Sive Morten
Special Consultant to the FPA
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Fundamentals
This week we've got a lot of statistics, although it mostly shows the same thing - situation is not becoming better. At the same time there were few loud geopolitical news that were not widely announced by media. Mostly it relates to China economy conditions, WHO statement on raising CV-19 cases and some others - all of them have direct relation and link with ongoing economical and political processes. Today we take a look at economical component and tomorrow in Gold report will take a look at other things.
Market Overview
The dollar extended its losses on Wednesday, as a slew of disappointing economic data raised the probability that the Federal Reserve will press the pause button in its efforts to rein in inflation. A barrage of economic indicators generally surprised to the downside, including private payrolls clocking a 52.3% monthly drop and second-quarter GDP revised significantly lower, to 1.7% on a quarterly annualized basis.
Thomas Martin, senior portfolio manager at GLOBALT in Atlanta, agreed.
The single currency was boosted by hotter-than-expected inflation in Germany, a day before highly anticipated consumer price data for the euro zone. German consumer prices increased by an annual 6.4% in August, down from a reading of 6.5% in July but above the 6.3% forecast in a poll of economists surveyed by Reuters.
Spain's consumer prices also rose to 2.6%, while core inflation fell to 6.1% from 6.2% in July.
The dollar gained on Thursday and was on track for a monthly increase of 1.69% against a basket of currencies as U.S. data showed a mixed picture of the American economy, while the euro was weighed down by cautious comments by a leading European Central Bank hawk. U.S. consumer spending increased by the most in six months in July, with an 0.8% increase, but slowing inflation strengthened expectations that the Federal Reserve would keep interest rates unchanged next month.
Atlanta Fed President Raphael Bostic said on Thursday that monetary policy is already tight enough to bring inflation back down to 2% over a "reasonable" period.
The euro ebbed on Thursday after ECB rate-setter Isabel Schnabel - considered one of the most hawkish members at the ECB - said euro zone growth was weaker than predicted, but that does not necessarily void the need for more rate hikes.
European Central Bank policy maker Boris Vujcic said on Friday that weaker economic growth could bring euro zone inflation down faster, but a resilient labor market continues to produce quick wage growth, creating upside risk for prices.
ECB policy maker Francois Villeroy de Galhau also said that the ECB has a range of options at its next interest rate meeting, although interest rates are near their high point and there are signs underlying inflation has peaked.
Money markets are pricing in a 79% likelihood that the ECB will leave rates unchanged at its September meeting.
Data on Thursday showed that Euro zone inflation held steady this month, but underlying price growth fell as expected, a mixed picture that complicates life for the ECB as it weighs the merits of a pause in rate hikes in the face of a visible slowdown in growth. Meanwhile, German unemployment rose more than expected in August, showing the first cracks in what until now had been a very resilient labor market.
The August jobs report showed a still strong labor market, despite some signs of deterioration. Employers added 187,000 jobs in August, above expectations for a 170,000 gain. But data for July was revised lower to show 157,000 jobs added instead of the previously reported 187,000. The unemployment rate rose to 3.8%, above the expected 3.5%. Average hourly earnings rose by 4.3% for the year, below expectations for a 4.4% gain.
Fed funds futures traders are now pricing in a 93% likelihood that the Federal Reserve will leave rates unchanged at its September meeting and see only a 36% chance of a hike in November, according to the CME Group's FedWatch Tool.
The Labor Department's payrolls report showed the U.S. economy added more jobs than expected last month, but the rising unemployment and participation rates, along with a welcome cool-down in average hourly wage growth, solidified expectations that the Fed will let key interest rates stand this month.But what the Fed will do beyond September remains an open question.
Fed Bank of Cleveland President Loretta Mester said on Friday that the U.S. labor market remains strong despite signs of it coming into better balance, while noting future interest rate decisions will be made based on incoming data.
Other data on Friday showed that U.S. manufacturing contracted for a 10th straight month in August, but the pace of decline continued to slow, suggesting that the sector could be stabilizing at lower levels.
What to expect from the Fed and ECB in September
Based on information above it seems that markets do not expect any rate change as from ECB as from the Fed in September.
Indeed, in EU we have clear signs of acceleration of destructive processes in economy. Growth in lending to euro zone companies slowed again in July, adding to already mounting evidence that sharply higher interest rates are putting a brake on credit creation and economic growth.
Economic data from PMI surveys in August showed the downturn in euro zone business activity deepened far more than thought this month in a broad-based fall across the region. Economic growth indicators are now pointing to a contraction in the third quarter, despite what could be a record-breaking tourism season. The weak data is intensifying debate over just how much more the ECB needs to do.
The M3 measure of money supply, seen in the past as a good indicator of future economic expansion, shrank 0.4% in July. The latest monetary policy indicators are screaming about the imminent starfall: the eurozone M3 growth rate is in the red for the first time since 2010, the overall demand for loans is the lowest since the beginning of statistics (20 years).
Bloomberg calculated that corporations will have to refinance about $ 400 billion of "cheap" debt until 2029:
The number of bankruptcies in the EU is already growing. In some sectors, such as transportation, the impact of sanctions is even greater than the direct increase in ECB rates, but rates have played their role.
To be fair, the level of uncertainty on what happens next - both within the major central banks and the investment world - is high and rising. Long-term visibility is unusually low. Specifically, I. Schnabel outlined puzzlement at why the inflation-adjusted risk-free rates priced by markets - real Overnight Index Swap yields from one to 10 years - had subsided again since the last ECB rate hike in July - back to where they were in February when ECB policy rates were just 2.5%.
"This decline could counteract our efforts to bring inflation back to target in a timely manner," she concluded, insisting that just holding rates here higher for longer was not a substitute for even more restrictive policy if warranted. Also spotlighting a dispersion in private forecasters' inflation outlooks to show a 'fat right-hand tail' indicating a significant probability of inflation settling above 2.5%, she stressed the ECB could not commit to ending its campaign yet.
But although well off early August highs of around 2.7%, market inflation expectations contained in the euro 5-year, 5-year forward inflation swap remain stuck at 2.5% - up more than 10bp from the start of the year despite 125bp of ECB hikes. If it's deemed essential that these expectations - and by extension those of wage bargainers and companies pricing goods - are nailed back to 2%, then the verbal jousting is either going to have to go up a gear or the ECB will have to turn the screw again.
Now to the Fed...
Although job statistics in the US is most politicized and manipulated, the Fed has more chances to keep rate flat in September, although we suggest that they will raise it later, in November and December, and this decision has non-economical reasons. We explain it tomorrow. Meantime, the US yields has grown to the crisis values of 2007-08, keeping the yield curve inversion at ultimate levels. In other words, there is another, additional factor that shows that the US economy is in an extremely unstable position:
Recent data in the table below shows that the structural crisis continues, but it seems that its scale is growing. This should not happen in accordance with the theory, but only in a situation where the state does not interfere in the economy. And it actively intervenes, and on a fairly large scale. As a result, structural changes begin.
A few more charts on employment, retail sales and personal consumption - pay attention to average weekly hours in the US. Nobody looks at this indicator, that's why it is less adjusted and shows the real picture. Take a look it is dropping since 2021 and indicates the deteriorating events in the US economy.
Now few words on relationship among production, consumption, inflation and money supply. The drop in money supply is not unique to EU, we see the same huge M2 drop in the US as well. And the Fed is keep tightening it. The expanded money supply (M2 and M3) should correspond to the structure of the economy and, if its structure is more or less fixed, change along with it (if it is artificially inflated or underestimated, either inflation or deflation begins). Since there are no fundamental changes in prices, they were growing a year ago, but now the situation is more or less balanced (see below), with prices rising in the consumer sector and falling in the industrial sector, this picture of the money supply suggests that the EU economy is in the worst state of crisis in the last half century …
Apparently, consumer prices went up again. Taking into account the decrease in the money supply, this means, most likely, that producer costs are significantly increasing, on the scale of 10-15% per year. This is natural against the backdrop of falling demand, but there is deflation in the manufacturing sector. That is, the profitability of the business falls significantly (and how else to compensate for the increase in costs). The next stage is an increase in the number of bankruptcies and a further drop in aggregate demand, that is already under way.
Sometimes it is interesting to take a look at some specific indicators, that could much better present current economy conditions. For example, cars theft rate in the US:
As we have shown in recent surveys, the surplus of household incomes created during the Covid-19 period (at the expense of the budget) has been practically consumed. This means that if you do not start a new campaign to give households budget money, then a serious drop in aggregate demand will begin. And this is extremely dangerous in an election year. Treat it as a transition topic to our tomorrow's Gold report....
Within the next two weeks we still will get the US inflation data that could change the market view. But for now ECB stands closer to the chance of rate change in September than the Fed, although in a long run, until the end 2023 the Fed will overcome ECB. For ECB September hike will become the last one (if it will happen at all), while Fed will raise rate one more time at least in November, although we think that in December as well, because we expect rising inflation in Sep-Oct.
Signs of destruction of EU economy are becoming evident - inflation is not slowing down, production sector is destroying, Sentiment at the lowest levels, unemployment is raising, consumption is falling - all these stuff we've shown above. Crisis is coming in real estate sector, especially in Germany, banking loans are slowing down, showing drop in economical activity. At the same time - inflationary expectations remain high and even rising. So, for the ECB this is last chance to raise the rate. Because now they still have interest policy momentum on the back, it will not become a big shock for markets as well. But in October and later - the destruction of economy will become too evident and much more pressure will be on ECB to hold rate.
The Fed, in turn, doesn't have so tight situation, at least based on statistics. Majority are sure that we're going to "Soft landing" and economy will grow, and we're getting out of the woods. They will despear very soon. Anyway, the Fed could let itself to not hurry up with the decision making and probably that is what they intend to do.
The schedule for September is as follows. Markets hope that the 13th September inflation reading would likely have to support the narrative of cooling consumer prices and resilient growth that has boosted stocks for most of the year. Investors will also scrutinise the message from Fed Chairman Jerome Powell after the central bank's Sept. 20 meeting to determine the likelihood of another hike this year.
Meanwhile, there's a risk of a fourth federal government shutdown in a decade if squabbling lawmakers cannot reach a deal by Sept. 30, when funding runs out with the end of the current fiscal year. On the data front, U.S. services sector activity is due Wednesday on coming week.
Take it all together, in nearest two weeks, EUR could keep some positive mood and even to show a bit higher pullback, but this will be the swan song. Because raising problems in economy and its evidence will start pressing on ECB to start cutting rates in the end of the year. This is the reason why we do not see an alternative to raising of USD in nearest 6-8 months. We also suggest that Fed will be tough on the interest rate due to political reasons that we will consider tomorrow. US Dollar could break the tendency even earlier, if we get strong US inflation data. In this case markets will be shocked, but we're waiting for this - as it is our primary scenario, although we are not sure that prices will be "in time" to get right into September report. More probable that we will see it only in October.
This week we've got a lot of statistics, although it mostly shows the same thing - situation is not becoming better. At the same time there were few loud geopolitical news that were not widely announced by media. Mostly it relates to China economy conditions, WHO statement on raising CV-19 cases and some others - all of them have direct relation and link with ongoing economical and political processes. Today we take a look at economical component and tomorrow in Gold report will take a look at other things.
Market Overview
The dollar extended its losses on Wednesday, as a slew of disappointing economic data raised the probability that the Federal Reserve will press the pause button in its efforts to rein in inflation. A barrage of economic indicators generally surprised to the downside, including private payrolls clocking a 52.3% monthly drop and second-quarter GDP revised significantly lower, to 1.7% on a quarterly annualized basis.
Thomas Martin, senior portfolio manager at GLOBALT in Atlanta, agreed.
Other data on Wednesday showed that the U.S. economy grew at a slightly less brisk pace than initially thought in the second quarter as businesses liquidated inventory. Inventory investment was sharply revised down to show it declining at a $1.8 billion pace instead of increasing at the previously reported $9.3 billion rate. Inventories were a small drag to GDP growth rather than adding 0.14 percentage point as estimated last month. There were also downward revisions to business spending on equipment and intellectual products.
The single currency was boosted by hotter-than-expected inflation in Germany, a day before highly anticipated consumer price data for the euro zone. German consumer prices increased by an annual 6.4% in August, down from a reading of 6.5% in July but above the 6.3% forecast in a poll of economists surveyed by Reuters.
Spain's consumer prices also rose to 2.6%, while core inflation fell to 6.1% from 6.2% in July.
The dollar gained on Thursday and was on track for a monthly increase of 1.69% against a basket of currencies as U.S. data showed a mixed picture of the American economy, while the euro was weighed down by cautious comments by a leading European Central Bank hawk. U.S. consumer spending increased by the most in six months in July, with an 0.8% increase, but slowing inflation strengthened expectations that the Federal Reserve would keep interest rates unchanged next month.
Atlanta Fed President Raphael Bostic said on Thursday that monetary policy is already tight enough to bring inflation back down to 2% over a "reasonable" period.
The euro ebbed on Thursday after ECB rate-setter Isabel Schnabel - considered one of the most hawkish members at the ECB - said euro zone growth was weaker than predicted, but that does not necessarily void the need for more rate hikes.
European Central Bank policy maker Boris Vujcic said on Friday that weaker economic growth could bring euro zone inflation down faster, but a resilient labor market continues to produce quick wage growth, creating upside risk for prices.
ECB policy maker Francois Villeroy de Galhau also said that the ECB has a range of options at its next interest rate meeting, although interest rates are near their high point and there are signs underlying inflation has peaked.
Money markets are pricing in a 79% likelihood that the ECB will leave rates unchanged at its September meeting.
Data on Thursday showed that Euro zone inflation held steady this month, but underlying price growth fell as expected, a mixed picture that complicates life for the ECB as it weighs the merits of a pause in rate hikes in the face of a visible slowdown in growth. Meanwhile, German unemployment rose more than expected in August, showing the first cracks in what until now had been a very resilient labor market.
The August jobs report showed a still strong labor market, despite some signs of deterioration. Employers added 187,000 jobs in August, above expectations for a 170,000 gain. But data for July was revised lower to show 157,000 jobs added instead of the previously reported 187,000. The unemployment rate rose to 3.8%, above the expected 3.5%. Average hourly earnings rose by 4.3% for the year, below expectations for a 4.4% gain.
Fed funds futures traders are now pricing in a 93% likelihood that the Federal Reserve will leave rates unchanged at its September meeting and see only a 36% chance of a hike in November, according to the CME Group's FedWatch Tool.
The Labor Department's payrolls report showed the U.S. economy added more jobs than expected last month, but the rising unemployment and participation rates, along with a welcome cool-down in average hourly wage growth, solidified expectations that the Fed will let key interest rates stand this month.But what the Fed will do beyond September remains an open question.
Fed Bank of Cleveland President Loretta Mester said on Friday that the U.S. labor market remains strong despite signs of it coming into better balance, while noting future interest rate decisions will be made based on incoming data.
Other data on Friday showed that U.S. manufacturing contracted for a 10th straight month in August, but the pace of decline continued to slow, suggesting that the sector could be stabilizing at lower levels.
What to expect from the Fed and ECB in September
Based on information above it seems that markets do not expect any rate change as from ECB as from the Fed in September.
Indeed, in EU we have clear signs of acceleration of destructive processes in economy. Growth in lending to euro zone companies slowed again in July, adding to already mounting evidence that sharply higher interest rates are putting a brake on credit creation and economic growth.
Economic data from PMI surveys in August showed the downturn in euro zone business activity deepened far more than thought this month in a broad-based fall across the region. Economic growth indicators are now pointing to a contraction in the third quarter, despite what could be a record-breaking tourism season. The weak data is intensifying debate over just how much more the ECB needs to do.
The M3 measure of money supply, seen in the past as a good indicator of future economic expansion, shrank 0.4% in July. The latest monetary policy indicators are screaming about the imminent starfall: the eurozone M3 growth rate is in the red for the first time since 2010, the overall demand for loans is the lowest since the beginning of statistics (20 years).
Bloomberg calculated that corporations will have to refinance about $ 400 billion of "cheap" debt until 2029:
The number of bankruptcies in the EU is already growing. In some sectors, such as transportation, the impact of sanctions is even greater than the direct increase in ECB rates, but rates have played their role.
To be fair, the level of uncertainty on what happens next - both within the major central banks and the investment world - is high and rising. Long-term visibility is unusually low. Specifically, I. Schnabel outlined puzzlement at why the inflation-adjusted risk-free rates priced by markets - real Overnight Index Swap yields from one to 10 years - had subsided again since the last ECB rate hike in July - back to where they were in February when ECB policy rates were just 2.5%.
"This decline could counteract our efforts to bring inflation back to target in a timely manner," she concluded, insisting that just holding rates here higher for longer was not a substitute for even more restrictive policy if warranted. Also spotlighting a dispersion in private forecasters' inflation outlooks to show a 'fat right-hand tail' indicating a significant probability of inflation settling above 2.5%, she stressed the ECB could not commit to ending its campaign yet.
But although well off early August highs of around 2.7%, market inflation expectations contained in the euro 5-year, 5-year forward inflation swap remain stuck at 2.5% - up more than 10bp from the start of the year despite 125bp of ECB hikes. If it's deemed essential that these expectations - and by extension those of wage bargainers and companies pricing goods - are nailed back to 2%, then the verbal jousting is either going to have to go up a gear or the ECB will have to turn the screw again.
Now to the Fed...
Although job statistics in the US is most politicized and manipulated, the Fed has more chances to keep rate flat in September, although we suggest that they will raise it later, in November and December, and this decision has non-economical reasons. We explain it tomorrow. Meantime, the US yields has grown to the crisis values of 2007-08, keeping the yield curve inversion at ultimate levels. In other words, there is another, additional factor that shows that the US economy is in an extremely unstable position:
Recent data in the table below shows that the structural crisis continues, but it seems that its scale is growing. This should not happen in accordance with the theory, but only in a situation where the state does not interfere in the economy. And it actively intervenes, and on a fairly large scale. As a result, structural changes begin.
A few more charts on employment, retail sales and personal consumption - pay attention to average weekly hours in the US. Nobody looks at this indicator, that's why it is less adjusted and shows the real picture. Take a look it is dropping since 2021 and indicates the deteriorating events in the US economy.
Now few words on relationship among production, consumption, inflation and money supply. The drop in money supply is not unique to EU, we see the same huge M2 drop in the US as well. And the Fed is keep tightening it. The expanded money supply (M2 and M3) should correspond to the structure of the economy and, if its structure is more or less fixed, change along with it (if it is artificially inflated or underestimated, either inflation or deflation begins). Since there are no fundamental changes in prices, they were growing a year ago, but now the situation is more or less balanced (see below), with prices rising in the consumer sector and falling in the industrial sector, this picture of the money supply suggests that the EU economy is in the worst state of crisis in the last half century …
Apparently, consumer prices went up again. Taking into account the decrease in the money supply, this means, most likely, that producer costs are significantly increasing, on the scale of 10-15% per year. This is natural against the backdrop of falling demand, but there is deflation in the manufacturing sector. That is, the profitability of the business falls significantly (and how else to compensate for the increase in costs). The next stage is an increase in the number of bankruptcies and a further drop in aggregate demand, that is already under way.
Sometimes it is interesting to take a look at some specific indicators, that could much better present current economy conditions. For example, cars theft rate in the US:
As we have shown in recent surveys, the surplus of household incomes created during the Covid-19 period (at the expense of the budget) has been practically consumed. This means that if you do not start a new campaign to give households budget money, then a serious drop in aggregate demand will begin. And this is extremely dangerous in an election year. Treat it as a transition topic to our tomorrow's Gold report....
Within the next two weeks we still will get the US inflation data that could change the market view. But for now ECB stands closer to the chance of rate change in September than the Fed, although in a long run, until the end 2023 the Fed will overcome ECB. For ECB September hike will become the last one (if it will happen at all), while Fed will raise rate one more time at least in November, although we think that in December as well, because we expect rising inflation in Sep-Oct.
Signs of destruction of EU economy are becoming evident - inflation is not slowing down, production sector is destroying, Sentiment at the lowest levels, unemployment is raising, consumption is falling - all these stuff we've shown above. Crisis is coming in real estate sector, especially in Germany, banking loans are slowing down, showing drop in economical activity. At the same time - inflationary expectations remain high and even rising. So, for the ECB this is last chance to raise the rate. Because now they still have interest policy momentum on the back, it will not become a big shock for markets as well. But in October and later - the destruction of economy will become too evident and much more pressure will be on ECB to hold rate.
The Fed, in turn, doesn't have so tight situation, at least based on statistics. Majority are sure that we're going to "Soft landing" and economy will grow, and we're getting out of the woods. They will despear very soon. Anyway, the Fed could let itself to not hurry up with the decision making and probably that is what they intend to do.
The schedule for September is as follows. Markets hope that the 13th September inflation reading would likely have to support the narrative of cooling consumer prices and resilient growth that has boosted stocks for most of the year. Investors will also scrutinise the message from Fed Chairman Jerome Powell after the central bank's Sept. 20 meeting to determine the likelihood of another hike this year.
Meanwhile, there's a risk of a fourth federal government shutdown in a decade if squabbling lawmakers cannot reach a deal by Sept. 30, when funding runs out with the end of the current fiscal year. On the data front, U.S. services sector activity is due Wednesday on coming week.
Take it all together, in nearest two weeks, EUR could keep some positive mood and even to show a bit higher pullback, but this will be the swan song. Because raising problems in economy and its evidence will start pressing on ECB to start cutting rates in the end of the year. This is the reason why we do not see an alternative to raising of USD in nearest 6-8 months. We also suggest that Fed will be tough on the interest rate due to political reasons that we will consider tomorrow. US Dollar could break the tendency even earlier, if we get strong US inflation data. In this case markets will be shocked, but we're waiting for this - as it is our primary scenario, although we are not sure that prices will be "in time" to get right into September report. More probable that we will see it only in October.
