18December2017

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Global Economic Weekly - May 30, 2017

 

 

President Trump’ s first  foreign trip  was a mixture of the good, bad and bizarre – with the virulently anti-Trump media focusing on the last (his over-long handshake with Macron at the NATO Summit, his elbowing aside of Montenegro’s PM etc).  There were, however, several more substantial points of contention.

 

The high spot was probably his first stop; his visit to Riyadh went smoothly, despite predictable criticism about the size of the US $110 billion arms sales package and (less predictable) concern that the US is aligning itself too closely with the Sunni side in what the US media sees as a global power struggle in the Islamic world between Sunni and Shi’a. As for his trip to Jerusalem, while he said almost all the right things about US support for Israel (for domestic consumption back home), what may be more significant is that – slightly to my surprise - he did not succumb to pressure to announce a move of the US Embassy from Tel Aviv to Jerusalem – something that had taken on disproportionate importance for Israel’s backers in Washington.  That was positive.  The NATO Summit was less so. True, Trump’s complaints about inadequate European defence spending were justified, and he did get agreement that NATO should turn its attention to ISIS/ISIL.  But there seems to have been some genuine animosity towards him from other leaders, and his failure to give an explicit

endorsement of NATO’s Article 5 (which commits all members to intervene militarily i f any one is attacked) is being seen as a policy shift by the US. Indeed, it was described by Nick Burns, a former US Ambassador to NATO, as a “major mistake” – even though Trump did unveil a memorial to the one time that Article 5 has been invoked, which was in the wake of 9/11.  In truth, too much is being made of this, perhaps because it plays into the hands of the European establishment – exemplified by Ms Merkel, who gave a speech at the IFO Institute last week in which she used Trump’s alleged pussy-footing around Article 5 to warn that the US is no longer a reliable ally and that Europe is now “on its own”.

 

 

As for the G7 Summit  in Sicily, which ended Trump’s peregrinations, it was also a mixed bag.

 

The formal agenda included security and terrori sm-related issues (which obviously got more attention as a result of the Manchester bombing), climate change and trade. All were deeply contentious.   Add in the fact that four of the seven leaders (Trump, Macron, May and the host, Italy’s PM Paolo Gentiloni) are new and that Canadian PM Trudeau is not much more experienced, and it was pretty clear that discussions would be difficult. They were.

 

 

The most contentious  issue was clearly climate change – on which the Summit failed to reach agreement. Trump pledged to decide this week whether or not to pull the US out of the Paris Accord, but made it very clear that his personal belief is that the Convention is a waste of time. On trade, he did agree to a reference in the communique about the need to fight protectionism – but he also won an endorsement of “fair” (as well as “free”) trade. Perhaps more to the point, he managed to enrage Merkel by promising to end Germany’s chronic trade surplus with the US – which he described as “bad, very bad”.

 

 

Meanwhile, while Trump was on his travels, the biggest development in Washington was presentation of the Administration’s (revised) 2017/18 budget proposal, which is discussed below.  Other than that, the media focus on the alleged links between Trump’s Presidentia l campaign  and Russia remains intense – with a lot of attention directed to the imminent testimony by former FBI Director Comey to the Senate Intelligence Committee.  The attacks on Tr ump (which are bitter) were helped by the testimony of Comey’s immediate predecessor, John Brennan, who told Congress last week that the Russians deliberately target influential figures in Washington “to act on their behalf”.  Bizarrely, he seemed to be suggesting that, in his opinion, Trump’s dealings with Russia had set him on “a treasonous path” – even though there have been no reports of anything remotely “treasonous”. That said, even Jared Kushner – Trump’s favoured son-in-law, who had previously been given a surprising easy ride by the Washington media – has now been implicated in the rapidly metastasizing scandal. His ‘crime’ is apparently that he tried to set up a ‘back channel’ to Moscow during the transition period – something that (to me, at least) seems fairly sensible.  Add to that John McCain’s comment over the w eekend that Russia is a bigger threat to the US than ISIS, and it is safe to say that the current craziness is not going to end any time soon.

 

 

Will the Trump Presidency survive? Well, British bookies only give it a 50/50 chance. I am a bit more optimistic, but I had a few friends round to dinner in New York last week and they were uniformly supportive of impeachment – or of his removal under the 25th Amendment. Madness, but they firmly believe they have right on their side.Any good news?  Well, I am personally delighted that former Senator Joe Lieberman has taken himself out of the running to replace Comey at the FBI. It couldn’t happen to a nicer guy. The new favorite would seem to be Kenneth Wainstein, a former US Attorney for DC under George W Bush.

 

 

The global economy: Generally, the global economy is picking up – as shown below, in the preliminary data for May

 

Purchasing Managers Indices:

 

 

Markit PMIs for May (preliminary)

 

 

 

 

 

¹ Nikkei data

 

That, however, does not include either the major emerging markets or China, where there are worries about a slowdown. However, for the advanced economies, things are looking up.

 

 

That is generally the case in the US – even though the Administration’s revised budget proposal – which was submitted to Congress last week – was immediately dismissed by most Congressmen as ‘dead on arri val’.  That is probably true – but that is also not new. Although the press is (as always) blaming Trump, Administration proposals on the budget are never much more than a starting point for discussions with Congress.In this case, the goal that the Administration set itself was to balance the Federal budget within 10 years – and to do it plausibly.  That meant spending cuts in the few discretionary areas that remain, plus higher tax receipts as a result of the faster growth that the Administration insists will be induced by the budget package itself.  Not surprisingly, it is the cuts that have attracted more ire.

 

 

The proposed cuts total US $4.5 trillion over 10 years – US $616 billion of which is supposed to come from Medicaid, US

 

$193 billion from food stamp programmes, US $143 billion from student loans, US $72 billion from disability assistance, US $63 billion from public sector pensions, and US $38 billion from farm subsidies. There will also be cuts to AIDS programmes (which the NYT  bizarrely alleged “may cost a million lives”) and in innovation programmes more generally, cuts to foreign aid and cuts to education. It is also proposed that the US should sell off another 270 mil lion barrels of oil from the Strategic Petroleum Reserve, netting the government almost US $17 billion.  Against that, military and infrastructure spending is to be increased – allegedly helping to boost growth, and therefore tax revenues.

 

 

It is all a fantasy – not least because the 3% annual growth assumption underlying it is even more optimistic than that employed by the Reagan White House (under the influence of the so-called ‘Laffer curve’).  Plus, the budget ducks the issue of entitlement reform, without which a balanced budget will always be unachievable. Still, it gives Congress something to talk about – and further ammunition for the press to brand Trump as heartless, greedy etc.

 

 

As far as the markets are concerned, the budget proposals were probably less importa nt than the FOMC minutes, which also came out last week. They indicated very clearly that the Fed believes it will “soon be appropriate” to raise interest rates and that it will also start to shrink its bloated balance sheet, probably in the third quarter. That means that a 25-basis point increase in the funds rate is now a virtual certainty for the June 13 -14 FOMC meeting.

 

 

Paradoxically, this pretty much cast-iron guarantee of higher US interest rates came in a week in which it was reported:

 

 

 

-    that new home sales fell 11.4% in April (though they were still up year-on-year);

 

-    that existing home sales were down 2.3%;

 

-    that the Kansas City Fed’s activity index fell in May from +12 to -1;

 

-    that first-time jobless claims rose by one thousand in the latest week;

 

-    that the (preliminary) deficit in goods trade rose from US $65 billion to US $68 billion in April;

 

-    that durable goods orders fell 0.7% in April (and by 0.4% ex-transportation); and

 

-    that the final reading for the Michigan confidence index fell in May from 97.7 to 97.1.

 

Against that, the Chicago Fed’s national activity index rose in April from 0.07 to 0.49 – good(ish), but not enough to tilt the balance.  More significant, perhaps, the (preliminary) first quarter GDP growth rate was unchanged at 2.4%, which was a

bit stronger than expected. Although I am still bullish on the US economy (and the GDP growth rate is cl early positive), there is little doubt that last week was a bit disappointing.

 

 

Nevertheless, US equity markets have been exceptionally strong – buoyed by very strong corporate profits in the first quarter, with total earnings by S&P500 firms up 13.6% year-on-year and bank earnings up 13%. Prices have now risen for six straight days, leaving the DJIA up 1.3% for the week, at 21,080, by the close on Friday, the S&P500 up 1.4%, at 2,416, and Nasdaq up 2.1%, at 6,210. Yesterday was a holiday in the US (as here), but the general expectation is that markets will continue to rise – notwithstanding fears that they are ‘toppy’.  Even the retail sector, which had been lagging, looks better, and the so-called VIX index (which measures volatility and risk) has fallen by half, to just 9.7. That said, it is worth emphasising that the S&P500 is currently selling at 23 times earnings – which is a bit ‘rich’, considering that its 10 -year average is 17.

 

 

Turning to Europe, it was also a busy week – with the NATO and G7 Summits (the EU had six participants at the latter, with both Tusk and Juncker allowed at the table) and the terroris t bombing. The latter demonstrated once again just how difficult (indeed, impossible) it is to protect against this kind of atrocity in a modern society and Thursday’s killing of Coptic Christians in Egypt reinforced the point for any society.  The beginning of last week also saw an important

ECOFIN meeting, which had been expected to authorize a further disbursement from Greece’s second bailout package, so that it could repay its official creditors when the next €7 billion bond payment falls due in July.

 

 

In fact, however, no decision was made – although it appears to have been agreed that the IMF will remain on board, though it will not put up any new money for Greece until the other ‘institutions’ (the Commission, the ECB, the ESM and individual EU member states) have finally agreed how much debt relief should be offered to Athens .

 

 

Considering that Merkel and her Finance Minister, Wolfgang Schäuble, remain opposed to any debt relief for Greece (at least until after the German elections), that could take some time. In the meantime, the next attempt to free up another bailout tranche will be made on June 15.

 

 

All of this must be intensely frustrating for Greek PM Tsipras – who has committed to push through yet another austerity package (cutting public sector pensions in particular), despite the fact that the economy is still shri nking. Not surprisingly,opposition to this has been mounting, and may well be behind a letter bomb which injured former PM Papademos last

 

Thursday, although not seriously.  He is deeply resented in Greece as a former Vice -president of the ECB who was

 

“parachuted” into Prime Ministerial office to push through the “troika’s” demand for much tougher fiscal policies.  There is a serious danger that (with youth unemployment still over 50%) the attack on Papademos could be the start of another campaign of violence.  (The key question is whether the hitherto unknown group which claimed to be behind the bombing, the so-called ‘Cells of Fire’, is in fact linked to the old November 17 movement – which actually did kill people.)

 

 

Elsewhere in the Eurozone, French President Macron is (as expected) facing increasing opposition  from labour unions, who oppose anything that looks like economic liberalism. However, he is continuing to attract political support, particularly from the centre-right – which is steadily improving his chances of winning a Parliamentary majority later this month.  His meeting with Putin over the weekend – in which he laid down ‘red lines’ on Ukraine, Crimea and chemical weapons, that might provoke some kind of French retaliation were Russia to cross them – was the kind of stupid, macho gesture that (it is assumed) the electorate  likes. Maybe.

 

 

Elsewhere in the Eurozone the political situation seems to have taken a turn for the worse.

 

 

 

In Spain, for instance, the PSOE has just re-elected its former leader, Pedro Sanchez, who had been ousted eight months ago. That almost certainly means the end of cooperation with PM Rajoy’s minority PP government – which, in turn, makes elections much more likely. Ditto in Italy, where Gentiloni  is now hinting that there could be an election in September, at the same time as Germany.

 

 

Economically, the main Eurozone news last week came out of Germany – where the economy is looking better and better. In addition to the strong PMI data, it was reported:

 

 

-that IFO’s expectations survey for May jumped from 105.2 to 106.5, with the current conditions sub -index up from 121.4 to 123.2 and the business climate index up from 113.0 to 114.6;

-    that GfK’s confidence index for June rose from 10.2 to 10.4; and, most signific ant,

 

-that the preliminary increase in GDP in the first quarter of 0.6% was confirmed,  leaving year -on-year growth also unchanged at 1.7%.As for France, the main release was Insee’s business climate index, unchanged in May at 109. In add ition, it was reported at the end of the week that the business confidence index had fallen from 107.7 to 106.9, while consumer confidence fell even more sharply from 107.4 to 105.4. Macron and his economics team have their work cut out.

 

 

As for here in the UK, it is perhaps astonishing (at least to me) just how little ‘Brexit’ currently figures in the campaign for the June 8 election – which is being fought almost entirely on domestic issues (though, obviously, terrorism is now also on the agenda). Nevertheless, there was one significant development on the ‘Brexit’ front last week – an internal Commission paper proposing that the relocation of the two EU agencies currently based in London (the European Banking Authority and the European Medicines Agency) should be subje ct to a secret ballot, with the final decision to be taken by October. (Given that France and Germany would probably veto each other, the favourite for the EBA is probably, and surprisingly, Vienna.)

 

 

As for the election itself, the polls have narrowed sharply - which has hit sterling. Following Mrs May’s latest policy U- turn, prompted by negative reaction to the Conservatives’ manifesto promise/threat to make seniors pay more for late -age care (branded a ‘dementia tax’), one poll has the Tory lead at just five points over Labour, with the LibDems trailing on just

10%. There is still little doubt that Mrs May will increase her majority (and other polls still have the Tories ahead by up to

 

14 points) – but previous hopes of a lead of 110 -120 seats now seem most unlikely.  As a result, anti- ‘Brexit’ campaigners are unlikely to be silenced, and the Commission may decide that it is still worth squeezing Britain in negotiations so as to force a change of mind.

 

 

As for the British economy, it was reported last week that, according to Rightmove, house prices (which had been widely expected to fall) actually accelerated in May, rising 3.0% year-on-year, up from 2.2% in April.  (That hasn’t stopped half of London claiming that the market has slumped, though there is really no evidence of softness except at the very top end.) On the other hand, it was also reported:

 

 

-    that the CBI’s Distributive Trades Survey index fell in May from 38 to just 2;

 

-    that new home sales fell 11.4% month-on-month, after rising 5.8% in April; and

 

-that the increase in first quarter GDP was revised down from an initial gain of 0.3% to 0.2% - sharply lower than the 0.7% recorded at the end of 2016 – largely because of net trade knocked 1.4 points off GDP.Clearly, the weak GDP number was a big disappointment.  Bloomberg attributed it to ‘Brexit’; others argued that higher inflation has cut consumer confidence and/or that a weaker pound is responsible.    Maybe it is just the business cycle; what goes up must (eventually) come down – at least, a bit.

 

 

As for European markets, they have been mixed.   Surprisingly, the strongest performer was the UK last week, where the FTSE 100 closed up 1.0% at a record 7,548 (following a 0.5% gain the previous week). As for the Xetra Dax, it closed down 0.3% at 12,602 on Friday, but bounced yesterday to close at 12,629. As for France, the CAC40 closed up 0.2% last week at 5,337 but fell four points yesterday. Bond markets have been generally stronger, with the yield on the 10-year German bund falling from 0.37% to 0.29%, and the yield on the 10-year UK gilt dropping from 1.10% to just 1.01%.

 

 

As for Japan, the Nikkei-225 closed up 0.7% last week, at 19,687, and was broadly flat yesterday.  That wa s despite some disappointing economic data. In addition to the Nikkei PMI, for instance, it was reported:

 

 

-    that the all-industry activity index fell in March by 0.6%, after a drop of 0.7% in February;

 

-    that the trade surplus fell in April from Y615 billion to Y482 billion; and

 

-    that the coincident index for March fell from 115.2 to 114.4.

 

 

 

On the other hand, leading indicators rose from 104.7 to 105.5 and, perhaps more important, there are signs that inflation is picking up. At a national level, for instance, consumer prices were up 0.4% year -on-year in April, up from 0.2% in March. For Tokyo alone, the CPI was up 0.2% in May – after a drop of 0.2% in April.

 

 

In China, I should have spotted that the Shanghai ‘B’ index fell 2.8% the week before last – which might have indicated that someone had an inkling that bad news was on the way.  The bad news came last Tuesday, when Moody’s announced that it had downgraded China’s long-term debt rating from A1 to Aa3 (with a stable outlook) – essentially, the same as Japan. This was the first cut since 1989, and it apparently reflected concern about:

 

 

-    rising corporate and personal indebtedness;

 

-    slowing productivity growth; and

 

-    a shrinking population (a Chinese-American demographer last week claimed that India’s population of 1.33

 

billion is now bigger than that of China, which he put at 1.29 billion).The fear appears to be that China’s model of debt-fuelled growth may not be working, and that the country could follow

 

Japan – with a bursting of the bubble followed by stagnation lasting ten years or more.

 

 

 

Despite this, it is worth noting that the Shanghai Composite  is up 3% since last Wednesday – suggesting that not everyone

 

shares Moody’s pessimism.

 

 

 

Looking at the emerging markets more generally , there is good and bad news.

 

 

 

For the West at least, the good news last week came from Iran – where the (relatively) moderate  President, Hassan Rouhani, won a second term with an unexpectedly decisive victory over the hard -liner, Ebrahim Raisi.  The 57/39 margin, on a 70% turnout, was much higher than expected – reflecting the power of Iran’s expanding middle-class. Now, I hope, Rouhani gets a break from the hawks in Washington.

 

 

Elsewhere, the focus continues to be on Brazil – where the ramifications of the so-called ‘car wash’ scandal continue to rock the country, as well as its markets. Last week, the main revelations came from Joesley Batista, head of the JBS meat- packing empire, who alleges that he paid President Temer at least US $4.6 million in illegal party and personal donations. That might be enough to get Temer impeached – except that Batista also alleges that he paid Temer’s two predecessors, Dilma Rousseff and Lula, US $30 million and US $50 million respectively.  And that he paid Eduardo Cunha (the prime mover behind Rousseff’s impeachment) US $5.9 million.

 

 

Batista is now trying to win immunity by offering to have JBS ready to pay a fine of somewhere between US $1.3 billion and US $3.4 billion to settle charges of bribery.  Under the circumstances, Temer may fell that his offences are pretty trivi al given the massive corruption throughout Brazilian politics and society.  That said, it was reported over the weekend that his own allies are trying to find a way to ease him out gently – possibly by annulling the 2014 elections (in which Temer ran as Dilma’s V-P.)

 

 

Two other significant developments over the weekend:

 

 

 

-    In South Africa, Zuma got a second wind – quashing a party revolt in the ANC, whose ExCo finally decided

 

not to dump him ahead of next year’s election.-In Venezuela, Maduro got help from a most unexpected quarter. Goldman Sachs decided to buy PDVSA bonds with a face value of US $2.8 billion from the central bank – admittedly at a deep discount, paying ‘only’ US $865 million.  Still, every little helps to keep the Socialist paradise on the rails.

 

 

Currencies:  The week before last was a bad one for the dollar, with the dollar index off 1.6% - its worst week since last July, largely because of growing concern in Washington that Trump’s economic programme might have to be abandoned because of his political troubles.  Last week – with the President swanning around the Middle East and Europe – the dollar managed to bounce back a bit.

 

 

Through the close on Friday, for instance, it was:

 

 

 

-    up 0.2% against the euro, at US $1.118/€;

 

-    up 1.8% against sterling, at US $1.280/£;

 

-    flat against the yen, at Y111.23/US $;

 

-    down 0.2% against the Swiss franc, at US $0.975/SF;

 

-    up 0.2% against the Australian dollar, at A$1.3434/US $; and

 

-    down 0.4% against the Canadian dollar, at Can$1.345/US $.

 

 

 

The big move was obviously against sterling – which had been trading close to US $1.31/£ earlier in the week. Its subsequent weakness primarily reflected the disappointing GDP revision, plus the tighter election pol ls and a natural reaction to the Manchester bombing.  The bounce of that Canadian dollar reflected the BoC’s decision to leave interest rates unchanged – which more than offset fears about the oil price.  Nevertheless, it wa s reported on Friday that there are record short Canadian dollar positions outstanding.

 

 

As for gold, it opened last week at around US $1,253/oz.  Despite the (slight) recovery in the dollar since then, spot gold has actually firmed.  It is currently trading at US $1,269/oz – up 1.1% since the beginning of last week.

 

 

Energy:  On Thursday, it was reported that the much-hyped OPEC Ministerial meeting had finally decided to extend the existing agreement on production cuts through next March – and (though it wasn’t independently confirmed) that Russia and the other non-OPEC members involved have agreed to go along as well.Good?  Well, initially oil prices rose – but then they fell back sharply, closing down as much as 5% on the day as the market decided:

 

 

-    that the nine-month extension isn’t long enough; and

 

-    that what is really needed is a deeper cut in oil volumes.

 

 

 

The core problem is US production – particularly of shale. Thanks to the increasing efficiency of North American tight oil producers, the EIA is now projecting that total US crude production will average 9.9 million b/d next year, a record. On top of that, as noted, Trump’s latest budget proposal foresees a significant sell -off of oil from the US strategic reserve – which could also push down prices. (It may be the one part of the budget that actually gets approved.)

 

 

Against that, it is true that global stocks are continuing to fall – not least in the US. In the last week, for instance, the API estimates that private stocks fell 1.5 million barrels, while the EIA estimat es that total stocks were down 4.43 million barrels – marking the longest run of weekly declines since last July.

 

 

Whatever, the net result has been a further fall in the spot price.  At the close on Friday, WTI for July delivery was selling at US $49.79 – up 0.7% for the day, but down 1.9% for the week. July Brent was at US $52.18/barrel – also up 0.7% for the day, but down 2.8% for the week. By the close yesterday, WTI was at US $49.99 and Brent at US $52.29 – still down week- on-week. With reports emphasising that private equity is now pouring money into the US shale sector, prices could still fall lower.

 

 

Banking and finance:  Two stories are particularly worth noting:

 

 

 

-It was reported last Tuesday that Trump’s Labour Secretary, Alexander Acosta, has decided that the so-called “fiduciary rule” – which, as a part of the Dodd-Frank Act, requires US brokers always to act in the best interests of their clients when dealing with retirement funds – will come into force as scheduled next month. This is despite howls of anguish from the industry, and despite an Executive Order from the President that it should be reviewed with the possibility of dropping it altogether.  The hope (of activists) is that brokerages will now have to put in place procedures to meet the rule – and that they will, therefore,  be reluctant to be seen to drop them even if the rule itself is eventually rescinded.-    Last Thursday, the BIS announced publication of a new Code of Conduct for FX markets, including 55

 

‘principles’ covering information sharing, hedging, transparency, the ‘last look’ practice of spoofing trades etc. This Code is voluntary, and it is not certain how many dealers will sign up – but it is a start. If it doesn’t work voluntarily, it could well be made mandatory.

 

 

As for this week, we are now back in business after the Spring Bank Holiday and Memorial Day in the US. That is a good thing since the rest of the week looks exceptionally busy.

 

 

In the US, Washington will get back to persecuting the President – particularly over his alleged links with Russia.  As far as economic releases are concerned, the most important is non-farm payrolls for May – likely to be up around 185,000. Other significant US releases include:

 

 

-    the final PCE (personal consumption indicator) for April;

 

-    personal income and expenditure for April;

 

-    the Fed’s ‘Beige Book’ survey;

 

-    the unemployment rate for May; and

 

-    the final PMI reading for April.

 

 

 

In Europe, the unemployment rate for the Eurozone will be released, along with inflation data. In Franc e, first quarter GDP growth will be published, while here in the UK, the markets will focus on inflation for May and on the construction PMI.

 

In Japan, the unemployment rate for April will be published, along with household spending, housing starts and t he preliminary figure for industrial production.  In China, both the NBS and Caixin PMIs for May will be published.

 

Andrew Hilton


Government Australia Advisory Board

Simon Crean MP

John Brumby 

Kristina Keneally

Mark Vaile

Nick Greiner

Alexander Downer

Peter Charlton

Trevor Rowe

Warwick Smith

 

Bob Carr