Let Us Know When You Might Start Hiking #ecb

The somewhat ambivalent approach to today’s ECB meeting is a sign of just how dead monetary policy is. We can’t quite leave behind the lower-forever days that consumed us for most of this year, but we face an ECB who might both extend QE and announce when it might be stopping, all at the same time. Even in October, sources were leaking that a taper was being discussed, then last week we got the Reuters story quoting sources:

“Coupled with the extension, there’s a sense that you need to send a signal, also for the hawks, that we will not be in the QE (quantitative easing) business forever,” one of the sources said. “We’re not talking about tapering. We’re talking about a signal.”

OK so not a taper, but at the least it’s an end to QE forever. Or even lower-for-longer. Or even, in fact, the relevance of monetary policy at all, when inflation is coming back. Indeed, the ECB hawks will surely be flagging up one of Draghi’s favourite charts, which shows how inflation expectations have skyrocketed since the start of November, now up at the highs of the year:

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That’s in stark contrast to the deflationary despair of the summer, when this measure hit 1.25%. Now up at 1.68%, that’s heading jolly near to the ECB’s mandated target of “below, but close to, 2%”. And yet the world still acts as if the ECB is locked in a deflationary quagmire death spiral of doom. All the negativity over the Eurozone for the past 5 years casts a long shadow. Sure, there are political risks ahead, and sure, this is just inflation expectations, not actual growth, BUT… the world needs to wake up and come to its senses that the interest rate picture has changed. Even if the ECB were to extend QE and not talk about a taper today, it’s quite evident from the leaked discussions that an end to QE is in sight. Even if they were to cut the deposit rate, wouldn’t that just serve to steepen the yield curve, restoring strength to financials?

QE is a busted flush.

It’s no longer Hands Up if you’re Easing, but Let Us Know when you Might Start Hiking… as shown by RBNZ Governor Wheeler overnight. In his bullish speech he was pretty clear that they are done with cutting interest rates:

‘The latest developments “do not cause us to change our view,” … “We expect monetary policy to continue to be accommodative, and that the projected policy settings will help generate sufficient growth to have inflation settle near the middle of the target range.”’

Interest rate hikes are now creeping into the yield curves of Australia and NZ for the second half of next year.

And so whatever happens today we are at a turning point. The monetary policy emperor really does have no clothes.

Who’s talking to who?

Those of us who sit with our heads immersed in financial markets can sometimes feel as if we are the centre of the world. It all meets here, the hopes and fears of all the years; the conflagration of politics and economics; the constant and ongoing setting of prices. But oh dear, doesn’t it also lead to the worst kind of bubble. The kind of bubble that leads to an arrogance to mock all other bubbles, with City people talking about the Westminster Bubble, or Main Street vs Wall Street, and so on. For a long time it didn’t really matter, as all bubbles were engaged in the biggest of all debt bubbles, and reaping the rewards. When it burst, everyone was hurting at the same time. And everyone relied on the same source for absolution, with central bankers thrust front and centre as our only Obi-Wan Kenobi hope. Only they could deliver the monetary medicine to keep the system going. No wonder that the actions of Mervyn, Ben, Mario and co were followed so closely.

But then something happened. The monetary policy drug went into overdrive, as its effects became less and less powerful. Doing QE? Well I’ll see your QE of government bonds and raise you with equities or mortgage bonds! Fine, I’ll beat that with my Rubicon-crossing into Alice in Wonderland negative interest rates! Stick that in your proverbial pipe and smoke it! Ah, but all that smoking… all that cheap money… all that lower-for-longer that eventually became lower-forever…The medicine kept getting jacked up but the patient still had fundamental problems.

Our dearly beloved unreliable boyfriend Mark Carney tried to point this out with a rather ambitious speech yesterday, arguing:

‘Monetary policy has been keeping the patient alive, creating the possibility of a lasting cure through fiscal and structural operations. It has averted depression and helped advanced economies live to fight another day, so that measures to restore vitality can be taken’

 

Surely no coincidence that just a few months ago, QE was flagged up by the new PM Theresa May for creating further inequality – and now the BOE Governor pops up to argue passionately that it does not. In fact, here’s a ruddy chart to prove it Theresa:

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Yeah! Take that (and party)!

Carney went on to point out that people felt “isolation and detachment” and there were 3 ways to tackle this:

“First economists must clearly acknowledge the challenges we face, including the realities of uneven gains from trade and technology,” he said.
“Second, we must grow our economy by rebalancing the mix of monetary policy, fiscal policy and structural reforms.
“Third, we need to move towards more inclusive growth where everyone has a stake in globalisation.”


Then, almost laughably, he goes on to say that many solutions lay “outside the Bank’s remit”. Oh thanks Mark… we just spent all that time listening to you, with your charts and your bullet points, and your answers… only to say, you personally couldn’t actually do anything about it. Aye here’s the rub. Central bankers are no longer talking to us, the investors. Or even us, the consumers or business people. He’s talking to the politicians. Meanwhile the politicians are trying very hard to talk to The People, but continually getting it thrown back in their face. The careers of Cameron, Clinton, and now Renzi demonstrate that. SOME politicians, of course, are getting it bang on – only many of them are not actually known as politicians (step forward never-held-elected-office-before Donald J Trump). No wonder career politician Tony Blair has popped up to give his opinion, declaring it all very ‘troubling’.

This all matters because it means that the sources usually relied upon to deliver a vision for the future are absent. No more 25bps here or there, a smidge of QE or a taper there – central banks are done. Monetary policy is dead. All we are waiting for with the ECB this week is whether the hawks managed to nobble the doves or do we get a “holding” press conference until they manage it in January? No, the central bankers aren’t talking to us. The politicians don’t know how to talk to us. The populists really aren’t talking to us.

Blondemoney had to smile at the comment from City attendees at a meeting with Chancellor Hammond and Brexit Minister Davis:

“There was quite a blunt warning that politically the Government does not want to be seen to do a deal to favour rich bankers, if it doesn’t comply with Brexit voters’ wishes – that there is more to the negotiation than just the City”

Horror! Telling people that the negotiation might not be all about them! Or what if in actual fact, they were telling the truth, with the emphasis on the words “does not want to be seen to do a deal”. Yes, doesn’t want to be SEEN to do it. Might actually do it, but it won’t look like that. Come on people, this is basic politics! The reason no one is getting it is because we are all like strangers, meeting on a train, speaking different languages. Just as the train is about to career of the tracks and we don’t know if there’s any emergency equipment on board.

Yes, it’s time to look outside of the bubble and figure out who is talking to who and why. Sadly that doesn’t fit into a quant model or a spreadsheet, but good old fashioned human contact might just be the order of the day.

Italy’s SNAFU

The Italian referendum is defeated and PM Renzi immediately announces his resignation. With the No vote winning by around 60% on a 68% turnout, there was little he could do. However let’s not forget this is the nation where Bunga Bunga Berlusconi popped up with far more than nine lives, and Renzi himself could be asked to lead an interim government. They can’t have a snap election while their electoral law is still undergoing reform. For an excellent round-up of the outlook for Italy, read this piece from Open Europe. The upshot is that we are in for a period of political instability, followed by potentially more instability and a merry-go-round of Prime Ministers. In short: exactly how it’s always been in Italy. The BAU for Italy is SNAFU. So why were people so wound up about this referendum?

It was right that it should have been on the “mind the gap” list of risks ahead several months ago. But since then quite a bit has happened, not least that it looked already that Renzi had miscalculated, would lose, and would resign. Oh and the small matters of Brexit and Trumpquake. After which, the market rushed to price in some mayhem. And now, as we know, any kind of mayhem-induced dip should be bought; therefore don’t expect much of a dip. The clear and present risk ahead is now whether the Italian banks can be recapitalised. But as 1) banking stocks are now globally in demand due to yield curves steepening and 2) the ECB stand ready to prop up any systemic risk via the fact they’re already doing QE …. this shouldn’t be too much of a problem. Monte Paschi already had enough expressions of interest on Friday in its debt swap to deliver 1bn of the 5 it needs. That can all change of course, but the risks you want to worry about are the ones you didn’t already know about.

Step forward….

1) The Donald on Twitter, announcing “Did China ask us if it was OK to devalue their currency (making it hard for our companies to compete), heavily tax our products going into their country (the U.S. doesn’t tax them) or to build a massive military complex in the middle of the South China Sea? I don’t think so!

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Let’s leave aside that he is using social media to announce policy; or that this just randomly came out on a Sunday afternoon… but weren’t we all getting excited that President DJT was rather different to Candidate DJT? We need to continue to expect the unexpected – or at least expect volatility ahead in US assets.

2) Brexit. We’ve now moved on from Hard vs Soft to White vs Black, with The Sun describing “Grey Brexit Anger” over the government’s plan to plough the middle ground. The government is indeed making this up as it goes along, but then how could it have been anything else? Again, expect this to create continued volatility in UK assets.

grey-brexit-anger

The risks are never those that have already been rehearsed and played out (see “Grexit”, 2012, 13, 14 etc). It’s those we haven’t tested nor fully understood that should be occupying your mind as we go into the rump of the year. Oh and what’s that about this week’s ECB meeting….. kicking the can into their January meeting as they too struggle with what to do now Monetary Policy is Dead?

 

Inflation’s Alive! Part 2

What a difference two years makes. At the Thanksgiving OPEC deal last year we were slapped in the face by the failure to deliver production cuts, sending oil into freefall and ultimately leading to the “Hands Up If You’re Not Easing” club, as central banks fell over themselves to pump up inflation. It got so bad that many moved into negative rate territory, let alone what had become the standard unconventional tool of QE. And now this year we have “OPEC in first joint oil cut with Russia since 2001”, sending oil shooting back up over $50 a barrel. Even without this, inflation had already started to rise. Here’s how underlying CPIs have been looking, with the red line marking when the ECB started to indulge in asset purchases:

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All have been stable or rising, with the most notable at the bottom – Switzerland storming back from the precipice of despair! Still negative of course, but getting there. Meanwhile the one that stands out in the opposite direction is poor old Japan. An uptick recently but not enough to arrest the downward momentum. No wonder the BOJ don’t know what to do.

As all good economists know, however, it’s not supposed to be about the level of inflation now. It’s about what is expected for the future. Hence why central bank inflation targets are supposed to be 2-3 years down the line. For this, we look at inflation expectations – and just look at what has happened for both Eurozone and US inflation expectations:

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A rather nice pick up in the past 6 months, even without the alleged Trumpflation boost, and even without a lasting agreement from OPEC keeping oil supported. Taking this further, we can see that EUR/USD has tracked the relative performance of these inflation expectations:

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So even as Mr Trump and his new team takes centre stage – with new Tsy Sec calling for 100yr Treasury issuance and the new Commerce Sec calling for “punitive tariffs for people who dump” – let’s not forget that inflationary momentum was already in place. True, those new policies might turbocharge it, as would a market who still doesn’t believe OPEC won’t renege on their deal… but it’s your judgement call on the likelihood of those outcomes. Blondemoney tries to stick to the facts, ma’am.

The bigger question is whether growth can accompany this reflation. Blondemoney is an optimist about that. But with US 10yr Tsys hitting 2.50% yesterday, are we sure that there’s enough growth in the pipeline for this to be 75bps higher than it was pre-Trump? Or was it just a necessary correction for a word where lower-forever had become too much of a one way bet….

and we haven’t even mentioned the Italian referendum! More on that tomorrow

Expect the unexpected

As the month draws to a close, thoughts already turn to the raft of final events that will see us into the end of this constantly surprising year. OPEC meeting today, where the bar for expectations is so low, they might just surprise us. The Italian referendum this weekend, where again the expectation is now so high for mayhem, that it may pass without event. For the ECB and Fed meetings, where we expect business as usual, but still use it to sell EUR/USD on rate differentials.

For anyone who thinks that the unexpected is unexpected, have a read again of this excellent prescient piece from Niall Ferguson, written in March of this year, and looking back on a Trump victory from the year 2024.

‘FROM the vantage point of 2024, as President Trump prepares to run for His third term in the White House, the events of 2016 have an air of inevitability about them. It is easy to forget — as we celebrate The Donald’s masterful decision to repeal presidential term limits by executive order — that it was only by a series of flukes that Mr Trump became president in the first place….

Nowadays, if you’re careful, you can still meet people who think it was all a horrible mistake. The wall that ended up keeping Mexicans in rather than out. The tariff war that triggered the depression. The alliance with Putin that encouraged the Russians to retake the Baltic states. The repeal of the first amendment’

http://www.thesundaytimes.co.uk/sto/comment/columns/NiallFerguson/article1675031.ece