The ECB “taper” meets “To infinity! And beyond!”

Yesterday was central banker day when we heard from Mark Carney of the Bank of England, Mario Draghi of the ECB and Janet Yellen of the US Federal Reserve. I covered the woes of Governor Carney yesterday and note that even that keen supporter of him Bloomberg is now pointing out that he is losing the debate. As it happened Janet Yellen was also giving a speech in London and gave a huge hostage to fortune.

Yellen today: “Don’t see another crisis in our lifetimes” Yellen May 2016: “We Didn’t See The Financial Crisis Coming” ( @Stalingrad_Poor )

Let us hope she is in good health and if you really wanted to embarrass her you would look at what she was saying in 2007/08. However the most significant speech came at the best location as the ECB has decamped to its summer break, excuse me central banking forum, at the Portuguese resort of Sintra.

Mario Draghi

As President Draghi enjoyed his morning espresso before giving his keynote speech he will have let out a sigh of relief that it was not about banking supervision. After all the bailout of the Veneto Banks in Italy would have come up and people might have asked on whose watch as Governor of the Bank of Italy the problems built up? Even worse one of the young economists invited might have wondered why the legal infrastructure covering the Italian banking sector is nicknamed the “Draghi Laws”?

However even in the area of monetary policy there are problems to be faced as I pointed out on the 13th of March.

It too is in a zone where ch-ch-changes are ahead. I have written several times already explaining that with inflation pretty much on target and economic growth having improved its rate of expansion of its balance sheet looks far to high even at the 60 billion Euros a month due in April.

Indeed on the 26th of May I noted that Mario himself had implicitly admitted as much.

As a result, the euro area is now witnessing an increasingly solid recovery driven largely by a virtuous circle of employment and consumption, although underlying inflation pressures remain subdued. The convergence of credit conditions across countries has also contributed to the upswing becoming more broad-based across sectors and countries. Euro area GDP growth is currently 1.7%, and surveys point to continued resilience in the coming quarters.

That simply does not go with an official deposit rate of -0.4% and 60 billion Euros a month of Quantitative Easing. Policy is expansionary in what is in Euro area terms a boom.

This was the first problem that Mario faced which is how to bask in the success of economic growth whilst avoiding the obvious counterpoint that policy is now wrong. He did this partly by indulging in an international comparison.

since January 2015 – that is, following the announcement of the expanded asset purchase programme (APP) – GDP
has grown by 3.6% in the euro area. That is a higher growth rate than in same period following QE1 or QE2 in the United States, and a percentage point lower than the period after QE3. Employment in the euro area has also risen by more than four million since we announced the expanded APP, comparable with both QE2 and QE3 in the US, and considerably higher than QE1.

You may note that Mario is picking his own variables meaning that unemployment for example is omitted as are differences of timing and circumstance. But on this road we got the section which had an immediate impact on financial markets.

The threat of deflation is gone and reflationary forces are at play.

So we got an implicit admittal that policy is pro-cyclical or if you prefer wrong. A reduction in monthly QE purchases of 20 billion a month is dwarfed by the change in circumstances. But we have to be told something is happening so there was this.

This more favourable balance of risks has been already reflected in our monetary policy stance, via the adjustments we have made to our forward guidance.

You have my permission to laugh at this point! If he went out into the streets of Sintra I wonder how many would know who he is let alone be running their lives to the tune of his Forward Guidance!? Whilst his Forward Guidance has not been quite the disaster of Mark Carney the sentence below shows a misfire.

This illustrates that core inflation does not
always give us a clear reading of underlying inflation dynamics.

The truth is as I have argued all along that there was no deflation threat in terms of a downwards spiral for inflation because it was driven by this.

Oil-related base effects are also the main driver of the considerable volatility in headline inflation that we have seen, and will be seeing, in the euro area………. As a result, in the first quarter of 2017, oil-sensitive items  were still holding back core inflation.

I guess the many parts of the media which have copy and pasted the core inflation/deflation theme will be hoping that their readers have a bout of amnesia. Or to put it another way that Mario has set up a straw (wo)man below.

What is clear is that our monetary policy measures have been successful in avoiding a deflationary spiral and securing the anchoring of inflation expectations.

Actually if you look elsewhere in his speech you will see that if you consider all the effort put in that in fact his policies had a relatively minor impact.

Between 2016 and 2019 we estimate that our monetary policy will have lifted inflation by 1.7 percentage points,
cumulatively.

So it took a balance sheet of 4.2 trillion Euros ( and of course rising as this goes to 2019) to get that? You can look at the current flow of 60 billion a month which makes it look a little better but it is not a lot of bang for your Euro.

Market Movements

There was a clear response to the mention of the word “reflationary” as the Euro rose strongly. It rose above 1.13 to the US Dollar as it continued the stronger  phase we have been seeing in 2017 as it opened the year more like 1.04.  Also government bond yields rose although the media reports of “jumps” made me smile as I noted that the German ten-year yield was only 0.4% and the two-year was -0.57%! Remember when the ECB promised it was fixing the issue of demand for German bonds?

Comment

On the surface this is a triumph for Forward Guidance as Mario’s speech tightens monetary policy via higher bond yields and a higher value for the Euro on the foreign exchanges. Yet if we go back to March 2014 he himself pointed out the flaw in this.

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

You see the effective or trade-weighted index dipped to 93.5 in the middle of April but was 97.2 at yesterday’s close. If we note that Mario is not achieving his inflation target and may be moving away from it we get food for thought.

Euro area annual inflation was 1.4% in May 2017, down from 1.9% in April.

So as the markets assume what might be called “tapering” ( in terms of monthly QE purchases) or “normalisation” in terms of interest-rates we can look further ahead and wonder if “To infinity! And Beyond!” will win? After all if the economy slows later this year  and inflation remains below target ………

There are two intangible factors here. Firstly the path of inflation these days depends mostly in the price of crude oil. Secondly whilst I avoid politics like the plague it is true that we will find out more about what the ECB really intends once this years major elections are done and dusted as the word “independent” gets another modification in my financial lexicon for these times

 

UK credit and car loan problems are building

As we look at the UK credit situation there are building pressures almost everywhere we look. This is hardly a surprise if we step back and review the years and years of easy monetary policy involving cutting the Bank Rate to a mere 0.25% and some £445 billion of QE ( Quantitative Easing) as well as other policies. If we stay with QE then the UK is second on the list in terms of how much of its bond ( Gilt) market has been bought by its central bank at 37% according to Business Insider. I doubt Governor Carney will be emphasising this too much when he presents the Financial Stability Report today.

Central bankers are capable of the most extraordinary blindness when it comes to themselves however as I noted when I received this in my email inbox.

Why are house prices in the UK so high? Can prices and mortgage debt continue to rise? How is government policy affecting outcomes? David Miles will explore these issues and consider how the property landscape in the UK might play out over the longer term.

This is the same David Miles who in his time at the Bank of England did as much as he could to drive house prices higher with his votes for Bank Rate cuts, more QE and the bank subsidy called the Term Funding Scheme. He even voted for more QE in the summer of 2013 as the UK economy picked up! Of course in his last month in the autumn of 2015 he claimed he was on the edge of voting for a Bank Rate rise but this only fooled the most credulous. The reality is that he was a major driver in creating this sort of situation. From April.

Yorkshire Building Society is launching a mortgage with the lowest interest rate ever available in the UK at 0.89%.

The new 0.89% product is a two-year variable mortgage with a discount of 3.85% from the Society’s Standard Variable Rate (SVR), which is currently 4.74%, and is available for anyone borrowing up to 65% of the value of their property.

Car Loans

This is another problem area that we have looked at several times due to two main factors. Firstly we have seen quite a rate of growth and secondly the market has changed massively. These days nearly all new cars are bought on credit as this from the Finance and Leasing Association makes clear.

In 2016, members provided £41 billion of new finance to help households and businesses purchase cars. Over 86% of all private new car registrations in the UK were financed by FLA members.

The deals look initially very attractive.

There are often 0% deals available, so it’s worth shopping around.

However there is a “rub” as Shakespeare would put it and we see the danger here as the Financial Times takes up the story..

Most borrowing is in the form of Personal Contract Purchases. Customers pay a deposit and monthly payments for a fixed period. At the end of the contract, they can buy the car from the manufacturer for a price guaranteed at the start.

The in-house banks of car companies, which provide most of the finance for PCPs, generally set this guaranteed price at about 85 per cent of what they think the used car will be worth.

We know that in the United States used car values have dropped sharply so let us look at the UK as the FT explains.

“However, the detail is the key,” said Rupert Pontin, director of valuations at Glass’s. Newer used-cars are losing more of their value and more quickly. A used car that is less than two-and-a-half years old is worth 57.6 per cent of its original value, down from 61.1 per cent in 2014.

“This is likely to continue to be the case for the rest of 2017 and into 2018 as well,” he said, as more cars come off the three-year credit deals they were bought with and that have been wildly popular with UK consumers.

So they are “Fallin'” as Alicia Keys would say. This poses quite a problem for a system which depends on the resale value of the cars. Initially this will probably hit the manufacturers who offer these schemes as those leasing will presumably hand more of the cars back. For deals going forwards though the resale value will be adjusted lower and be factored into the deal making the buyer/consumer get worse terms.

This has changed the car market

I have written in the past about a friend who bought a car and took a contract deal because believe it or not it was £500 cheaper than buying it outright. More is added on this front in a reply to the FT from leftie.

There’s no truth in the description ‘interest free’.  The cost of the loan is built into the ticket price.   We know that because the seller may not offer a discount on the sale price for fear of the ‘interest free’ bluff being found out.  It’s institutionalised dishonesty that traps the unwary and leads to excessive debts.

Whilst some do game the system most are unwary pawns.

I found it was cheaper to buy my small new Ford on PCP credit than pay cash, and the dealer admitted he would get more commission from the former.

Don’t worry, he told me: wait a couple of days for the systems to update then ring Ford and pay off the loan. I did, and accrued interest was negligible. Few people do this – it’s so tempting to hang on to your cash. ( johnwrigglesworth )

So the Merry Go Round rumbles on with the can as ever being kicked about 3/4 years each time. What could go wrong? From the FT.

Many car loans are securitised — packaged together and sold on to investors as bonds — as mortgages were in the run-up to the financial crisis. This has led some to worry that a slowdown in car sales could cause financial instability.

I have noticed something rather troubling this morning and let me make it clear that this is from the US and not the UK but of course such things tend to hop the Atlantic like it is a puddle and not an ocean.

 

This faces ch-ch-changes as explained by the Agents of the Bank of England last week.

Contacts reported a range of potential headwinds, including
the slowdown in real pay growth, upward pressure on new car prices arising from sterling’s depreciation and, for high-volume manufacturers, weaker second-hand car residual values, which had raised the costs of depreciation and so car finance.

Comment

If we start with the UK car market it has seen an extraordinary amount of stimulus. First came its own form of QE as redress payments from the Payments Protection Insurance scandal came into play and next came the easing of the Bank of England. No wonder sales have risen and not all of the drive came from the UK as some came from policies elsewhere as the FT explains.

Thrifty German savers in search of better interest rates have helped fund the debt-fuelled car-buying boom in the UK…..The biggest deposit taker is Volkswagen which had €28bn of consumer deposits in 2015, followed by BMW with €15.9bn. RCI Banque, the bank of Renault, had €13.6bn of deposits.

Meanwhile for Bank of England Governor Mark Carney it is clear that a week is apparently a long time in central banking. Last week we saw boasting.

This stimulus is working. Credit is widely available, the cost of borrowing is near record lows,

This week the Financial Stability Report tells a very different story.

Consumer credit has increased rapidly

Something to cheer like the Governor did? Er no.

Bringing forward the assessment of stressed losses on consumer credit lending in the Bank’s 2017 annual stress
test.

So perhaps not as we see a rise in the capital required by UK banks.

Increasing the UK countercyclical capital buffer rate to 0.5%, from 0%. Absent a material change in the
outlook, and consistent with its stated policy for a standard risk environment and of moving gradually, the FPC
expects to increase the rate to 1% at its November meeting.

That will be two steps of £5.7 billion if the initial estimates are accurate as we note they have finally spotted something we started looking at last summer.

Consumer credit grew by 10.3% in the twelve months to
April 2017

 

Me in City AM

http://www.cityam.com/267366/debate-italian-government-right-commit-eur17bn-rescuing-two?utm_source=dlvr.it&utm_medium=dvTwitter

 

 

The Mark Carney experience at the Bank of England

This morning Mark Carney has given his Mansion House speech which was delayed due to the Grenfell Tower fire tragedy. One thing that was unlikely to be in the speech today was the outright cheerleading for the reform of the banking sector which was the basis of his speech back on the 7th of April as the news below emerged.

Barclays PLC and four former executives have been charged with conspiracy to commit fraud and the provision of unlawful financial assistance.

The Serious Fraud Office charges come at the end of a five-year investigation and relate to the bank’s fundraising at the height of 2008’s financial crisis.

Former chief executive John Varley is one of the four ex-staff who will face Westminster magistrates on 3 July.

Firstly let me welcome the news that there will be a trial although the conviction record of the Serious Fraud Office is not good. The problem is that this has taken around nine years about something ( £7 billion raised from Qatar ) which frankly looked to have dubious elements when it took place. What you might call  slooooooooooooow progress of justice.

What about UK interest-rates?

We first got a confession about something we discovered last week.

Different members of the MPC will understandably have different views about the outlook and therefore on the potential timing of any Bank Rate increase.

Actually that is an odd way of saying it as five members voted for no change with some more likely to vote for a cut that a rise in my opinion. Although of course Mark Carney has had trouble before with rises in interest-rates which turn out to be cuts!

Next we got a confirmation of the Governor’s opinion.

From my perspective, given the mixed signals on consumer spending and business investment, and given
the still subdued domestic inflationary pressures, in particular anaemic wage growth, now is not yet the time
to begin that adjustment

Indeed he seems keen to kick this rather awkward issue – because it would mean reversing last August’s Bank Rate cut – as far into the future as possible.

In the coming months, I would like to see the extent to which weaker consumption growth is offset by other components of demand, whether wages begin to firm, and more generally, how the economy reacts to the prospect of tighter financial conditions and the reality of Brexit negotiations.

Indeed if we are willing to ignore both UK economic history and the leads and lags in UK monetary policy then you might be able to believe this.

This stimulus is working. Credit is widely available, the cost of borrowing is near record lows, the economy has outperformed expectations, and unemployment has reached a 40 year low.

Missing from the slap on the back that the Governor has given himself is the most powerful instrument of all which is the value of the UK Pound which has given the UK economy and more sadly inflation a boost. Indeed the initial response to the Governor’s jawboning was to add to the Pound’s fall as it fell below US $1.27 and 1.14 versus the Euro. Should it remain there then the total fall since the night of the EU leave vote then it is equivalent to a 2.75% fall in UK Bank Rate which is a bazooka compared to the 0.25% peashooter cut provided by the Bank of England. So if you believe Mark Carney you are likely not to be a fan of Alice In Wonderland.

“Why, sometimes I’ve believed as many as six impossible things before breakfast.”

Also if he is going to take credit for er “Credit is widely available” then he will be on very thin ice when he next claims the surge in unsecured credit is nothing to do with him.

Carney’s Cronies

Ironically in a way the foreign exchange market was a day late as you see the real change came yesterday.

​The Chancellor of the Exchequer has announced the appointment of Professor Silvana Tenreyro as an external member of the Monetary Policy Committee (MPC).  Silvana will be appointed for a three year term which will take effect from 7 July 2017.

There are several issues here, if I start with British female economists then that is another slap in the face for them as none have been judged suitable for a decade. Next came the thought that I had never previously heard of her which turned to concern as we were told she came from “academic excellence” in an era where Ivory Towers have consistently crumbled and fallen along the lines of Mount Doom in the Lord of the Rings. But after a little research one could see why she had been appointed. From a survey taken by the Centre For Macroeconomics.

Question Do you agree that the benefits of reforming the monetary system to allow materially negative policy interest rates outweigh the possible costs?

Agree. Confident. Reforming the monetary system to allow negative policy interest rates will equip the BoE with an additional tool to face potential crises in the future.

Does “reforming the monetary system” sound somewhat like someone who will support restrictions on the use of cash currency and maybe its banning? She is also a fan of QE ( Quantitative Easing ) style policies.

Question Do you agree that central banks should continue to use the unconventional tools of monetary policy deployed in response to the global financial crisis as part of monetary policy under normal economic conditions?

Agree. Confident. A wider set of policy tools would give mature and credible central banks like the BoE more flexibility to respond to changing economic conditions.

What is it about her apparent support for negative interest-rate and QE that attracted the attention of Mark Carney? Of course in a world after the woeful failure of Forward Guidance and indeed the litany of forecasting errors he was probably grateful to find someone who still calls the Bank of England “credible”!

Comment

We have a few things to consider and let me start with the reaction function of foreign exchange markets. The real news was yesterday as a fan of negative interest-rates was appointed to the Bank of England but the UK Pound waited until Mark Carney repeated his views of only Thursday to fall!

Meanwhile there was this from Governor Carney.

Monetary policy cannot prevent the weaker real income growth likely to accompany the transition to new
trading arrangements with the EU. But it can influence how this hit to incomes is distributed between job losses and price rises.

His views on the EU leave vote are hardly news although some are trying to present them as such. You might think after all the forecasting errors and Forward Guidance failures he would be quiet about such things. But my main issue here is the sort of Phillips Curve way we are presented a choice between “job losses” and “price rises” Just as all credibility of such thinking has collapsed even for those with a very slow response function in fact one slow enough to be at the Serious Fraud Office. He is also contradicting himself as it was only a few months ago we were being told by him that wage growth was on the up. Although that February Inflation Forecast press conference did see signs that the normally supine press corps were becoming unsettled about a Governor previously described as a “rockstar central banker” and “George Clooney” look a like.

Governor, back in August the forecast for GDP for this year
was 0.8%. Now it’s being forecast at 2.0%. That’s a really
hefty adjustment. What went wrong with your initial
forecast?

He may not be that bothered as you see much of today’s speech was in my opinion part of his job application to replace Christine Lagarde at the IMF.

With many concerned that global trade is taking local jobs, protectionist sentiments are once again rising
across the advanced world. Excessive trade and current account imbalances are now politically as well as
economically unsustainable.

Number Crunching

Problems mount for Mark Carney at Mansion House

The UK’s central bank announces its policy decision today and it faces challenges on several fronts. The first was highlighted yesterday evening by the US Federal Reserve.

In view of realized and expected labor market conditions and inflation, the Committee decided to raise the target range for the federal funds rate to 1 to 1-1/4 percent. The stance of monetary policy remains accommodative, thereby supporting some further strengthening in labor market conditions and a sustained return to 2 percent inflation.

UK monetary policy is normally similar to that in the US as our economies often follow the same cycles. This time around however the Bank of England has cut to 0.25% whilst the Federal Reserve has been raising interest-rates creating a gap of 0.75% to 1% now. In terms of the past maybe not a large gap but of course these days the gap is large in a world of zero and indeed negative interest-rates. Also we can expect the gap to grow in the future.

The Committee expects that economic conditions will evolve in a manner that will warrant gradual increases in the federal funds rate;

There was also more as the Federal Reserve made another change which headed in the opposite direction to Bank of England policy.

The Committee currently expects to begin implementing a balance sheet normalization program this year, provided that the economy evolves broadly as anticipated.

So the Federal Reserve is planning to start the long journey to what used to be regarded as normal for a central bank balance sheet. Of course only last August the Bank of England set out on expanding its balance sheet by another £70 billion if we include the Corporate Bond purchases in what its Chief Economist Andy Haldane called a “Sledgehammer”. So again the two central banks have been heading in opposite directions. Also on that subject Mr.Haldane was reappointed for another three years this week. Does anybody know on what grounds? After all the wages data from yesterday suggested yet another fail on the forecasting front in an ever-growing series.

Andrew Haldane, Executive Director, Monetary Analysis and Statistics, and Chief Economist at the
Bank of England, has been reappointed for a further three-year term as a member of the Monetary Policy
Committee with effect from 12 June 2017.

For those interested in what Andy would presumably call an anti-Sledgehammer here it is.

( For Treasury Bonds) the Committee anticipates that the cap will be $6 billion per month initially and will increase in steps of $6 billion at three-month intervals over 12 months until it reaches $30 billion per month…… ( for Mortgage Securities) the Committee anticipates that the cap will be $4 billion per month initially and will increase in steps of $4 billion at three-month intervals over 12 months until it reaches $20 billion per month.

Whilst these really are baby steps compared to a balance sheet of US $4.46 trillion they do at least represent a welcome move in the right direction.

The Inflation Conundrum

This has several facets for the Bank of England. The most obvious is that it eased policy last August as inflation was expected to rise and this month we see that the inflation measure it is supposed to keep around 2% per annum ( CPI ) has risen to 2.9% with more rises expected. It of course badged the “Sledgehammer” move as being expansionary for the economy but I have argued all along that it is more complex than that and may even be contractionary.

Today’s Retail Sales numbers give an example of my thinking so let me use them to explain. Here they are.

In May 2017, the quantity bought in the retail industry was estimated to have increased by 0.9% compared with May 2016; the annual growth rate was last lower in April 2013…..Month-on-month, the quantity bought was estimated to have fallen by 1.2% following strong growth in April 2017.

So after a strong 2016 UK retail sales have weakened in 2017 but my argument is that the main driver here has been this.

Average store prices (excluding fuel) increased by 2.8% on the year; the largest growth since March 2012.

It has been the rise in prices or higher inflation which has been the main driver of the weakness in retail sales. A factor in this has been the lower value of the Pound which if you use the US inflation numbers as a control has so far raised UK inflation by around 1%. This weakness in the currency was added to by expectations of Bank of England monetary easing which of course were fulfilled. You may note I say expectations because as some of us have been discussing in the comments section the main impact of QE on a currency happens in the expectations/anticipation phase.

On the other side of the coin you have to believe that a 0.25% cut in interest-rates has a material impact after cuts of over 4% did not! Also that increasing the Bank of England’s balance sheet will do more than adding to house prices and easing the fiscal deficit. A ten-year Gilt yield of 0.96% does not go well with inflation at 2.9% ( CPI) and of course even worse with RPI ( 3.7%).

House Prices

I spotted this earlier in the Financial Times which poses a serious question to Bank of England policy.

Since 1980, the compounded inflation-adjusted gain for a UK homeowner has been 212 per cent. Before 1980 house price gains were much tamer over the various cycles either side of the second world war. Indeed, in aggregate, prices were largely unchanged over the previous 100 years, once inflation is accounted for.

A change in policy? Of course much of that was before Mark Carney’s time but we know from his time in Canada and here that house price surges and bubbles do happen on his watch. The article then looks at debt availability.

The one factor that did change, though, and marked the start of that step change in 1980, is the supply of mortgage debt……….has resulted in a sevenfold increase in inflation-adjusted mortgage debt levels since then.

This leads to something that I would like Mark Carney to address in his Mansion House speech tonight.

Second an inflation-targeting central bank, which has delivered a more aggressive monetary response to each of the recent downturns, because of that high debt burden.

On that road we in the UK will see negative interest-rates in the next downturn which of course may be on the horizon.

Comment

There is much to consider for the Governor of the Bank of England tonight. If he continues on the current path of cutting interest-rates and adding to QE on any prospect of an economic slow down then neither he nor his 8 fellow policy setting colleagues are required. We could replace them with an AI ( Artificially Intelligent ) Robot although I guess the danger is that it becomes sentient Skynet style ( from The Terminator films ) and starts to question what it is doing?

However moving on from knee-jerk junkie culture monetary policy has plenty of problems. It first requires both acknowledgement and admittal that monetary policy can do some things but cannot do others. Also that international influences are often at play which includes foreign monetary policy. I have looked at the Federal Reserve today well via the Far East other monetary policy applies. Let me hand you over to some research from Neal Hudson of Residential Analysts on buyers of property in London from the Far East.

However, anecdotal evidence suggests that many of these buyers have been using local mortgages to fund their purchases.  The limited evidence I have suggests that around half of Hong Kong and Singaporean buyers use a local mortgage while the majority of mainland Chinese buyers use one.

Okay on what terms?

The main difference is that the mortgage rate tends to be slightly higher (London Home Loan comparison) and local lenders allow borrowers to have far higher debt multiples.

These people are not as rich as might previously have been assumed and we need to throw in changes in the value of the UK Pound £ which are good for new buyers but bad for existing ones. Complicated now isn’t it?

On a personal level I was intrigued by this.

Last year I visited a development in Nine Elms and the lobby felt more like a hotel than a residential block. There were significant numbers of people appearing to pick up and drop off keys with suitcases in tow.

You see I live in another part of Battersea ( the other side of the park) and where i live feels like that as well.

 

 

 

In the future will equities be allowed to fall?

The credit crunch era has seen an enormous expansion of monetary policy activity which has manifested itself in two main ways. We have seen interest-rates cut not only to zero but below it into negative territory. Then we saw enormous expansion of central bank balance sheets as well as Quantitative Easing style policies were added to the play book. Indeed this is continuing apace in both the Euro area and Japan and the latter of course has moved into newer areas as well. Japan Macro Advisers have updated us on the current state of play.

At the end of May 31 2017, the Bank of Japan held a total of 500.8 trillion yen in assets, of which Japanese government securities accounted for 427.2 trillion yen.

I think we have a new candidate for the largest number we have used on here! That sends out its own message but also there is the issue that some 14.7% of the total is not purchases of Japanese government bonds or JGBs. So what might be regarded as conventional QE is already out of date as we note that the Bank of Japan calls its operations Quantitative and Qualitative Easing or QQE.

What is it buying?

You might expect this as after all both the Bank of England has recently and the ECB currently, have ventured into this area.

As for CP and corporate bonds, the Bank will maintain their amounts outstanding at about 2.2 trillion yen and about 3.2 trillion yen, respectively. ( CP is Commercial Paper ).

Whether it does much good is of course another matter as it ossifies economic structures but subsidising larger companies who are able to issue such debt whereas smaller ones cannot. But the main game here is shown below.

The Bank will purchase exchange-traded funds (ETFs) and Japan real estate investment trusts (J-REITs) so that their amounts outstanding will increase at annual
paces of about 6 trillion yen and about 90 billion yen, respectively.

Here we see intervention in a different sphere as both property and equities are being bought here. The property purchases are relatively small, if you can say that about 90 billion! But the main game in town is the equity purchases.

For comparison here is the plan for what is conventional QE.

With regard to the amount of JGBs to be purchased, the Bank will conduct purchases more or less in line with the current pace — an annual pace of increase in the amount outstanding of its JGB holdings at about 80 trillion yen — aiming to achieve the target level of a long-term interest rate specified by the guideline.

The target level of JGB yields is around 0% for the ten-year.

The Tokyo Whale

Just over a year ago on the 25th of April I alerted readers to what was taking place.

They may not realize it yet, but Japan Inc.’s executives are increasingly working for a shareholder unlike any other: the nation’s money-printing central bank……….It’s now a major owner of more Japanese blue-chips than both BlackRock Inc., the world’s largest money manager, and Vanguard Group, which oversees more than $3 trillion.

That begged more than a few questions as for example shareholders are supposed to hold company directors to account and sometimes provide direction to the business. How can a central bank possibly do that? There is of course the issue of potential losses as well before we get to the creation of a false market.

Let us bring this up to date with thanks to the Nikkei Asian Review.

Japan’s central bank nearly doubles ETF holdings in one year.

With the rate of purchases we looked at above I suppose that is no great surprise but there are genuine questions as to where this is taking us?

The Bank of Japan has stepped up purchases of exchange-traded funds as part of its monetary easing policy, with the balance surging to 15.93 trillion yen ($144 billion) as of March 31.

The total marks an 80% rise from a year earlier and more than a sevenfold increase since the central bank kicked off its quantitative and qualitative easing — adding riskier assets to its balance sheet — in April 2013.

Will stock markets be allowed to fall?

I do not mean on a day to day basis as for example the Nikkei 225 equity index dipped below 20,000 earlier today. But I am starting to wonder about this in terms of sustained corrections. Why? Well take a look at this from the Nikkei Asian Review.

The bank apparently buys frequently on days when the stock market dips in the morning, serving to stabilize share prices.

At what point did central bankers become experts in where share prices should be at? If anybody else did this they would be facing accusations of creating a false market. The point gets reinforced later.

“The BOJ’s ETF purchases help provide resistance to selling pressure against Japanese stocks,” says Rieko Otsuka of the Mizuho Research Institute.

This is quite different to central banks responding to a market collapse and panic in terms of timing,size,scale and indeed intention. There is also the danger of a Buzz Lightyear “To Infinity! And Beyond!” reality as we mull the consequences of this.

The bank’s growing market presence has raised concerns about the repercussions when the easing policy eventually winds down. When speculation of a BOJ exit grows, the anticipated cutbacks on ETF purchases would accelerate selling of Japanese stocks. As a precaution against a sharp market decline, “the BOJ many need to set aside provisions,” Otsuka says.

So that poor battered can has been kicked into the future one more time! If we cannot allow equity market falls now how will we be able to in say 5 years time? This leaves the Bank of Japan sounding rather like Elvis Presley.

Don’t you know I’m caught in a trap?
I can’t walk out

As time goes by the situation will go from bad to worse in terms of market manipulation.

Should the current pace of buying continue, the BOJ’s ETF holdings would reach about 30 trillion yen in about two years. The market capitalization of the Tokyo Stock Exchange’s first-section companies comes to 550 trillion yen.

Also all the jokes and humour about a “Plunge Protection Team” stopping equity market falls move from satire to reality.

Comment

There is much for us to consider here. So far the expansion of central bank activity has not been put into reverse. Even the US Federal Reserve which has nudged interest-rates higher has only talked about reducing its balance sheet as opposed to actually doing it. Others are still chomping away like Pac-Men and Women but the scale of their purchases is increasingly posing problems for government bond markets.

Should the next recession or slow down hit before we see any form of exit strategy then there will be much less scope to buy government bonds. Now that the Bank of Japan has broken the moral barrier around buying equities and indeed property such a scenario would see others follow. If we look at the UK then as the current Bank of England Governor is a “dedicated follower of fashion” he would be likely to join the party.

There are a lot of catches here as we look forwards to a potential future. Equities are supposed to provide a form of price discovery as individuals buy and sell and hopefully there is investing in what are good ideas and people. Central banking bureaucrats are unlikely to add any value here.There attempts so far have fallen on stony ground.

Despite the initial excitement among major financial institutions, the Bank of Japan’s push for exchange-traded funds tracking companies that actively raise employee pay or invest in new equipment has run aground. ( Nikkei Asian Review)

But their loudspeakers should have Yazz on repeat in terms of equity indices..

The only way is up, baby
For you and me now
The only way is up, baby
For you and me now

 

UK unsecured lending continues to surge ahead

Today we get more information on just how loose Bank of England monetary policy is. But as it happens markets signalled the state of play yesterday. From the Financial Times.

The price of 10-year UK government debt rallied to its highest since October, as the general election build-up comes more clearly into investors’ view. The yield on benchmark 10-year gilts, which moves inversely to the price, dipped below 1 per cent on Tuesday to an intra-day low of 0.978 per cent, as investors sought the safety of government bonds after the long bank holiday weekend.

So if we want a strong Gilt market all we have to do is have more bank holidays, what a curious view? There are two much more relevant issues here of which the first is the easing on UK monetary conditions as the Gilt market has rallied since late January with the ten-year yield falling from 1.51% to around 1% now. The second is that it is in my experience rather extraordinary for the latest part of the rally to be taking place in an election campaign particularly one which veers between insipid and shambolic. The polls are in an even worse place as they suggest that the Conservatives may either lose their majority ( YouGov ) or win by 100 seats! Mind you after the 2015 debacle I can see why so many now simply ignore them.

Inflation

A consequence of easy monetary conditions is rising prices and we have seen another sign of what we have been expecting today already.

Grocery inflation hit 2.9 per cent in the 12 weeks to May 21, according to Kantar Worldpanel’s latest survey of the grocery sector, ahead of the official year-on-year inflation rate of 2.7 per cent. ( FT )

I doubt many consumers will be grateful for this nor will they agree with the central banking fraternity that by being “non-core” it can mostly be ignored. But they are doing their best to avoid it in an example of rationality.

in a sign that inflation is starting to affect consumers’ spending habits, cheaper products and discount retailers saw the biggest rises……Aldi and Lidl recorded their fastest growth rates since 2015, hitting a combined market share of 12 per cent. Across the sector, sales of supermarkets’ cheaper own-label products were 6 per cent higher than the same period last year,

Unsecured Credit

On the 29th of September last year I warned that the bank of England was playing with fire with its Bank Rate cut and other monetary policy easing. In particular I was worried about the growth of unsecured credit.

Consumer credit increased by £1.6 billion in August, broadly in line with the average over the previous six months. The three-month annualised and twelve-month growth rates were 10.4% and 10.3% respectively.

So how is that going now?

The flow of consumer credit was similar to its recent average in April, at £1.5 billion; the annual growth rate was broadly unchanged.

As you can see some months later the beat goes on. The only changed is that the Bank of England seems to have changed its policy about declaring the actual growth rate so shall we see if it has something to hide? If we check we see that the three-month annualised growth rate is 9.8% and the twelve-month growth rate is the same as last August at 10.3%.

So as the late Glenn Frey would say.

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

Just as a reminder the numbers were “improved” a few years ago on this basis.

The stock of student loans has doubled over the five years to 5 April 2012 to £47 billion, and now represents more than 20% of the stock of overall consumer credit. With student loans unlikely to be affected by the same factors that influence the other components of consumer credit, the Bank is proposing a new measure of consumer credit that excludes student loans……….This new measure of
consumer credit will be introduced in the August 2012 Bankstats release.

That is what we have now and as a comparison times were very different back then.

Consumer credit excluding student loans is estimated to have contracted by 0.4% in the year to June 2012.

Whereas student loans were expected to surge.

Government projections suggest that the outstanding balance of student loans will be more than £80 billion by 2017/18.

They were pretty much right about that but what does it mean for consumer credit? Well the total is much lower than it would be with student loans in it. For example I estimate that the current level of consumer credit of £198.4 billion would have nearly £100 billion added to it. As to the monthly net growth well the current £1.5 billion or so would be somewhere north of £2.5 billion and maybe at £3 billion. The reason why I estimating is that the numbers are over a year behind where we are.

Secured Credit

This will not be regarded as such a success by the Bank of England.

Net lending secured on dwellings in April was £2.7 billion, the lowest since April 2016 …. Approvals for house purchase and remortgaging loans fell further in April, to 64,645 and 40,575 respectively

Of course the Bank of England has made enormous efforts in this beginning four summers ago with the Funding for Lending Scheme. Those efforts pushed net mortgage lending back into positive territory and also contributed to the rise in UK house prices that has been seen over the same time period. Last August yet another bank subsidy scheme was launched and the Term Funding Scheme now amounts to £63 billion. However it seems to have given more of a push to unsecured lending than secured.

Of course Governor Carney also claims that car loans are secured lending ( no laughing please) and here is the latest data on it from the Finance and Leasing Association.

New figures released today by the Finance & Leasing Association (FLA) show that new business in the point of sale (POS) consumer new car finance market grew 13% by value and 5% by volume in March, compared with the same month in 2016.

That meant that £3.62 billion was borrowed in March using what is described as dealership finance.

Business lending

The various bank subsidy schemes have been badged as being a boost to business lending especially for smaller ones, but have not lived up to this.

Loans to small and medium-sized enterprises decreased by £0.3 billion ( in April)

Comment

The Bank of England claims that it is “vigilant” about unsecured lending in the UK but we know that the use of the word means that it is not. Or as it moves from initial denials to acceptance we see yet again a Yes Prime Minister style game in play.

James Hacker: All we get from the civil service is delaying tactics.

Sir Humphrey Appleby: Well, I wouldn’t call civil service delays “tactics”, Minister. That would be to mistake lethargy for strategy.

But it opened the monetary taps last August with its “Sledgehammer” expectations of which pushed the UK Pound lower and now we see unsecured credit continuing to surge and broad money growing at just over 7%. The old rule of thumb would give us an inflation rate of 5% if economic growth continues to be around 2%. In fact it is if we add in the trade deficit exactly the sort of thing that has seen boom turn to bust in the past.

 

 

 

 

 

 

Will 2017 see an economic rennaisance for France?

This morning has opened with some better economic news for France as GDP ( Gross Domestic Product) growth was revised higher.

In Q1 2017, GDP in volume terms* rose barely less fast (+0.4%) than in Q4 2016 (+0.5%).

The French statistical service have put in it downbeat fashion and you have to read to the end to spot it as it is right at the bottom.

The GDP growth for Q1 2017 is raised from +0.3% to +0.4%.

There was also a good sign in the fact that investment was strong.

In Q1 2017, total GFCF accelerated sharply (+1.2% after +0.5%), especially that of enterprises (+1.9% after +0.9%)……Investment in manufactured goods was more dynamic (+1.6% after +0.4%), notably in equipment goods. Similarly, GFCF in market services accelerated sharply (+1.9% after +0.7%), notably in information-communication and business services.

However it was not a perfect report as there were signs of what you might call the British problem as trade problems subtracted from the growth.

Exports fell back in Q1 2017 (−0.8% after +1.0%), especially in transport equipment and “other manufactured goods”. Imports accelerated (+1.4% after +0.6%)………..All in all, foreign trade balance weighed down on GDP growth by −0.7 points, after a contribution of +0.1 points in the previous quarter.

If we look back there may be an issue building here as import growth was 4.2% in 2016 which considerably exceeded export growth at 2.1%. So it may well be true that the French are getting more like the British which is something of an irony in these times.

You may be wondering how there was any economic growth after the net trade deficit and that is because inventories swung the other way and offset it.

In Q1 2017, the contribution of changes in inventories to GDP growth amounted to +0.7 points (after −0.2 points at the end of 2016). They increased especially in transport equipment and “other industrial goods” (pharmaceuticals, metallurgy and chemicals).

The optimistic view on this is that French businesses are stocking up for a good 2017 with the danger being that any disappointment would subtract for growth later this year.

Also as feels so common in what we consider to be the first world the manufacturing industry continues to struggle.

Manufacturing output fell back (−0.2% after +0.7%), mainly due to a sharp decline in the coke and refined petroleum branch and a slowdown in transport equipment.

Looking ahead

The good news is that the private-sector business surveys are very optimistic at the moment.

The latest PMI data points to further strong growth momentum in the French private sector, with the expansion quickening to a six-year peak.

Of course France has been in a rough patch so that may not be as good as it reads or sounds so let us look further.

The service sector saw activity increase for the eleventh time in as many months. Moreover, the rate of expansion accelerated to a six-year high and was sharp overall. Manufacturing output also continued to rise markedly, albeit to a fractionally weaker extent than in April.

As you can see the service sector is pulling the economy forwards and manufacturing is growing as well according to the survey. Unusually Markit do not make a GDP prediction from this but we can if we note they think this for the Euro area which has a lower reading than France.

consistent with 0.6- 0.7% GDP growth.

So let us say 0.7% then and also remind ourselves that it has not been common in recent years for there to be an expectation that France will outperform its Euro area peers.

However this morning’s official survey on households did come with a worrying finale to the good news stream.

In May 2017, households’ confidence in the economic situation has improved anew after a four-month stability: the synthetic index has gained 2 points, reaching 102, above its long-term average and at its highest level since August 2007.

What could go wrong?

Unemployment

This has been the Achilles heel for France in the credit crunch era but this too has seen some better news.

In Q1 2017, the average ILO unemployment rate in metropolitan France and the overseas departments (excluding Mayotte) stood at 9.6% of active population, after 10.0% in Q4 2016.

The good news is that we see the unemployment rate finally fall into single digits. The bad news is that it mostly seems to be people who have given up looking for work.

The activity rate of people aged 15-64 stood at 71.4% in Q1 2017. It decreased by 0.3 percentage points compared to the previous quarter and a year earlier.

The business surveys are optimistic that employment is now improving as we see here.

Bolstered by strong client demand, French private sector firms raised their staffing numbers in May, thereby continuing a trend that has been evident since November last year. Furthermore, the rate of job creation quickened to a 69-month high.

Monetary policy

Yesterday we heard from ECB ( European Central Bank ) President Mario Draghi and he opened with some bombast.

Real GDP in the euro area has expanded for 16 consecutive quarters, growing by 1.7% year-on-year during the first quarter of 2017. Unemployment has fallen to its lowest level since 2009. Consumer and business sentiment has risen to a six-year high,

You might be wondering about monetary policy after such views being expressed but in fact we got this.

For domestic price pressures to strengthen, we still need very accommodative financing conditions, which are themselves dependent on a fairly substantial amount of monetary accommodation.

Is that a Tom Petty style full speed ahead and “Damn The Torpedoes”? For now perhaps but there are two other influences. In terms of a tactical influence Mario Draghi will have noted the rise of the Euro since it bottomed versus the US Dollar in December last year and would prefer it to be lower than the 1.12 it has risen to. Also more strategically as we have discussed on here before he will be waiting for the Euro area elections to pass before making any real change of course in my opinion. That leaves us mulling once again the concept of an independent central banker as we note that economic growth is on the upswing in election year.

Thus France finds itself benefiting from 293.7 billion Euros of sovereign bond purchases meaning it can issue and be paid for it out to around the 6 years maturity and only pay 0.74% on ten-year bonds. This is a considerable help to the fiscal situation and the government. In addition there are the corporate bond purchases and the covered bond purchases to help the banks. The latter gets so little publicity for the 232 billion Euros on the ECB’s books. Plus we have negative interest-rates and a Euro exchange rate pushed lower.

Has monetary policy ever been so expansionary at this stage of the economic cycle?

House prices

There was some further news to warm the cockles of Mario Draghi’s heart this morning.

In Q1 2017, the prices of second-hand dwellings kept increasing: +1.9% compared to the previous quarter (provisional seasonally adjusted results). The increase is virtually similar for flats (+1.9%) and for houses (+1.8%).

Over a year, the increase in prices was confirmed and strengthened: +3.0% compared to Q1 2016 after +1.5% the quarter before.

Up until now we have seen very little house price inflation in France and whilst the rate is relatively low it does look to be on the rise which represents a clear change. If you add this to the house price rises in Germany that I analysed on the 8th of this month then the ECB will be pleased if first-time buyers will not be.

Comment

It looks as though France is in a better phase of economic growth. This is certainly needed as we look at the unemployment rate issue but there is also another factor as this from French statistics indicates.

 2016 (GDP growth unchanged, at +1.1% WDA), 2015 (−0.2 points at +1.0%) and 2014 (+0.3 points at +1.0%)

As you can see the annual rate of economic growth has been essentially 1% as we note something of a reshuffle in the timing. Indeed in spite of a better couple of quarters the current annual rate of economic growth in France is you guessed it 1%! Somehow 1% became the new normal as we wait and hope for better news as 2017 develops. Should we get that then at this stage of the cycle I fear we may then be shifting to how long can it last?!