Powell Won't Be Yellen's Sock Puppet Today

By Michael Every of Rabobank

Wall Street ultimately ignored the US CPI report (stocks closed slightly up, bond yields little changed, the dollar down) because: (i) it’s the Fed today; and (ii) nobody wanted to reverse the Lazarus-like recovery in end-quarter and end-year targets, and bonus and job prospects. The problem was the actual data. In m-o-m terms, CPI was 0.1%, a tick above expectations, core CPI 0.3%, in line, and the Fed’s favorite measure, core services ex-shelter, 0.44%, a slither from rounding up to 0.5%, and 5.28% annualised. Indeed, on a y-o-y basis the prints were 3.1%, 4.0%, and 4.1%. You think the Fed will make aggressive rate cuts within months on the back of that, while unemployment is still so low, and financial conditions are so much easier (i.e., with junk bond issuance leaping again), just “because oil”?

We get to find out today, but don’t be surprised if Powell hawkishly underlines that just because rates are unlikely to go up, doesn’t mean they will go down yet. One of the reasons we can suspect this will be the case is because, yet again, Treasury Secretary Yellen just spoke as if she was still running the Fed, stating “inflation is meaningfully coming down,” she “sees no reason why inflation shouldn’t come down to the Fed’s target,” and “the labor market remains strong, yet cooling.” With his favorite inflation measure picking up again, Powell surely can’t read from the script Yellen wrote for him without looking like a sock puppet; wouldn’t he rather make Yellen look like a magic mushroom?

Not that the Fed looks at the world much, but China has said (again) that it will raise policy support in 2024, which may temper some of the deflation there; Japan’s Tankan today was upbeat, especially in the services sector; ocean carriers think the outlook for global trade is picking up in 2024; and New Zealand house prices are up 12.2% y-o-y again. Imagine how stupid things will get with any deep Fed rate cuts. Then again, that’s precisely why some price for them.

Meanwhile, no sooner had I published yesterday’s Global Daily warning about 2024 risks to inflation from disruption at sea than Yemen’s Houthis attacked a Norwegian vessel. Insurance rates for the Red Sea are already moving up from 0.07% to 0.2% of cargo value: another few attacks like that and it will be shipping that moves.

Then, after finishing an interview in which I underlined that such a geopolitical backdrop means the West will have to adopt a ‘grand strategy’ fusion of higher AND lower rates, and looser AND tighter fiscal policy, as well as free trade AND selective protectionism, and shifts in industrial, labour, education, and defence policy (see here for Europe, with the US proposal to rebuild its merchant marine fleet another), the bipartisan Congressional Select Committee on Strategic Competition Between the United States and Chinese Communist Party released ‘Reset, Prevent, Build’, a strategic proposal for the US to win this “economic competition”.

I don’t expect a market that won’t look at the details of a CPI report to read a 53-page policy document, and it remains just that, not the legislation it calls for. However, there are calls in it that would change the US and global economies and global markets, and not in a way that says ‘rate cuts’.

Pillar One of three is ‘to reset the terms of the US economic relationship with China’, which is “incompatible with the WTO and undermines US economic security” by:

1. Moving China to new tariffs, phased in over a short period of time to give the US economy time to adjust, to restore US economic leverage.
2. Allowing the imposition of tariffs or other restrictions if Chinese products cause or threaten to cause “market disruptions,” even without showing unfair trade practices.
3. Using tariff revenues to build US national security and expand market opportunities globally.
4. USDA and USTR determining alternative market access for agriculture exports that predominately rely on the Chinese market, and Congress considering additional appropriations to offset retaliation for farmers, US exporters, and other workers.

That’s a complete reversal from free-trade to outright mercantile, neo-Hamiltonian economics, and shatters the pattern of international agri commodity flows – but there is much, much more, e.g., an annual assessment from USDA on US dependency on critical agricultural products or inputs that could be exploited by adversaries; ring-fencing the USMCA from Chinese goods; working with likeminded countries to propose new disciplines on non-market economies; amending the Tariff Act of 1930 to reduce the de minimis threshold for duty-free shipments into the US – so no more ordering cheap stuff from China at home; and perhaps providing financial assistance or other substantive support to SMEs or first-time petitioners who are pursuing an unfair trade case against China. This is called trade decoupling.

Next, requirements for large US public companies to disclose key risks related to China and the expected effects of a sudden change in market access; and forcing Treasury to provide monthly reports on US portfolio holdings of foreign securities on the basis of nationality. That leads to Pillar Two (‘To stem the flow of US capital and technology fuelling China’s military modernization and human rights abuses’), that includes: bans on certain investments; Congress giving US investors a one-year period to divest from Chinese entities before taxing investment there at the same rate as ordinary income, while deferring capital gains taxes for investments shifted to strategic sectors and small businesses in the US; giving CFIUS more power; restrictions on Chinese involvement in US R&D; far tighter controls on the export of US tech; and banning TikTok. This is called capital and technology decoupling.

Pillar Three (‘Invest in technological leadership and build collective economic resilience in concert with allies’) includes: federal investment in US innovation; tax incentives for private US investment in key areas; a talent strategy to promote R&D that includes allowing in workers with the right skills from Five Eyes countries, the Quad, and select NATO countries; federal funding for technical education and training in advanced manufacturing, shipbuilding, cybersecurity, and other fields; and directing federal offices and encouraging the private sector not to require four-year college degrees for jobs openings unless absolutely necessary; while supporting displaced workers into robust training and reemployment services. This is called reindustrialisation. (A trend which implies pain for the likes of defiant Hamas-ward University: ironically, its financial-capitalism-hating post-structuralists may now be deconstructed out of future jobs by a US shift away from said financialisation towards production and construction.)

The report also argues for the US to work with allies by moving towards comprehensive bilateral trade agreements, starting with Taiwan, then the UK and Japan - which must include provisions to ensure China is not able to take advantage; a critical mineral Resilient Resource Reserve to insulate the US from price volatility; and domestic, or close-allied, critical mineral and pharmaceutical production, using tax incentives and changes to environmental legislation. This is called a split into walled, ideological trade blocs. (As New Zealand may now join AUKUS, and says it will run a pro-US foreign policy.)

Little of the above is new. However, a *bipartisan* report echoing Bidenomics, Rebuilding American Capitalism of national conservatives, and founded in the US Hamiltonian tradition should be taken as the most likely US path ahead – it’s just a question of how much, and when.