By Michael Every of Rabobank
Double Or Nothing
There’s lots to cover today, but let’s start with inflation. Friday’s Michigan consumer sentiment survey saw the headline rise to 86.4 from 82.9 because expectations jumped from 78.8 to 83.8, while current conditions fell; and 1-year ahead inflation expectations dropped from 4.6% back to 4.0%, and five-year inflation from 3.0% to 2.8%, even as the ‘good time to buy a house or car’ sub-indices collapsed due to the inflation being seen in those areas. Perhaps everyone surveyed closely tracks the lumber market, where prices are tumbling; or they instinctively grasp high prices destroy demand; in which case, everything is “transitory”. Like anaesthetic-free dentistry?
Meanwhile, in China there was also major inflation news Friday. Bloomberg stated “China Turns to Its Huge Commodity Reserves in Bid to Tame Prices”, underlining Beijing will be using its stocks of commodities --soft to hard-- to cap prices, starting with aluminium, coal, copper, and zinc. China has also stated it will set up a temporary pork reserve system to keep a lid on that key ‘P’ in CPI --along with corn, wheat, edible oil, and vegetables-- allowing the state to stockpile whenever domestic prices fall “excessively”, and to sell when prices rise too high. In short, China is effectively trying to act as the global price setter of commodities to keep inflation in check.
Yet commodities are subject to global demand, and are priced in USD not CNY! Against a general reversal in global commodity prices, releasing Chinese stocks, after lashing out at speculators, suggests a further near-term dip. However, such stabilisation schemes can only work long term if China has enough reserves relative to the rest of the world’s demand, not just its own. It’s similar to selling FX reserves to prop up an over-valued currency at a target rate: it works fine for a while – but even the largest reserve piles don’t last long if the entire global market is leaning in the opposite direction. And while one can close off the FX market and capital flows in a pinch, one cannot do the same for food or commodities. In short, if global demand does not quit, then the risk is Chinese price pressures will double.
Herein, one sees an uncomfortable truth revealed. Under the Trump presidency, there was recognition in China of its strategic vulnerability to ‘tight’ USD liquidity via the presidency and USTR (tariffs), the Fed (rate hikes, and indirect access to swap lines), and the Treasury (sanctions). As we now see, even an ultra-loose Fed --the presidency, USTR, and Treasury are unchanged-- offers its own problems: too many dollars, if they push up the price of commodities, can be as destabilising as too few.
On which note, over to the G7. Headlines were grabbed by plans to donate 1bn doses of vaccine to the world – which only shows most journalists can’t count and need to reply on former UK PM Gordon Brown to do it for them, because the ex-G7 population is around 7bn, and the offered doses only cover 500m. In short, the global Covid problem, and risks of new, more dangerous strains emerging, is going to linger – and we need much more than double that pledge to quit worrying about the global outlook.
Other headlines were focused on how the G7 had aligned behind the White House’s push for a more aggressive stance vs. China, in line with its ‘democracies vs. autocracies’ rhetoric. The actual wording of the G7 statement on China (implicitly and explicitly) was not really different from that of previous years. However, there were a few major points of difference suggesting the G7 is going to double and not quit given it:
Demanded an unimpeded, transparent, WHO-led investigation into the origins of Covid-19, which many observers note is most unlikely to ever happen – so what then in response?;
Pledged that by October 2021 steps will be taken to remove goods produced with forced labour from supply chains. This may not have named names, but everyone knows who this means – and few realise how disruptive it will be to already-strained supply chains if acted on;
Offered a green, inclusive ‘Build Back Better World’ (B3W) to bridge a $40 trillion global infrastructure deficit (which includes “gender neutral” and “feminine” construction according to PM Johnson, doing his usual job of grasping at trendy memes like a drowning man at flotsam and jetsam). Crucially, by its ‘inclusive’ definition, B3W cannot mean allowing the fruits of new green industries to be harvested only in China, and exported to the West from it;
There was a promise of an (initial?) $100bn alternative to China’s Belt and Road Initiative (BRI). Details are of course lacking, but it is a huge geostrategic step forward – and one predicted back in March 2017 (“One Belt, One Road?”). Expect World Bank/IMF Green Loans to crowd in private sector investment in emerging markets, which will build infrastructure that sees key green resources and logistics to flow towards the G7, not China; and
Expect NATO to get involved in protecting this as a new global ‘green’ strategic mission. And it is NATO where President Biden heads today.
Of course, China’s response was tart, asserting that the days when global decisions were dictated by a small group of countries are long gone: and ahead of Biden’s side-bar meeting with NATO ally President Erdogan of Turkey, Beijing boosted the PBOC FX swap-line Ankara enjoys from $2.4bn to $6.0bn.
However, potentially the West will now be dolling out global cash like candy too, which its central banks have been doing for years after all, and to little geostrategic or geoeconomic benefit. What do you think that will mean for global commodity demand, or for attempts to try to cap it by any one country, no matter how large?
And speaking of large countries, after visiting NATO today, and diplomatically making the same point both Presidents Obama and Trump did before him --that freedom is neither free (nor free trade)-- President Biden then goes to Geneva on Wednesday to meet with Russian President Putin. Somewhat puzzlingly, Biden just stated that he believes the US and Russia can work together on Covid, cyber-crime, and conflicts. They already are – just on opposite sides.
Of course, Wednesday is the same day as the June Fed meeting (see here for our preview) and its latest round of dot-plottery, where we get to see if it is 2023 or 2024 before a new front is opened up on markets. The key point, however, is that these little dots are now as inextricably linked to larger geostrategic issues as the wooden representations of aircraft pushed around maps with sticks by staff in WW2 movies.