In the backwards world of bonds and mortgages, in which good news is bad, good news pushed up long-term rates last week.
U.S. data may encourage the Fed to accelerate the end of ZIRP (zero interest rate policy), at its meeting this week, possibly, maybe, perhaps, tentatively pre-hinting a rate hike by removing “for a considerable period” from its post-meeting statement.
Continuing this good-news issue (the only one each year), threats of war have receded. Czar Vladimir will continue to make trouble, but Russian troops are not headed for Kiev, instead pulling out of Ukraine after preserving the pretense of separatist rebellion. ISIS… more wise old heads say this 8th Century mob is a local threat in a locality beyond redemption. Newtonian physics are in play: the more dangerous either of these bad actors, the more resistance will gather against them.
The optimists had a good week
U.S. economic data have been seen for years through two lenses: worrywarts fear that we are in a protracted period of stagnation defiant of remedy, and optimists have thought recovery is protracted but underway. The optimists had a good week. Retail sales picked up .6% in August and both July and June were revised up (although auto sales are driving the show, pushed way ahead of natural demand by trash credit and giveaway discounts). The National Federation of Independent Business (NFIB) survey of small business is now in a steady up-trend (annoying to its far-right, anti-government chief economist, fighting his own data).
Behind that happy U.S. foreground lies the Fed and the world, and that background scenery is without precedent. I don’t know of a time in the modern era when U.S. conditions have been so different from the rest of the world, the UK excepted. As healthy as the U.S. is becoming, and as stable because of extraordinary efforts by the Fed to de-risk the financial system, the rest of the world is deteriorating and unstable.
Just this week Brazil’s credit was downgraded near junk, caught in slowdown, inflation, and weak demand for exports. Venezuela has joined Argentina stumbling toward default. Japan’s GDP contracted at a 7.1% pace in the 2nd quarter, fading under the weight of a national sales tax taken from 5% to 8% to cut its deficit (fifty percent of spending); the slide so bad that new stimulus spending is under discussion. A bad trap, no evident escape from the austerity-stimulus circle. Europe is in a similar situation.
The benefits to us, big ones, flow through currencies and weakening foreign demand for commodities. The euro touched $1.40 in April, now $1.29; the yen one year ago traded 96 to the buck, now 107. A similar devaluation by China would mightily annoy the U.S. (last month’s China trade surplus with the US: $49 billion), but China trades too much with Japan and Europe to tolerate an appreciating yuan versus euro and yen.
Imports will get cheaper and watch Fed rates
Everything we import, oil to sneakers, will tend to get cheaper. In dollar terms oil is already down 10%, gasoline prices falling. Our trade deficit will rise, and must be financed, but money is cheap thanks to the panicked policies at the European Central Bank, Bank of Japan and intermittently the Peoples Bank of China. Our exports become more expensive, but in total are only about 12% of our economy (over 50% in Germany).
In this circumstance it is impossible for inflation to rise to dangerous ground. The kindling is soaking wet, and the match — rising wages — nowhere in sight.
So why would the Fed consider a rate-warning next week? There are reasons for the Fed to act other than prices. In the fall of 2008 the Fed embarked on a completely unprecedented rescue which took hold in just a few months, the means an explicit intention to cause financial assets and homes to rise in value. Worked, too! Now the Fed must be concerned that these assets not bubble, not be vulnerable to more significant tightening in a real recovery.
Hunch: long-term rates are not headed far. The spread to foreign equivalents is too wide, US bonds too attractive, the US deficit under control.
Another good news hunch. China has sent a battalion of People’s Liberation Army infantry to Sudan as UN peacekeepers, the first-ever unit so large. To protect its own people and business venture there, but Chinese engagement is a hopeful thing.
US 10-year T-note, last year. A lot of support between here and 3.00%. Too many got too long bonds too soon, and the exit got crowded this week.
Retail sales… the upward revision of summer results broke a multi-year downtrend.
The NFIB has been the only good guide to small business conditions in the Great Recession, and its survey goes back to the early ‘70s. Slow and painful, but might be an up-trend at last.
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