rate is basically determined by the market, and intervention is limited to addressing disorderly market movements.

Next time lads it would be best to leave this out.

Second, Korea’s current account surplus should not be understood as evidence of its currency undervaluation.

Of course not. Anyway the Won has been strong.

The South Korean currency surged almost 13 percent last year, as an expanding trade surplus and the nation’s first interest-rate increase in six years boosted its allure. (Bloomberg).

Another way of looking at that is to look back over the credit crunch era. We do see that the Won dropped like a stone against the US Dollar to around 1600 but with ebbs and flows has returned to not far from where it began to the 1060s. Of course we can get some more insight comparing more locally and if we look at the real trade-weighted exchange rates of the BIS ( Bank for International Settlements) then there was a case against the Yen in fact a strong one. Compared to 2010= 100 the Japanese Yen was at 73.7 ( see above) but the Won was at 113. However the claim of a strong currency might get the Chinese knocking at the South Korean’s door as the Yuan was at 121.4.

China

Perhaps the Chinese are now on the case as Bloomberg reports.

The yuan, which headed for its biggest drop in two months on the news, is allowed to move a maximum of 2 percent either side of the fixing. Analysts said the change shows China is confident in the yuan’s current trajectory, which has been one of steady appreciation.

Hedge Fund Alert

There are two pieces of good news for the modern theory of central banks morphing into hedge funds around this morning so let us first go to Switzerland.

According to provisional calculations, the Swiss National Bank (SNB) will report a profit in
the order of CHF 54 billion for the 2017 financial year. The profit on foreign currency
positions amounted to CHF 49 billion. A valuation gain of CHF 3 billion was recorded on
gold holdings. The net result on Swiss franc positions amounted to CHF 2 billion

With all that profit the ordinary Suisse may wonder why they are not getting more?

Confederation and cantons to receive distribution of at least
CHF 2 billion

Whilst the SNB behaves like a late Father Christmas those in charge of the ever growing equity holdings at the Bank of Japan may be partying like it is 1999 and having a celebratory glass of sake on this news.

Japan’s Nikkei 225 reaches fresh 26-year high; ( FT)

Meanwhile a not so polite message may be going from the ECB to the Bank of Finland.

The European Central Bank has sold its bonds of scandal-hit retailer Steinhoff , data showed on Monday, potentially suffering a loss of up to 55% on that investment. (Reuters)

Comment

So there you have it as we see that the label “currency wars” can still be applied albeit that the geography of the main outbreak has moved across the Pacific. Actually Japan was always in the game and it is no surprise that its currency twin the Swiss Franc is the other central bank which has become a subsidiary of a hedge fund. That poses a lot of questions should the currency weaken as the Swissy has albeit so far only on a relatively minor scale. There have been discussions so far this year about how bond markets will survive less QE but I do not see anyone wondering what might happen if the Swiss and Japanese central banks stopped buying equities and even decided to sell some?

For all the fire and fury ( sorry) there remains a simple underlying point which is that if one currency declines falls or devalues then others have to rise. That is especially awkward for central banks as they attempt to explain how trying to manipulate a zero-sum game brings overall benefits.

 

Where next for house prices in Sweden and hence monetary policy?

Today has seen several strands of economic analysis come together so let us stay with yesterday’s topic of housing but move geographically from the UK to Sweden. There is food for thought in the issue that in the UK Sweden is often held up as an example in areas such as education, However there is more food for thought as I note that we are beginning to see denials that “something is going on” in the Swedish housing market as Todd Terry might put it. From the Financial Times.

There is no reason to anticipate a sharp fall in the Swedish housing market despite a housing boom that has seen prices more than double in the past 12 years, according to the chief executive of Stockholm-based Swedbank. The Swedish residential market will slow somewhat, Reuters reported Birgitte Bonnesen saying on a conference call after the bank’s quarterly results on Tuesday, but the chief executive does not see a risk of a sharp fall.

As Swedbank is the largest provider of mortgage credit in Sweden that is pretty close to an official denial that house prices are going to fall and we have learnt what to do with them! Even it had to admit that it does appear that ch-ch-changes are afoot.

Although she acknowledged the Swedish housing market “showed signs of further slowdown” in the latest quarter and the rise in house prices had “dampened”, Ms Bonnesen said the softening — accompanied by a slowdown in the build-up of household debt — was “positive, as it contributes to more sustainable economic development”.

Ah so a bank claiming that lower lending is “positive” so it would have presented its own higher lending in the boom as negative then would it? Of course as you can see below the Financial Times seems to be more concerned about “The Precious” than the effect on the real economy.

Concerns have grown that house prices — which have reached record levels — and mounting household debts somewhat echo the 1990s Swedish banking crisis. If there is a housing market slump and loan losses rise, that could damage the Scandinavian banking sector.

What is going on?

Sweden Statistics tells us that the credit taps seem pretty fully open for housing purposes.

In August, households’ housing loans amounted to SEK 3 035 billion, which is an increase of SEK 17 billion compared with the previous month and SEK 203 billion compared with the corresponding month last year. This means that the annual growth rate of housing loans was 7.2 percent in August, an increase of 0.1 percentage point compared with July.

In addition to the quantity or flow of loans the price or if you prefer mortgage rate is very low.

The average housing loan rate for households for new agreements was 1.58 percent in August, which is unchanged compared with July. The floating interest rate for housing loans was also unchanged compared with the previous month.

Ordinarily lots of cheap money would lead to surging house prices but maybe we have already seen that.

That gives us a longer=term perspective for Stockholm and if we look wider I note that Aviva investors have just tweeted a chart on asset bubbles which has Swedish property price growth at the top just pipping Canada and New Zealand. If you want a wry smile the surge in house prices began as the inflation targeting era began! But with thanks to Finwire and Google Translate this emerged earlier this month.

The prices of condominiums were unchanged in September. This has risen marginally last month. The villa prices, which remained unchanged in August, rose by 1 per cent. This is evidenced by figures produced by Statistics Sweden on behalf of Swedish Mäklarstatistik

Compared to three months ago, prices for both condominiums and villas have risen by 1 per cent. At year-end, price development is +6 percent for condominiums and +9 percent for villas.

So there seems to be something of a fading and maybe a lull if we add in the bit below.

Generally, we have a somewhat cautious market where we see that an increased supply is not matched by
same increase in sales volume……. we also see a gradual increase in the average time it takes between that
The ads are being put out and the property is then being sold.

So there is more supply and a longer time is required to sell neither of which look bullish.

Is Stockholm the canary in the coalmine?

It is hard not to think of London and in my case Nine Elms in particular when you see something like this.

There is not much optimism to be seen there to say the least. Also are such share price falls even legal these days? Perhaps the Riksbank of Sweden should take a trip to Tokyo to see how the Bank of Japan would deal with such a matter. Or they could simply assume that the official data series is more accurate.

Real estate prices for one- or two-dwelling buildings rose by almost 3 percent in the third quarter of 2017 compared with the second quarter. Prices rose by nearly 9 percent on an annual basis in the third quarter, compared with the same period last year.

Comment

There is a lot to consider here so let us bring in the policy of the Swedish central bank the Riksbank.

The Executive Board of the Riksbank has therefore decided to hold the repo rate unchanged at −0.50 per cent and is expecting, as before, not to raise it until the middle of 2018. The purchases of government bonds will continue during the second half of 2017,

As you can see it is full steam ahead for monetary policy with it being very rare amongst major central banks at hinting of continuing very easy policies. We will find out more later this week as its hand may be forced by what the European Central Bank decides and in particular how the Euro exchange rate responds. If the Riksbank had a choice I am sure it would rather be voting on Friday after the ECB rather than tomorrow. Perhaps it can watch the film Bad Timing to fill in the gap.

Also there is something to mull about the state of the real economy summarised here a month ago by the Riksbank itself.

Economic activity in Sweden is strong; GDP grew rapidly in the second quarter and the employment rate is at a historically high level. Inflation has continued to rise and in recent months been higher than expected.

Some would regard that as grounds for a tightening of monetary policy. Of course should it decide to prioritise a weakening housing market with obvious implications for the banks then this would make it easier.

Between 2007 and 2015, cash in circulation decreased by nearly 15 per cent. Cash withdrawals have declined by around a half, both in number of withdrawals and volume of cash withdrawn, over the past ten years…..By far the most common way of paying for goods in shops is by debit or credit card. Around 97 per cent of the population has access to a card…..Sweden is one of the countries in the world where the most card payments are made. The average Swedish citizen made 290 card payments in 2015. The average for the European Union is 104 card payments per year. ( Riksbank in June)

Central banks face an ongoing exit strategy problem

Today features one of the earliest themes of this blog. It can be summarised around the line never get yourself into something without a plan to get out of it. Back in my early days on this website I suggested that when the time came to roll back the interest-rate cuts and Quantitative Easing ( QE) that central banks would dither and delay and thereby act too late. We now know that in generic terms what was happening then wasn’t the half of it as more and more QE was to follow around the world as well as more interest-rate cuts taking some negative. So the problem became ever larger as central banks had more skin in the game and would be even more afraid of any setbacks should they withdraw policy stimulus.

Also there was another feature likely to lead to a delay. You see by the 18th of January 2011 I was pointing out this.

Even worse than this if we go back to the Bank of England’s forecasts for 2010 we can see that they underestimated inflation in 2010 by a considerable amount. This continues the Bank of England’s forecasting record which is now so poor in this area it is abject.

The nuance that has developed over time is that central banks seem to be most woeful at forecasting the most important factor at the time. For example the Bank of England has more recently kept getting wage growth wrong and the ECB raised the issue of 5 year inflation swaps and then led itself down the garden path. Whilst there will be official denials this fact of course is likely to add to the existing penchant to dilly and dally on any policy tightening.

Sweden

This morning has seen this announcement from the Riksbank.

Given this, the Executive Board of the Riksbank has decided to hold the repo rate unchanged at -0.50 per cent and does not expect to raise it until the middle of 2018. Purchases of government bonds will continue during the second half of 2017, as decided in April. At the end of the year, the purchases of government bonds will thus amount to a total of SEK 290 billion, excluding reinvestments.

So it remains very expansionary and here is the apparent justification.

Economic activity is strong and inflation is close to the target of 2 per cent.

Even odder is the enthusiasm for making Swedes better off by making them poorer.

Monetary policy needs to remain expansionary for inflation to continue to be close to 2 per cent……..However, it has taken time and a great deal of support from monetary policy to bring up inflation and inflation expectations

As you can see the view here is that without the policy of the Riksbank the economy of Sweden would somehow disappear off a cliff. But its problem is highlighted in its report.

The Swedish economy is strong. The upturn in inflation has continued and been faster than expected. In   July, inflation was 2.4 per cent in CPIF terms, and 2.1 per cent in terms of the CPIF excluding energy  prices. GDP growth was unexpectedly high in the second quarter. Monthly indicators point to the strong  developments continuing through the second half of the year. Although the inflation outcome for July is  primarily explained mainly by temporarily higher prices for foreign travel, the underlying development  appears stronger than expected. Inflation is therefore expected to be somewhat higher during the  remainder of the year than was forecast in July.

There is something familiar in their inability to forecast either GDP or inflation as we note inflation is above target! Now perhaps they did forecast Del Potro stunning Roger Federer this morning in the US Open tennis but in terms of the day job this continues the poor record of the Riksbank. This matters when you are undertaking what is an extreme monetary policy experiment as for example first-time buyers are unlikely to see this as a triumph.

The rate of increase of housing prices has gradually risen  throughout 2017. In July, housing prices rose by an annual rate of  9 .6 per cent. Surveys show that the general public and estate  agents continue to expect rising housing prices in the period  ahead.

Apologies for the formatting issue but there is a clear problem for Sweden via this issue. There are other issues as we look into the detail of corporate borrowing.

 has increased  in significance in recent years for real estate companies in  particular ( they are talking about securities issuance here)

and personal borrowing.

. Lending to households in the form of pure consumer  loans without collateral has increased at an ever‐higher pace and,  in July, the annual rate of growth amounted to 8 per cent.

Oh and the suggestion that interest-rates could rise next year is an example of Swedish recycling of the Forward Guidance of Mark Carney as this from September last year proves.

Not until the second half of 2017 does the Executive Board consider it appropriate to begin slowly increasing the repo rate.

ECB

By the time you read this you may already know the policy announcement from Mario Draghi but the Riksbank has undertaken a form of trolling.

This could happen if, for example, the Riksbank’s monetary policy deviates too far from that of other countries.

They mean the Euro of course and this morning’s announcement implies they expect little from the ECB today.

Oh Canada

Yesterday’s announcement from the Bank of Canada may have provoked a stream of letters signed Mark of Threadneedle Street mentioning destruction of legacy and questioning whether they understand the true purpose of Forward Guidance.

The Bank of Canada is raising its target for the overnight rate to 1 per cent. The Bank Rate is correspondingly 1 1/4 per cent and the deposit rate is 3/4 per cent.

The rationale really rather reminds us of the situation in Sweden.

Given the stronger-than-expected economic performance, Governing Council judges that today’s removal of some of the considerable monetary policy stimulus in place is warranted.

Of course if we look at house price developments in parts of Canada ( Toronto and Vancouver) there is another similarity and you could argue that the response is far too late as well as being too small.

Comment

There is a fair bit to consider here. As I pointed out earlier the monetary expansionism moved on in both scale and concept ( including corporate bonds in several places and even equities in Japan). It also moved on in time as depending on how you count it we are approaching a decade of this. Thus makes me have a wry smile when central bankers use the buzzword “normalisation” when what must seem normal to millennials for example is where we are now!

But if we stay with the normalisation theme then 1% or so in Canada and the US does not take us far does it? The real issue is shown by economic growth in Sweden and indeed today from the Euro area which has been shown to have been stronger than first thought.

 

But in both places we still have negative interest-rates and ongoing QE bond buying programmes leaving us mulling the words of Coldplay.

Oh, no, I see
A spider web, it’s tangled up with me,
And I lost my head,
The thought of all the stupid things I’d said,

Me on CoreTV Finance

http://www.corelondon.tv/bond-bubble-fiction-reality-not-yes-man-economics/

 

The land of the rising sun sees rising GDP too

Today starts with good news from the land of the rising sun or Nihon. I do not mean the sporting sphere although there was success as a bronze medal in the men’s 4 by 100m relay was followed by silver and bronze in the men’s 50 km walk at the world athletics championships. There was also a near miss as Hideki Matsuyama faded at the US PGA  and did not become the first Japanese man to win a golf major. But the major good news came from the Cabinet Office as this from The Mainichi tells us.

Japan’s economy grew an annualized real 4.0 percent in the April-June period for a sixth straight quarter of expansion, marking the longest growth run since 2006, as private consumption and corporate spending showed signs of vigor, government data showed Monday.

If we convert to the terms we use there was 1% economic growth from the previous quarter which was quite a surge. Actually that is way beyond what the Bank of Japan thinks is the potential growth rate for Japan but let us park that for now and move on to the detail.  Reuters points out that consumption was strong.

Private consumption, which accounts for about two-thirds of GDP, rose 0.9 percent from the previous quarter, more than the median estimate of 0.5 percent growth.

That marked the fastest expansion in more than three years as shoppers splashed out on durable goods, an encouraging sign that consumer spending is no longer the weak spot in Japan’s economic outlook.

In fact so was investment.

Capital expenditure jumped by 2.4 percent in April-June from the previous quarter, versus the median estimate for a 1.2 percent increase. That was the fastest growth in business investment since January-March 2014.

The combination is interesting as this is something that Japan has wanted for a long time as its “lost decade(s)” of economic malaise have seen domestic demand and consumption in particular struggle. Some countries would be especially troubled by the trade figures below but of course Japan has seen many years of surpluses as this from the Nikkei Asian Review indicates.

 Japan’s current account surplus expanded in the January-June period to the highest level since 2007 as earnings from foreign investments moved further into the black, despite rising energy prices pushing up the overall value of the country’s imports, government data showed Tuesday.

 

Thus it is likely to see this as another welcome sign of strong domestic demand.

External demand subtracted 0.3 percentage point from GDP growth in April-June in part due to an increase in imports.

Those who look at the world economy will be pleased to see a “surplus” economy importing more.

Where does this leave Abenomics?

There are various ways of looking at this and the Japanese owned Financial Times leads the cheers.

‘Not a fluke’: Japan on course to record best GDP growth streak since 2000

“Not a fluke” is an odd thing to write because if you look at the GDP chart they provide we see several spikes like this one which imply it may well be er not only a fluke but another one. They are less keen to credit another form of Abenomics which is the way that the latest stimulus programme impacted with a 5.1% (21.9% annualised) rise in public investment causing a 0.2% rise in GDP on its own. Perhaps this is because of the dichotomy in this part of Abenomics where on the one hand fiscal expansionism is proclaimed and on the other so is a lower deficit! Also there are memories of past stimulus projects where pork barrel politics led to both bridges and roads to nowhere.

Actually the FT does then give us a bit of perspective.

 

Japan’s economy, as measured by real GDP, is now 7 per cent larger than when prime minister Shinzo Abe took office in late 2012, notes Emily Nicol at Daiwa Capital Markets.

That is a long way short of the original promises which is one of the reasons why the Japanese government page on the subject introduces Abenomics 2.0.  If we look at the longer-term chart below is there a clear change.

On such a basis one might think it was the US or UK that had seen Abenomics as opposed to Japan. Of course the figures are muddied by the recession created by the consumption tax rise in 2014 but the performance otherwise even with this quarter’s boost is far from relatively stellar.

Bank of Japan

It will of course be pleased to see the economic news although it also provides plenty of food for thought as details like this provide backing for my analysis that ~0% inflation is far from the demon it is presented as and can provide economic benefits. From Bloomberg.

The GDP deflator, a broad measure of price changes, fell 0.4 percent from a year earlier.

Board Member Funo confirmed this in a speech earlier this month.

The rate of increase for all items less fresh food and energy had remained on a decelerating trend, following the peak of 1.2 percent in winter 2015; recently, the rate of change has been at around 0 percent.

He of course followed this with the usual rhetoric.

The rate will likely reach around 2 percent in around fiscal 2019.

It is always just around the corner in not entirely dissimilar fashion to a fiscal surplus in the UK. As to the official view it is going rather well apparently.

Taking this into consideration, the Bank decided to adopt a commitment that allows inflation to overshoot the price stability target so as to strengthen the forward-looking mechanism in the formation of inflation expectations, enhance the credibility of achieving the price stability target among the public, and raise inflation expectations in a more forceful manner.

Make of that what you will. The reality is that the QQE programme did weaken the Yen but that effect wore off and inflation is now ~0% as is wage growth.

Comment

This growth figures are good news and let me add something that appears to have been missed in the reports I have read. Back to Board Member Funo.

In an economy with a declining population.

Thus the per capita or per person GDP numbers are likely to be even better than the headline. I would say that this would benefit the ordinary Japanese worker and consumer but we know that real wage growth has dipped into negative territory again. This provides a problem for Prime Minister Abe as when he came to power the criticisms were based around his past history of being part of the Japanese establishment. What we see nearly 5 years down the road is a lack of real wage growth combined with good times for Japanese corporate profitability. As to the reform programme there is not a lot to be seen and maybe this is why Board Member Funo was so downbeat.

In an economy with a declining population, as is the case in Japan, demand is expected to decrease for many goods and services; therefore, it will be important to adequately adjust supply capacity; that is, employees and production capacity to meet such a decreasing trend.

I do not know about you but trying to raise prices when you expect both demand and supply to fall seems extremely reckless to me.

As to the GDP numbers themselves we need a cautionary note as Japan has had particular problems with them and they are revised more and by larger amounts than elsewhere.

 

The ECB faces the problem of what to do next?

Later this month ECB President Mario Draghi will talk at the Jackson Hole monetary conference with speculation suggesting he will hint at the next moves of the ECB ( European Central Bank). For the moment it is in something of a summer lull in policy making terms although of course past decisions carry on and markets move. Whilst there is increasing talk about the US equity market being becalmed others take the opportunity of the holiday period to make their move.

The Euro

This is a market which has been on the move in recent weeks and months as we have seen a strengthening of the Euro. It has pushed the UK Pound £ back to below 1.11 after the downbeat Inflation Report of the Bank of England last week saw a weakening of the £.  More important has been the move against the US Dollar where the Euro has rallied to above 1.18 accompanied on its way by a wave of reversals of view from banks who were previously predicting parity such as my old employer Deutsche Bank. If we switch to the effective or trade weighted index we see that since mid April it has risen from the low 93s at which it spent much of the early part of 2017 to 99.16 yesterday.

So there has been a tightening of monetary policy via this route as we see in particular an anti inflationary impact from the rise against the US Dollar because of the way that commodities are usually priced in it. I note that I have not been the only person mulling this.

Such thoughts are based on the “Draghi Rule” from March 2014.

Now, as a rule of thumb, each 10% permanent effective exchange rate appreciation lowers inflation by around 40 to 50 basis points

Some think the effect is stronger but let us move on noting that whilst the Euro area consumer and worker will welcome this the ECB is more split. Yes there is a tightening of policy without it making an explicit move but on the other side of the coin it is already below its inflation target.

Monetary policy

Rather oddly the ECB choose to tweet a reminder of this yesterday.

In the euro area, the European Central Bank’s most important decision in this respect normally relates to the key interest rates…….In times of prolonged low inflation and low interest rates, central banks may also adopt non-standard monetary policy measures, such as asset purchase programmes.

Perhaps the summer habit of handing over social media feeds to interns has spread to the ECB as the main conversation is about this.

Public sector assets cumulatively purchased and settled as at 04/08/2017 €1,670,986 (31/07/2017: €1,658,988) mln

It continues to chomp away on Euro area government debt for which governments should be grateful as of course it lowers debt costs. Intriguingly there has been a shift towards French and Italian debt. Some of this is no doubt due to the fact that for example in the case of German sovereign debt it is running short of debt to buy. But I have wondered in the past as to whether Mario Draghi might find a way of helping out the problems of the Italian banks and his own association with them.

is the main story this month the overweighting of purchases of rising again to +2.3% in July (+1.8% in June) ( h/t @liukzilla ).

With rumours of yet more heavy losses at Monte Paschi perhaps the Italian banks are taking profits on Italian bonds ( BTPs) and selling to the ECB. Although of course it is also true that it is rare for there to be a shortage of Italian bonds to buy!.

Also much less publicised are the other ongoing QE programmes. For example Mario Draghi made a big deal of this and yet in terms of scale it has been relatively minor.

Asset-backed securities cumulatively purchased and settled as at 04/08/2017 €24,719 (31/07/2017: €24,661)

Also where would a central bank be these days without a subsidy for the banks?

Covered bonds cumulatively purchased and settled as at 04/08/2017 €225,580 (31/07/2017: €225,040) mln

 

This gets very little publicity for two reasons. We start with it not being understood as two versions of it had been tried well before some claimed the ECB had started QE and secondly I wonder if the fact that the banks are of course large spenders on advertising influences the media.

Before we move on I should mention for completeness that 103.4 billion has been spent on corporate bonds. This leaves us with two thoughts. The opening one is that general industry seems to be about half as important as the banks followed by the fact that such schemes have anesthetized us to some extent to the very large numbers and scale of all of this.

QE and the exchange rate

The economics 101 view was that QE would lead to exchange rate falls. Yet as we have noted above the current stock of QE and the extra 60 billion Euros a month of purchases by the ECB have been accompanied for a while by a static-ish Euro and since the spring by a rising one. Thus the picture is more nuanced. You could for example that on a trade weighted basis the Euro is back where it began.

My opinion is that there is an expectations effect where ahead of the anticipated move the currency falls. This is awkward as it means you have an effect in period T-1 from something in period T .Usually the announcement itself leads to a sharp fall but in the case of the Euro it was only around 3 months later it bottomed and slowly edged higher until recently when the speed of the rise increased. So we see that the main player is human expectations and to some extent emotions rather than a formula where X of QE leads to Y currency fall. Thus we see falls from the anticipation and announcement but that’s mostly it. As opposed to the continuous falls suggested by the Ivory Towers.

As ever the picture is complex as we do not know what would have happened otherwise and it is not unreasonable to argue there is some upwards pressure on the Euro from news like this. From Destatis in Germany this morning.

In calendar and seasonally adjusted terms, the foreign trade balance recorded a surplus of 21.2 billion euros in June 2017.

Comment

There is plenty of good news around for the ECB.

Compared with the same quarter of the previous year, seasonally adjusted GDP rose by 2.1% in the euro area ……The euro area (EA19) seasonally-adjusted unemployment rate was 9.1% in June 2017, down from 9.2% in May 2017 and down from 10.1% in June 2016.

So whilst we can debate its role in this the news is better and the summer espresso’s and glasses of Chianti for President Draghi will be taken with more of a smile. But there is something of a self-inflicted wound by aiming at an annual inflation target of 2% and in particular specifying 1.97% as the former ECB President Trichet did. Because with inflation at 1.3% there are expectations of continued easing into what by credit crunch era standards is most certainly a boom. Personally I would welcome it being low.

Let me sweep up a subject I have left until last which is the official deposit rate of -0.4% as I note that we have become rather used to the concept of negative interest-rates as well as yields. If I was on the ECB I would be more than keen to get that back to 0% for a start. Otherwise what does it do when the boom fades or the next recession turns up? In reality we all suspect that such moves will have to wait until the election season is over but the rub as Shakespeare would put it is that if we allow for a monetary policy lag of 18 months then we are looking at 2019/20. Does anybody have much of a clue as to what things will be like then?