By Stefan Koopman of Rabobank
For Japan's Sake
Some remarkable news from Japan caught our attention yesterday. Where governments usually raise excise duties and spend millions on campaigns to turn people away from alcohol, Japan is going the opposite way and now encourages its use, especially among young adults (and potential life-long consumers..?). Alcohol consumption has been in a downward trend since the 1990s, as the population ages and has become more conscious of its adverse effects, while sales in the izakayas are under additional pressure due to the pandemic. In this summer’s campaign – dubbed Sake Viva! – the government calls on its citizens to come up with ideas to revitalize the liquor industry and to get consumption going again. It doesn't matter whether it’s sake, shochu, whisky, beer or wine, as long as its Japanese, raises taxes and helps to get yens circulating in the domestic economy. So, here’s my idea, at least for when tourism gets going again: “For Japan’s sake, drink!”
Let’s switch to a country that doesn’t need as much encouragement. This morning, the UK’s GfK consumer confidence fell to a new record low of -44 in August, with all sub-categories falling. Readings of -30 or lower generally portend a recession. Consumers are still slightly less pessimistic about their own finances than about the general economic outlook, which would suggest that actual spending holds up a bit better than feared, but at these depths this distinction seems to be a little academical. Retail sales were up +0.3% m/m in July, but -1.2% on a rolling 3m/3m basis and on a steady downward trend since the summer of last year. Sales volumes are up just 0.4% compared to three years ago and likely to move lower than higher as record inflation erodes buying power, a consequence of events that are far beyond the control of ordinary people. Unfortunately, for some, that is more than enough reason for a drink or two...
The new prime minister will face a distressed electorate, which senses a decline in institutional trust, sees a sluggish response to the cost of living crisis, and knows of the structural prospect of a trade war with the EU. The government could have been more clear on what support will be in place before energy bills skyrocket in October, could have acknowledged that now is not the time to engage in trade conflicts with Europe, and should have sought ways in how to restore the social contract between the government and its citizens. None of that is happening.
Yes, Liz Truss says she will slash taxes and consider targeted cost-of-living payments if she becomes Prime Minister, but the ugly combination of stagnating economic growth and high inflation will significantly reduce the GBP 30bn worth of fiscal headroom she still claims to have. She could of course always opt for an emergency budget, which would effectively side-line the Office for Budget Responsibility and allow her to rely on a set of economic forecasts that are six months out of date rather than an updated one, but that is a brazen move that would further erode the institutional framework responsible for the UK economy.
If demand stimulus in the face of sky-high inflation is indeed her immediate answer to a crisis, i.e., if she really wants to channel her inner Erdoganomist, why not urge the Bank of England to cut rates too? After all, that’s what Turkey’s central bank did yesterday: doubling down on a strategy that has failed over and over again. Despite inflation nearing a reported 80%, which is 16 times the ostensible target, the central bank still decided to reduce the policy rate by 100 bps to 13%. Once again, investors were reminded that a core plank of Erdonomics is that by making borrowing cheaper and by giving less money to bond holders via lower interest payments, inflation will slow down rather than push higher and higher.
To be fair, in macro and in markets, cause and effect are always convoluted and change direction more often than economists are willing to accept, but the CBRT clearly sets itself apart as the central bank that believes bringing inflation back towards a somewhat acceptable rate is no longer the policy target, let alone less than a year before the general election. It’s also again daring to blow away its remaining FX reserves in order to defend the value of the currency, something that is eventually bound to fail, as the UK itself knows all too well. In five-sixths of all daily observations since 1990, the lira was weaker against the dollar than it was in the year prior (... and, logically, stronger than it was next year). The pair currently trades at 18.1, up 0.8% from yesterday and up 112.4% from this time last year. Where will it be next year?
The dollar itself got a boost yesterday following some goldilocks data from the US and is again nearing parity with the euro. The Philly Fed jumped to 6.2 from -12.3. This is the highest in four months. It contrasts sharply with Monday’s miserable Empire Fed, reporting a rise in employment and a less pronounced weakening in new orders. Delivery times improved too, adding to a rapidly expanding list of evidence that supply chain constraints are easing relative to the current state of demand. Jobless claims were at 250k lower than expected too, defying fears of a too rapid cooling in the labor market. The Fed’s Kashkari, Bullard, George and Daly had speaking engagements yesterday: there wasn’t a single sign of any backing away from further rate hikes ahead.
On the other hand, US existing home sales fell to a two-year low of 4.81 million. With house prices still at or near their peak and mortgage rates having just spiked, housing affordability is under stress in most if not all Western economies. Fewer and fewer first time buyers qualify for the mortgage required for an averagely priced home, while other buyers have an incentive to wait for a correction. This is already leading to a rise in inventories of homes on the market, which suggests there is deceleration in price increases ahead of us. As such, housing markets continue to be weak spots, being the most responsive and vulnerable to this year’s tightening in financial conditions. House values are a key determinant of household balance sheets and do influence a broad set of discretionary spending decisions, even among households who don’t directly borrow against home equity to finance spending on reconstruction, remodelling or other big tickets. There are many good reasons to believe that housing cycles leads the business cycle, a continued spate of weak data on this front is a warning signal that requires close attention.