Strategic Alpha Macro Update

Tyler Durden's picture

Submitted by Strategic Alpha

Macro Update

It appears to me that the markets are NOT listening to what Bernanke is saying:

Apparently, I am told USDJPY rallied last night after Bernanke spoke on inflation but if you actually listen to what he said, he is quite clearly not worried by a transitory rise in inflation if wages do not follow! He went out of his way to suggest that the lack of wage inflation and inflation expectations are still on the low side means that he is not likely to see a pickup in core inflation and therefore is still unconcerned with rising prices. This does NOT suggest to me that he is planning to do anything about inflation in the foreseeable future. Mind you it seems that the bond markets realised this as futures rallied in Asia last night and correctly so. He may respond if he sees it but he was clear he does not. Bernanke is NOT concerned with inflation yet. For goodness sake just because Bernanke mentions inflation does not mean he is about to jack up rates or cancel the Q/E programme! There is also a very real possibility that foreign buying of US bonds is tailing off and cancelling Q/E now might be very bad timing indeed.

The problem I have with all this is that time is running out for a decision on Q/E but there is simply not enough evidence to make an informed judgement on the state of the economy and how it would react to a withdrawal of liquidity. Most analysts just look at the ISM and other supply data but Bernanke has got to make sure the economy can survive without his daily liquidity gift. In addition, if as some suggest, Q/E2 has done its job by ramping up equity markets, it still falls far short of his mandates. Unemployment is still massive (the real level is nearer 12-13%) and the participation rate continues to fall. Today there are 44.2 million Americans on food stamps, or 14.3% of the US population! Analysts also seem to forget the massive mountain of issuance coming from the Treasury this year and next. Consumer debt and confidence also matter more to Bernanke than it does to main stream analysts and housing is not helping at all and looks set fall further causing havoc at the banks again.

I must admit I have just seen the biggest load of old rubbish and political spin that I have heard in a long time and the source is scary. “The upsurge in commodity prices is not a result of the  Federal Reserve's quantitative easing”, according to research at the San Francisco Federal Reserve Bank released Monday. San Francisco Fed economists Reuven Glick and Sylvain Leduc contend that, “if anything, the Fed's large scale asset purchases, better known as "QE2," have put downward pressure on commodity prices”. WHAT? I give up; where do they find these idiots and why are they allowed to speak? Is the Fed so much on the defensive that it feels the need to spin this garbage?  It seems to me “thou dost protest to much methinks”.

The UK economy is in big trouble as stagflation looms:

The UK is just waking up to some of the austerity cuts and higher tax bands at a time when essential costs are spiralling higher. The cost of living will certainly impact hard but the problem is that growth is headed in the other direction. Real wages are falling so it is clear that consumers need to change their spending habits, if not their way of life. This is going to hurt and the UK cannot afford to allow the central bank to raise rates at this time, as it would be disastrous for the economy and consumer. In fact I would suggest that rates should not rise at all this year.

This concentrated focus on the fear of inflation is something quite strange in reality. The rapid rise in prices is not a demand issue from the UK, it is external pressures and a 25bp rise will achieve nothing but more pain. Job cuts are still to hit in the public sector and confidence is already at record lows. Higher stamp duty on buying houses is in place now and it now costs £50,000 for the privilege to buy a house costing £1m. VAT is at 20% and tax bands have been moved up. Petrol now costs £1.44 a litre for diesel for those not in this country and food costs have gone ballistic. The UK is now a very expensive place to live for all but the 1% of top earners.

The UK also has a huge private debt issue (one of the biggest in the world) and I can only see this being addressed now as many will shed debt and deleverage. Surely the economists on the MPC will be good enough to look past the supply-side data and look at what is happening with the consumer. As Bernanke keeps saying (Trichet seems to disagree) if wages don’t move higher, then inflation, whilst sticky, is transitory as spending on non-essentials could collapse. An increase in mortgage payments now would tip many over the edge. Of course there is a problem, as the rate decision is a committee decision and this can produce an outcome that goes against the two senior members, King and Bean.

As the Telegraph points out; According to the Office for National Statistics, real disposable incomes (what's left after taxes and inflation) fell 0.8pc in 2010 – the first decline since 1981 and only the sixth since records began over 60 years ago. Given the Office for Budget Responsibility's (OBR) forecasts, working Britain better get used to it. Inflation is expected to exceed pay rises until the middle of 2013. In my view we need to take a new look at how we analyse inflation at the central bank as to me it should have a growth component built into the target.

Without doubt the knock-on effects of this will be felt by the retailers as higher input prices will have to be passed on or margins will collapse. The problem is the consumer is in no mood for higher priced non-essentials and the high Street is about to take a massive hit as earning get slammed. Given the pressures on consumers, the OBR has slashed its estimate of households' contribution to growth this year from 1.3pc last June to 0.6pc. This is far too optimistic still and 2011 is going to be a very tough one for many, even the middle classes as the disposable income levels are dropping like a stone. Families are going to be forced to dip into their savings or borrow more! Maybe not; they may just change their life styles and stop buying things they don’t need or can’t afford. After all it was only a generation or two ago when this was the norm. Maybe we need to have a close look at what impact that would have. Whatever happens growth forecasts are still too high and a rate hike would be a policy error.

The IMF’s global growth forecast is too optimistic:

Whilst suggesting correctly that the global economy is still rather fragile, the IMF then went on to suggest that growth we reach 4.5%. I disagree. I am not sure they are projecting forward the drop in demand from higher food and fuel prices across the globe and especially the developed world who are massive importers. Tackling debt, higher taxation and fewer jobs is going to take its toll on spending. Even in the US, prices are rising fast but wages are not, as alluded to by Bernanke and this matters. Demand-side dynamics need more attention!

Australia’s trade balance swung unexpectedly to a deficit in February at A$205 mln, for the first time in almost a year, as disruptions from natural disasters cut mining shipments and higher fuel prices boosted imports. New Zealand’s business confidence slumped to a two-year low in the first quarter, with 27% of companies surveyed expecting the economy to deteriorate over next six months. We still don’t know the full impact of the supply shock from Japan but the Tankan is not giving good news and PMi’s in Japan are collapsing. Japan also has to import just about all its essentials and costs are soaring! In Asia many are now revising down GDP growth forecasts for Taiwan, Malaysia, Singapore and Thailand based on the quake story! Let alone those of the UK and US! Plus the Nikkei reported Toyota’s 14 factories in North America may temporarily halt operations in April due to a shortage of parts provided from Japan. Global PMI’s have also peaked in my view.

There are very real shortages in soft commodities like corn and soya beans so food prices may well stay elevated and who knows where the situation in MENA will take oil to. Europe still has a massive issue with the peripherals and a rate hike will surely impact hard on the public there. EM nations are intervening like mad as hot money flows in which will exacerbate inflationary fears and impact on the domestic consumer. This money is recycled into currencies like the EUR and a higher EUR will not help the peripherals at all.

Developed world debt is also a massive unknown as countries take different strides to tackle it. (Not the US of course but their day is coming fast). This must surely mean higher taxes and further cuts for the poor consumer. The US still has to deal with the foreclosure issue and who knows what that means for banks solvency issues? The French have cut growth expectations to 2% from 2.5% for 2012. Consumer confidence across the developed world is falling precipitously and spending habits are likely to change. Can no one else see all this? In my view in summation, the demand dynamics may well impact on many central bank monetary policy decisions let alone growth forecasts...Wake up.