Category: Economy

Analysis of the global economy

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Don’t blame demographics, blame the government

Niels Jensen’s Absolute Return monthly newsletter raises one of the major structural impediments to growth in Europe:

As [economist Woody Brock] pointed out when in London, ageing has only had a modest impact on GDP growth and inflation so far. Governments have ruined economic growth in Europe; demographics haven’t. If employment laws are such that employment is virtually for life, companies stop hiring. If you can’t fire, you don’t hire, as Woody pointed out….

Similar impediments are evident in Australia. If developed economies want to compete in global markets, they need to get their house in order. Raising barriers to free trade is not a sustainable alternative but will instead destroy any remaining semblance of competitiveness. Trade barriers result in a limited choice of products, forcing customers to pay higher prices and accept inferior quality. Lack of competition leads to the death of innovation. Quality deteriorates and we soon face another zombie industry dependent on government support. A prime example would be the motor industry — in Europe, North America, even Australia — over the last half-century.

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Gold rises as the Yuan and interest rates fall

China seems to have given up on its policy of supporting the Yuan against the Dollar, with USDCNY breaking through resistance at 6.60. Depleting foreign reserves to support the Dollar-peg was always going to be a tough call for the PBOC. But the alternative of increased capital flight and rising counter-measures from trading partners may exact an even higher price.

USDCNY

Perhaps the PBOC was encouraged by fading prospects of further rate rises from the Fed this year, after BREXIT. 10-Year Treasury Yields are headed for a test of support at the all-time low of 1.40 percent in 2012.

10-Year Treasury Yields

Gold broke resistance at $1300/ounce and is now retracing to test the new support level. BREXIT, a weakening Yuan, and lower interest rates are all likely to fuel demand for gold. Respect of the band of support at $1280/$1300 is likely and would signal another advance, with a target of $1400/ounce*.

Spot Gold

* Target calculation: 1300 + ( 1300 – 1200 ) = 1400

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Rebalancing, wealth transfers, and the growth of Chinese debt | Michael Pettis

Michael Pettis summarizes China’s debt dilemna:

This, I think, is really the key point. There is no way Beijing can address the debt without a sharp drop in GDP growth, but as unwilling as Beijing may be to see much lower growth, it doesn’t have any other option. It must choose either much lower but manageable growth today or a chaotic decline in growth tomorrow.

…..History suggests that developing countries that have experienced growth “miracles” tend to develop risky financial systems and unstable national balance sheets. The longer the miracle, the greater the tendency. That’s because in periods of rapid growth, riskier institutions do well. Soon balance sheets across the economy incorporate similar types of risk.

….Over time, this means the entire financial system is built around the same set of optimistic expectations. But when growth slows, balance sheets that did well during expansionary phases will now systematically fall short of expectations, and their disappointing performance will further reinforce the economic deceleration. This is when it suddenly becomes costlier to refinance the gap, and the practice of mismatching assets and liabilities causes debt, not profits, to rise.

Xi Jinping doesn’t have the short-term focus of most developed economies, where leaders are primarily concerned with the next election, but even he has failed to grasp the nettle. Cutting GDP growth may fuel greater political instability but this is a price China has to pay.

Source: Rebalancing, wealth transfers, and the growth of Chinese debt | Michael Pettis’ CHINA FINANCIAL MARKETS

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Gold surges on BREXIT fears

Long-term interest rates continue their decline, with 10-year Treasury yields breaking support at 1.65 percent. Breach signals a test of the all-time (July 2012) low of 1.40 percent.

10-year Treasury yields

Gold broke resistance at $1300/ounce on fears of a BREXIT vote on June 23rd and expectations that the Fed will need to soft-pedal on interest rates. Breakout offers a long-term target of $1550*.

Gold

* Target calculation: 1300 + ( 1300 – 1050 ) = 1550

Chinese buying of gold has been relegated to secondary status, at least for the next week. Sale of foreign reserves appear to have resumed, with the USDCNY running into resistance at 6.60. PBOC sale of foreign reserves weakens the Dollar, boosting demand for Gold.

USDCNY

Disclosure: Our Australian managed portfolios are invested in gold stocks.

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Why BREXIT matters

From The Guardian, June 14th:

Support for leaving the EU is strengthening, with phone and online surveys reporting a six-point lead, according to a pair of Guardian/ICM polls.

Leave now enjoys a 53%-47% advantage once “don’t knows” are excluded, according to research conducted over the weekend, compared with a 52%-48% split reported by ICM a fortnight ago.

….Prof John Curtice of Strathclyde University, who analyses available referendum polling data on his website whatukthinks.org, noted that after the ICM data, the running average “poll of polls” would stand at 52% for leave and 48% for remain, the first time leave has been in such a strong position.

If the UK votes to LEAVE, we can expect:

  • A sell-off of UK equities. GDP is expected to contract between 1% and 2%. A Footsie breach of support at 6000 would signal a test of 5500, while breach of 5500 would offer a target of 5000 (5500 – [ 6000 – 5500 ]).

FTSE 100

  • UK housing prices fall.
  • A sharp sell-off in UK banks in response to falling GDP, equities and housing — threatening contagion in financial markets.
  • BOE rate cuts to support the UK economy.
  • A sharp fall in the Pound due to uncertainty, lower interest rates and lower capital inflows.

GBPUSD

  • The Euro falls in sympathy, as confidence in the EU dwindles.
  • The US Dollar strengthens, causing the Fed to back off on further interest rate rises.
  • Volatility surges across all markets.
  • Gold spikes upward.

Hat tip to The Coppo Report

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China manufacturing remains under duress | Westpac

Elliot Clarke

From Elliot Clarke:

There was little new information in the headline China manufacturing PMI results for May other than confirmation that the sector remains under duress. The official NBS measure was unchanged at 50.1, while the Caixin PMI edged 0.2ppts lower to 49.2. Also released today, the official non-manufacturing PMI deteriorated from 53.5 to 53.1.

…..For manufacturing, both new order indexes deteriorated in May, to (a still expansionary 50.7) for the NBS survey and a (contractionary) 49.7 for the Caixin measure. This modest discrepancy corresponds to the greater external focus of the Caixin measure and the poor state of global demand. Export orders are falling according to Caixin respondents and are static amongst NBS’ survey participants.

Stocks of finished goods continue to contract, yet the absence of orders means that a pipeline of new work is struggling to build. On that basis, it seems unlikely that production will strengthen materially in the near term.

Currently production is best described as stagnant…..

Given the production and orders detail, it is unsurprising that employment continues to contract outright, at 48.2 and 46.3 respectively for the NBS and Caixin surveys.

Source: Westpac: China PMI update May 2016

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Gold tanked? Not yet!

Gold broke below its recent flag formation, warning of a test of support at $1200/ounce.

Gold

Selling is driven by expectations of a Fed interest rate hike in June …..and recent Chinese stimulus which postponed Yuan devaluation against the Dollar. But expectations of a rate hike are causing a sell-off of the Chinese Yuan, with the USDCNY strengthening over the last few weeks.

USDCNY

…Which in turn will cause the Chinese to sell foreign reserves to support the Dollar peg (…..else devalue which would panic investors and cause a downward spiral). Sale of Dollar reserves by China would drive the Dollar lower.

Dollar Index

…and Gold higher. I remain bullish as long as support at $1200/ounce holds.

Disclosure: Our Australian managed portfolios are invested in gold stocks.

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Death of America’s department stores

From Bob Bryan:

Old-school retail has been getting walloped lately…..

Torsten Sløk, chief international economist at Deutsche Bank, has one chart in his monthly chartbook that lays out a pretty straightforward reason for the decline. In the chart, Sløk presents the startling decrease in the amount of income Americans spend on clothing….

Source: HERE IT IS: One brutal chart shows death is imminent for America’s department stores | Business Insider

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The high-rise boom is over

From The AFR:

Macquarie Bank is planning to hit the brakes on lending to high rise and high density apartment dwellings in up to 120 postcodes around the nation amid growing fears about falling demand and oversupply. A confidential memo from the bank to brokers announces that from May 23 it will require a maximum loan to value ratio of 70 per cent, which means buyers will have to stump-up another 10 per cent deposit…

Leith van Onselen:

Macquarie’s latest actions, of course, also follows curbs by other major lenders aimed at mitigating exposure to high-rise developments, including:

  • tightening of lending criteria….
  • increased mortgage rates for investors; and
  • refusing to lend to overseas buyers…..

Every tightening of criteria by Australia’s mortgage lenders represents another nail in the high-rise apartment boom’s coffin.

Source: Macquarie joins high-rise lending crack-down – MacroBusiness

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The Internet of Things: it’s arrived and it’s eyeing your job

From Malcolm Maiden:

The Internet of Things is “billions of connected devices from vending machines to mining equipment, aircraft engines and their componentry, agricultural sensors and cars,” [Andy] Penn said in his first keynote speech as Telstra CEO in July last year.

It both offers opportunities and poses threats. Penn mentioned in his first speech for example that a Committee for Economic Development of Australia report on Australia’s future workforce had estimated that almost 40 per cent of the jobs that exist in Australia had a moderate to high likelihood of disappearing in the next 10 to 15 years.

“Machine learning is the biggest driver of this because of its implications for the service industry,” he said. “In future, many traditional services type activities will be done by computers more quickly, more cheaply and more accurately.

“New jobs will be created by the Internet of Things, too of course. We just don’t know yet exactly where they will be…..”

Source: The Internet of Things: it’s arrived and it’s eyeing your job

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