The Global Markets Weekly – 11/13/15

Posted November 16, 2015 by rvillareal

Will the Center Hold?[private]

The toppling of the coalition government in Portugal is the latest evidence of rising populism around the globe.  While it is easy to think this is caused mainly by the poor economic performance since the 2008 crash, the seeds of dissatisfaction have been there for decades.  In the U.S. for example, middle class living standards has gone nowhere since 2000, and increased only modesty after 1970.  Making the current situation worse is that the US and the rest of the world enjoyed breathtaking increases in living standards from 1946 to 1970.

In normal times, governments would throw money at those problems.  They did to varying degrees provide emergency aid after the crisis.  By 2010, however, the cupboard was bare and sovereign debt ratios reached alarming levels, forcing many governments to adopt austerity measures.  By 2013, the new-found enthusiasm for austerity has run its course among the larger economies although it is still being pushed on smaller economies like Greece and Portugal.

The pain of austerity was supposed to be accompanied by structural reform, which held the promise of longer-term gain.  But significant reforms have been hard to achieve, even in the richer economies like Italy, partly because reform makes the current soft outlook even softer and that there is little money available to compensate the losers from reforms and build support.

The dire fiscal situation puts the onus on monetary policy, something the last two Fed chairmen have repeatedly complained about.  This helps explain the “long for long” pledge of the Bernanke-Yellen Fed and a similar (if unstated) pledge other central banks.  The Fed knows that the one proven way to lift middle class living standards (without spending scarce tax dollars) is run the economy “hot” for several years.  Like other central banks, the Fed is concerned of prematurely withdrawing stimulus, which contributed to the second downturn in 1937 in the U.S.  In a tight fiscal/easy monetary policy regime, interest rates are likely to stay low for longer than many think, even if growth perks up noticeably.

• U.S.:  The calendar winds down next week and the FOMC minutes (Wed) may be ancient history as happened before the blowout jobs report.  While investors are resigned to a December hike as more FOMC members seem to be getting on board, the Fed’s mettle may be tested if equity markets extend their losses.
• Eurozone: ECB comments of late do seem to be stressing the importance of core rates in assessing the underlying inflation picture with the central bank probably aware that there are absolutely no signs of any deflation psyche emerging, the very opposite!  Any rise in the core rate that is confirmed in the Monday HICP update will serve to refute the more depressed inflation assessment of underlying inflation that ECB President Draghi has made of late!
• UK: It remains less clear to what degree the BoE is being swayed by the current low inflation backdrop, albeit open to the fact that the weakness in prices is crucial to the increasing consumer spending power backdrop. Regardless, a further negative reading should be evident in the October CPI data due on Tuesday.
• Japan:  The Q3 GDP release (Mon) will show the contraction has stopped but with little forward momentum.  As a result, a patient BOJ will announce that no additional stimulus will be needed at the meeting (Wed).

gmw_1113[/private]