When project fear becomes the reality we feared, it's time to wake up and smell the diesel. Airbus will be the first big manufacturer to withdraw investment from the UK. BMW will surely follow. Hard Brexit, outside of the UK, will seriously damage manufacturing and investment in Britain.
As we have long explained, Airbus, Motor, Big Pharma and Financials will be badly hit. Textiles, farming and further education will be badly bruised.
According to the Telegraph today, Boris Johnson's response is "F***" Business ... and they will. This incredible inability to face the reality of isolated life outside the EU will be seriously damaging to growth, jobs, manufacturing, trade and the balance of payments. Airbus is preparing to abandon plans to build wings in Britain and move production to Europe, China or the U.S.A.
"In the absence of clarity, we have to assume the worst case scenario", Tom Williams CEO of Airbus, told the Times this week. "It is the dawning realization, we now have to get on with it."
"The dawning realization we now have to get on with it"
In the UK Airbus employs 14,000 people directly, plus 110,000 indirectly. The company is already stockpiling components ahead of potential major disruption. Parallel manufacturing facilities will be established. China must be a firm favourite. The option, to establish a strong position in South East Asia, will become irresistible.
Airbus has factories in North Wales, Stevenage, Portsmouth, Bristol and Broughton. The impact of closure on the Broughton community would be devastating. according to Gabriella Swerling, in the Times today,
"Half the people who work at Broughton Airbus voted to leave the EU. They were not expecting this outcome. They voted because of immigration and they did not think beyond that." Well there is still chance ...
BMW followed Airbus this week, with a warning about the consequences of Brexit uncertainty. UK boss Ian Robertson argues clarity is needed by the end of the summer, or investment decisions will be at risk. BMW employs 8,000 in and around the Oxford area.
Trump threatened the EU with 20% tariffs on cars this week. The President has a vision of "No Mercs in Manhattan" and "No BMWs on Broadway". Not sure why. A legitimate demand for equal tariffs seems fair but misses the point. The trade growth future for the EU is with China and South East Asia, not with the USA. An ageing superpower with a penchant for introverted myopia does not offer the best deal for the future ...
One day I'll Fly Away ...
One day I'll fly away, leave your love to yesterday ...
The MPC voted to keep rates on hold this week. Ian McCafferty and Michael Saunders voted once again to hike rates. In this they were joined by Chief Economist, Andy Haldane. Which came as a slight surprise.
Andy has been arguing the need for Emotional Intelligence of late, EQ versus IQ. “The future could see a world of work in which EQ rivals IQ for skill supremacy,” "Students may be better off developing emotional intelligence rather than cognitive skills to prepare for a future of work in which they will be competing against robots", the Bank of England’s chief economist has said.
Emotional, yes, it nearly brought me to tears ... tears of laughter of course. The Chief Economist must have a clause in his contract to come up with at least one whacky idea every quarter. If Labour get into power, the Bank is to be charged with responsibility to improve productivity in the economy. Let's hope, this is one parameter left untouched.
"Andy Haldane becomes a hawk ..."
Back to the economics, Sterling rallied against the Dollar but still ended lower in the week. Ten year gilt rates were unmoved by the decision. Markets remain unconvinced rates will rise in August. The preliminary estimates for growth in the second quarter may provide some excitement ... Will rates rise in August? Our forward guidance is ... no idea ...
Borrowing falls, One day I'll fly away ...
The Chancellor explained this week, despite evidence to the contrary, the Treasury is not "Against Brexit". Neither is it a great advocate, the potential damage to the economy is becoming more evident.
It is a great advocate, however, of "fiscal frugal". Borrowing for the first two months of the year fell by almost £4 billion, compared to prior year. Borrowing in May was just £5 billion compared to £7 billion in 2017. The Chancellor is on track to reduce borrowing to just £30 billion in the current financial year compared to £40 billion in 2017/18.
"Borrowing will fall to £30 billion this year"
There is a growing suspicion, the growth figures are understated. Revnues and jobs suggest the economy is growing much faster than official figures suggest.The political pressures are building for a little more largesse.
Austerity is dead. More money for the NHS will trump the Labour move to grab the high moral ground. More for the police force and defense, more for welfare and social services will follow. Taxes may rise, or so Hammond may threaten. Waving the Red Box in the air, will not impress the back benchers with such a thin majority in the House ...
That's all for this week, we will be back next week, with more economics !
Have a great weekend.
It has been a strange week. Trump left Quebec with G7 agreement in hand, destined for Singapore on Air Force One. Trudeau made his statement, he would not be pushed around by the USA. The "Angel" flight nearly turned around. The President threw a tantrum and ordered staff in Canada not to sign the joint statement. War was declared, tariffs were pressed on G7 allies. If only Putin had been there. It could have all been so different. Where are dictators when you need them?
On to Singapore to find one and meet with Kim Jong-un. Trump arrived one day ahead of talks. "Why can't we just get on with it now!", the impatient Trump declared. "It will only take a few minutes to sort this out". Staff explained there was still prep to do. More importantly, world press coverage would be maximized by waiting until the allotted time. The delay was assured. You just have to know Trump's push points to get the right decision.
"Great beaches and great spots to build condos"
When Donald met with Kim, peace was declared in the peninsula. They have great beaches and great spots to build condos. Denuclearization in the province. The US would stop bomb runs on the DMZ. US War Games would end. The bombers were flying in from Guam in a twelve hour round trip. Expensive! Peace and parsimony. Uncle Sam saves money ... and the world need no longer need to quiver with fear about a nuclear holocaust.
Trump extolled the virtues of Kim Jong-un. A "very talented man", a "smart man" and a very good negotiator". "When he speaks, people sit up and pay attention". They also clap a lot. Better to keep you hands in the air for risk of being shot or hit with a short range missile.
Trump loves Kim, true. " He even gave me his phone number" "I said "Call me if you have any difficulties". The calls came but not from the North. The decision to end the war games left South Korea and Japan a little confused. Yep it even came as a surprise to the US military.
The deal with Kim was criticized by many and praised by few. No nukes and the prospects of US troop withdrawal. They can now be sent to the Mexican border to do a proper job, splitting familes. It's a win win. Trump will be handed the peace prize, Beijing will grasp the real prize. It's a good week for peace in the peninsula and a great year for Chinese hegemony in South East Asia ...
Trade Wars with the West ...
Peace in the East, trade war with the West. Trump will talk with Nato next month. "Pay up or we ship out" will be the message. It could be a war zone. For the moment, Trump is marching to a trade war on every front, with the imposition of tariffs on Steel, Aluminium and other things.
The US slapped tariffs on $50 billion of goods from China including semi conductors, machinery and plastics. Excluded from the initial list were flat screen TVs, a concession ahead of the world cup presumably.
The Chinese responded in kind with super charges on farm products, seafood, SUVs and crude oil. Soybeans, pork, chicken and seafood were chosen to hit states supporting Trump. Pork barrel politics takes another twist with Trump in the White House.
"Soybeans, pork, chicken and seafood were chosen to hit Trump states".
China issued a warning to US firms to buckle up! US companies with a foothold in the mainland including IBM and Qualcomm received strong advice to lobby the Trump administration to avoid a trade war. Boeing may be badly hit. More than 25% of world wide revenues were derived from exports to China. It will bet worse before it gets better. Pork and Pickups are already piling up at ports …
The IMF looks on ...
The Fed hiked rates this week with a 25 basis points increase this month and the promise of two more rate rises this year. US base rates could end the year at 2.4%, with 3.5% in prospect by 2020 according to the Blue Dot forecast.
Forecasts for growth this year were pushed higher. The US economy could grow by 3% in 2018. The unemployment rate will fall to 3.6%. Inflation may nudge over the 2% target rate.
The IMP warned this week of the danger of recession in the US, or a significant slowdown in the years ahead. Christine Lagarde is worried about the impact of Trump's economic plan. Spending will increase central government borrowing and debt, with an impact on inflation and the trade deficit. The boost to growth will be short lived. Needless to say the IMF is also worried about the looming trade war ...
"The IMF looks on and warns of rising debt and inflation"
In the UK there was a raft of data released this week, on manufacturing, construction, jobs, earnings, retail sales, inflation and trade. Our monthly review to be released on Monday will provide a full update.
That's all for this week, we will be back next week, with some economics perhaps!
Have a great weekend.
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Away days ... what's next in Quebec ...
The G7 meet in Quebec this week-end. A difficult long week-end in the Fairmont Manoir Richelieu will follow. An apt location? Perhaps. Cardinal Richelieu was "First Minister" in the Government of Louis XIII.
Appointed as foreign minister in 1616, he survived in office until his death in 1642. Richelieu sought to consolidate royal power, crush domestic dissonance and develop French hegemony in central Europe, largely at the expense of the Hapsburg dynasty.
Political intrigue was of second nature. Religious dogma would accommodate alliances with Protestant rulers. Domestic enemies were confounded by the "Jour des Jupes" "Day of the Dupes". A day in November 1630 in which the enemies of Cardinal Richelieu mistakenly believed that they had succeeded in persuading Louis XIII, to dismiss Richelieu from power.
So the G7 leaders meet in Charlevoix for Trump's "Day of the Dupes". Trump seeks to consolidate his perceived royal power, crush international dissonance and to develop Trump hegemony in international affairs. "Surreal Politik" replaces "Real Politesse" as domestic and foreign advisers alike are confounded by the twists and turn of Trump's twitter diplomacy.
"G7 in Canada ... Day of the Dupes"
Tariffs on allies, tough talk on trade. Trump arrives in Quebec complaining about Canadian dairy taxes, blaming Trudeau for burning down the White House (1824) and wishing Putin was here (2018), to rejoin the club.
Can't stay long, "I have a world to run" says Trump. Time to shoot off to Singapore to bring about peace
in Korea and a Trump Tower Hotel in Pyongyang. No need to prep. "I can just wing it". May be a few notes on Air Force One, and hopefully Fox news will run a "What everyone should know about North Korea" feature before landing.
Trump complains about the 270% tariffs on Canadian dairy imports and the 33% tariff on dairy imports into the EU. How the 10% tariff on EU car imports contrasts with the 2.5% tariffs on EU car imports into the U.S. He talks of further tariffs if trade talks are not successful; Of a day when Manhattan is free of Mercedes. Yet late Friday, Trump hints of a complete abolition of tariffs in North America and Europe completely.
No one but Trump knows what happens next. This includes the State Department and the White House staff. First create confusion, grab the attention and then close the deal. The "Day of the Dupes" is taking place. There are nuggets of truth to what Trump says about trade as the Washington Post explains today. The EU must make some concessions, if a trade war is to be averted. No one, including Trump wants a trade war …
Away Days ... Cabinet at Chequers ...
In the UK, no one wants a trade war, especially in cabinet. It just goes with the territory. David Davies came close to resigning this week. All to do with an Irish backstop to max fac or CU Plus apparently.
No need to resign over something Michel Barnier has made clear the EU will not accept. Theresa May compromised with an end date to the back stop. This seemed to appease the Secretary of State for Leaving the EU, not to leave Cabinet for the moment.
Boris Johnson was nearly "asked to leave". He accused the Treasury of being a hot bed of remainers, "The Heart of Remain", a quivering wreck when it comes to identifying the economic opportunities post Brexit. So much for Collective Cabinet Responsibility. Business is confused and no wonder.
Business leaders met with Theresa May this week. With just ten months before Britain leaves the EU, Government has still not made clear, what it wants to achieve. Business is becoming impatient and more nervous. This week the Dutch Government advised local firms to reduce purchases from the UK. The UK could face a ban on car exports to the European Union. The SMMT warned the proportion of domestic content in UK car production was more like 25%, well below any rules of origin threshold.
"Cabinet at Chequers ... Another Day of the Dupes".
The Prime Minister will hold a crunch summit at Chequers next month to hammer out detailed plans for the UK’s future partnership with the EU. Theresa May has promised a paper to be published on the basis of the planned deal. Away day at Chequers to thrash out the deal? More like another "Day of the Dupes". Brexiteers and remainers will be convinced, each of the other, they have been removed from power. There is no real solution or compromise possible on the entrenched positions either side of the deal …
Away Days ... In Singapore ...
In Pyongyang. Kim Jong-un is prepping for the summit meeting with Trump. The Chinese will provide the auto cue for a carefully scripted ask. The prize is huge for the North Korean leader and for Korea specifically.
Peace in the Peninsula, denuclearization in the North. The removal of US troops in the South and the abolition of sanctions specifically. A move to unification with peace guaranteed by China and the US. No need to involve the Russians. In South Korea a population of 50 million enjoys GDP wealth of $1.4 trillion dollars. It is the 11th largest economy in the world.
In the South a population of 25 million struggles with GDP wealth of $30 billion dollars. A unified Korea with a target of economic equalization within ten years would push Korea into the top five economies in the world.
The prize of peace and unification is much greater than Macdonald's, KFC and a Trump Tower in Pyongyang. Trump may win the Nobel peace prize. President Xi has his eye on a much larger peace prize. The Chinese would be the real winners in South East Asia. The enlarged trading block would surpass the economic strength of Europe and North America. Truly global Britain outside of the EU and the three largest trading blocks in the world would be a mere sprat in an EU fishing net in comparison.
"Peace in Pyongyang ... the Chinese will be the real winners"
That's all for this week, we will be back next week, with some economics perhaps!
Have a great weekend.
Trump acted this week to set up tariffs on steel and aluminum. "It's not a trade war, it's a trade discussion", explained White House Economic Adviser Larry Kudlow. As in any chat process, first you have to grab the attention, I guess.
A 25% hike on imported steel is set to hit trade with Canada, Mexico, Brazil and South Korea specifically. Friend and foe, ally and enemy, all to be treated much the same. There is no ryhme or reason in Trump trade policy and certainly no alignment with foreign policy.
The US is the largest importer of steel in the world. In 2017, the US imported 35 million metric tonnes of steel, valued at around $30 billion dollars. Import penetration is around 33%. The largest exporters to the US were Canada (17%), Brazil (14%) , South Korea (10%) and Mexico (9%). NAFTA is under threat. The South Koreans and Japan (4%), must be baffled by Uncle Sam's tough love, at such a delicate time of nuanced talks with Pyongyang.
Russia (8%) and Turkey (6%) are next in line. Within the EU, Germany is the largest exporter to the US, accounting for 4% of overall imports. Despite all the fears of Chinese over capacity, imports into the USA are just 2% of total.
A 10% tariff was also imposed on aluminum products. Canada and Mexico are in the top five importers along with China and Russia. Can Trump really win a trade war? China, Japan, Germany, France and India are the largest importers of US white metal. Retaliatory tariffs will follow and damage exports from the US. Trade wars really are a zero sum game.
In the absence of domestic substitution, tariffs are inflationary. US domestic steel costs are up by 37% this year. The US faces the threat of retaliation. The White House is keen to defuse the tension. The day after Trump slapped tariffs on Canada, Mexico and the EU, Larry Kudlow framed the tenor or "trade talks between the US and other countries, as more of a family disagreement.
"No trade war ... more of a family disagreement"
Within the EU, the reaction was swift. "America First will be confronted by a Europe United". Europe United with the UK on the bench, perhaps. Cecilia Malmström the European trade commissioner claimed the US was playing a "dangerous game". There would be consequences for American customers. The global recovery could be damaged. Levi Jeans will cost more!
The EU has sent a formal complaint to the WTO. Retaliatory tariffs are likely to follow on Harley Davidson, Levi Jeans and Bourbon Whiskey.
"No easy riders for US exports".
No easy riders for US exports. The EU, along with China will target products and produce from the areas politically sensitive in the up coming mid term elections. Stock up on corn, orange juice and soya beans. It could get rough in the Mid West and the rust belt.
On balance, it has been a good week for Trump. The talks with Kim Jong-un are back on in Singapore. Tough issues on the agenda. Denuclearisation, plus the Americans have to find a way to pay for the North Korean trip. Staying at The Fullerton, a "magnificent neoclassical hotel on the mouth of the Singapore river", the cost of $6,000 dollars per night would rapidly exhaust the regimes foreign currency reserves.
No doubt the talks won't last too long. Kim Yong-un's security retinue would rack up $ one million per night alone! Peace in our time? Perhaps but probably not on the 12th June.
Good news on jobs in the USA. The unemployment rate fell to 3.8% in May. The economy created a further 233,000 jobs in the month. President Trump was unable to conceal his excitement. Breaking with protocol, established over many decades by Republicans and Democrats alike, Trump couldn't resist the tweet.
"Looking forward to seeing the employment numbers at 8:30 this morning"
The message was timed at 7:21 a.m. Within seconds of Trump's post, the dollar strengthened and Treasury yields rose. The jobs data will force the Fed to act in June. A rate rise is now inevitable this month. Unemployment at 3.8%, pay rising at 2.7%, inflation on the increase, expect at least one more increase, if not two, before the end of the year.
In the UK, the steel industry is ready for the worst. Britain exports around 350,000 tonnes of steel to the US, worth around £360 million. America is the second biggest export market. The EU is the largest.
Fears of a slowdown in US demand are overshadowed by the threat of Turkish exports, forced to find markets elsewhere. Turkish exports to the US, were worth around $1.5 billion dollars in 2017. Exports into the EU were up significantly in 2016. The UK fears more will come, if entry is denied into the USA.
The UK is hoping high value steel products will not be substituted any time soon in the US. The EU is taking a hard line with the Trump administration. An EU united will slam the "Easy Rider" products along with cranberrries, orange juice and American pie.
Theresa May adopted a more cautious line. Expressing "disappointment" with the "unjustified" decision to impose tariffs on steel and aluminum. Liam Fox was in agreement with the more cautious approach. A play on the special relationship perhaps ...
"Dear Donald, Liam and I are very disappointed with the decision to ..."
P.S. "Don't forget we have a special relationship" Love Theresa. Liam sends his regards.
Yep that should do it. That's all for this week, have a great weekend.
Inflation falls, Sterling takes a hit. The headline rate of inflation CPI fell to 2.4% in April from 2.5% in March. Sterling closed lower against the Dollar. Prospects for a UK base rate rise faded. The Pound eased to $1.33 against the Greenback and eased to €1.14 against the Euro.
Will inflation fall further this year? it may be difficult. Energy prices are rising as Sterling falls. Import prices are rising again. The May headline figures were flattered by a fall in service sector inflation. Goods inflation remained at 2.6% but service sector inflation fell to 2.1%. Is this sustainable? I doubt that.
Taking a holiday this year? Package holiday costs were up by almost 5%. Want to read a book, while away? Book prices were up by 11%. House Contents insured during the trip? Of course. That will be 9% more this year. Thanks!
Petrol costs were up by 23% in the month. The largest downward contribution came from Easter apparently. So much for seasonal adjustment. Producer costs are on the rise. Input prices were up by almost 6%. Crude oil prices were up by 20%. Imported metals and fuel costs were significantly higher. So will inflation continue to fall during the year? Don't be deceived by the April shower. Inflation will still be near 2.4% by the end of year. At least one rate rise this year, should still be priced in.
Inflation Forecasts are too optimistic. The rate will stay around 2.4% by end of year.
Good news for the Chancellor this week. Borrowing in the first month of the financial year fell by over £1 billion. Government borrowing was just £7.8 billion compared to almost £9 billion last year.
In the last financial year, total borrowing was revised down again to £40.5 billion. This makes nonsense of the forecasting performance of the Office For Budget Responsibility. In January the OBR were still expecting an out turn of around £50 billion. Oops!
For the current year, we expect borrowing to fall further to around £32 billion. Growth forecasts may be revised up this year to 1.8% from 1.5%. Nominal GDP growth will be around 3.8%. The tax take will be boosted, as austerity continues. The absolute level of debt will continue to rise to £1.8 trillion by the end of the financial year. No end to austerity in sight. No austerity holiday. The package price remains too high for Spreadsheet Phil. [So early in the mid terms at least].
We expect borrowing to fall to around £32 billion in this financial year.
The Bank will act if Brexit is a shambles. This, the reassuring message from the Governor. In a speech this week, Mark Carney explained a "disruptive" Brexit would give the British Economy a very nasty shock.
If that were to be the case, the Bank of England would do its job and guarantee monetary and financial stability in the UK. We have the tools to do the job. Excellent. Negative rates and more QE? Bring it on ...
Carney "We have the tools to do the job ..."
Will Brexit be disruptive? Michel Barnier today warned Britain to stop playing "Hide and Seek". That's "Masquer and Chercher" in French. An option to "Chercher La Femme" ... "Find the Lady" who can do a deal perhaps. The EU's chief Brexit negotiator says the UK "must look the reality of the EU in the face".
It's a fair point.
CU Plus or Max Fac X. There is little point in a divided cabinet, devising models of co-operation, completely unacceptable to the EU. The Irish Border, the ECJ, the fundamental freedoms, all must be addressed, if a reasonable solution is to be achieved.
Barnier explains, "The UK must refrain from attempts to recreate the advantages of a shared regulatory system from the outside." "It is the UK that leaves the EU. Britain cannot on leaving, ask us to change who we are and how we operate." Ouch. Over in the USA ...
U.S ten year bond yield close below 3%
In the U.S. ten year bond rates closed just under 3% this week. The Fed minutes were pretty ambivalent.
"The committee expects that economic conditions will evolved in a manner that will warrant further gradual increases in the fed funds rate; the rate is likely to remain for some time, below levels that are expected to prevail in the long run. However, the actual path of the fed funds rate will depend on the economic outlook as informed by the incoming data." Central bank speak.Yep.
Jerome Powell Chairman of the Federal Reserve is taking tips from Governor Carney perhaps. Talk of an inverted yield curve, a height to heady for market analysts. Forward guidance forgotten. A tool now discarded. Thrown out of the central bank tool box. So what of central bank independence?
Central Banks should not take independence for granted said the Fed Chair in a speech in Stockholm this week. Central bankers should remain independent from political pressure. This enables them to to make unpopular decisions in the economy's long run interest. Raising rates to curb inflation. Turning a deaf ear to political leaders. Blocking Presidents on Twitter. That sort of thing. No one specifically in mind. Just a point in general to be made ...
Churlish to be taking about economics on the day of the Royal Wedding but why not! Old habits die hard. It's a beautiful day in Windsor and in Manchester for that matter. We will be watching the ceremony. Just love those Blues and Royals ...
The latest data on jobs and unemployment were released this week. So what can we learn from the data? Unemployment fell to 1.425 million. The level is down by 120,000 compared to the same period last year. Unemployment fell by 45,000 in the first quarter of 2018 ...
This encourages further doubts about the suggested weakness of growth figures in the first quarter. The initial estimate of growth was just 1.2% in Q1. Our forecasts for the current year had to be reduced from 1.8% to 1.5% as a result. The Bank decided to keep rates on hold following the weakness of the data. The implication of the latest data is, growth estimates may have been too pessimistic, especially in construction.
Growth estimates may have been too pessimistic, specially in construction ...
The unemployment rate was 4.2%. That's the lowest level since 1975. The economy has created 397,000 jobs over the past twelve months. The number of vacancies in the economy was over 800,000 in April. At peak in 2008, prior to the recession, there were just 700,000 vacancies in the economy. Get the picture? There are no signals the economy is in trouble. Growth forecasts will be revised up. The Bank mantra will revert to the February MPC stance.
"Rates set to rise, earlier and to a somewhat greater extent".
So what of inflation? The Bank of England assumes the worst is over. Inflation will fall through the year. Back on target within the forecast horizon. It was ever thus ... but is this correct?
Oil price Brent Crude tested $80 dollars per barrel this week. Sterling fell below $1.35 against the dollar. Imported oil inflation is on the rise again. Earnings increased to 3% in March. Construction wages were up by 6%. Minimum wage rates have been increased. The genie is out of the bottle as far as public sector pay is concerned. Public sector pay is up by 2.4% in March, up from just 1.2% a year ago.
Real earnings will be positive in the month of April and May. The squeeze on incomes will be relaxed, stimulating household spending in the year ahead. Inflation forecasts are too optimistic. Inflation will remain around 2.4% by the end of the year.
Inflation Forecasts are too optimistic. The rate will stay around 2.4% by end of year.
So what can we learn from the latest jobs data? Well quite a lot actually ... so what of the U.S.A. ...
U.S. ten year bond rates closed just under 3.1% this week. Mortgage rates, (thirty rate year fixed rate average) jumped to 4.6%.
The return to 4.5% ten year bond yields will materialize within a two year time frame. The Fed Blue Dot forecast is for short rates to rise to over 3% by 2020. The Fed is worried about the implications of Trump economics. The GOP fiscal stimulus will exacerbate inflation and the twin deficit dilemma.
Trump economics policy is forcing US rates to rise, creating problems in the developing world especially in South America. Argentina has already booked a date with the IMF borrowing team. Such is the requirement to match the currency outflows as a result of the lure of the dollar yield.
Trump foreign policy is creating chaos around the world. Old alliances are under threat in South East Asia and in Europe. Merkel and Putin exchange flowers and gifts. "The enemy of my friend is is my enemy" As Trump attempts to become the enemy of all. Peace in the Middle East will not be secured by moving the Embassy in Israel nor by moving the goal posts in the nuclear deal with Iran.
Threats on trade and defense spending will not ease tensions within NATO. Threats on trade and defense spending will not ease tensions in South East Asia as far as Japan and South Korea are concerned.
Progress on peace in Korea will not be secured by references to Libya and Gadaffi as a threat or a promise in securing talks. Kim Jong-un will not be swayed by promises of White House support to the regime post de nuclearization. Trump has already been seen to walk away from too many international agreements in his tenure in office. NAFTA, TPP, NATO, climate deal, Iran nuclear deal ... mean, petty and vindictive is no basis for policy at home and abroad.
Mean, Petty and Vindictive - no basis for policy at home and abroad.
Rex Tillerson this week said "I observe a growing crisis of ethics and integrity in the state of American Democracy". Left unconfronted, American democracy will enter its twilight years. Tillerson's relationship with Trump was fraught. His time in government was limited when NBC reported in October, Tillerson had called Trump a "moron". He denied making the remark.
The evidence is emerging for the world to see. The theory of countervailing power is in sway. Old allies will develop new friendships accordingly. Trump has his eye on the prize, it's the Nobel peace prize ... strange that ... just a "medal for a moron" perhaps ...
That's all for this week, have a great week-end,
Join me at the Big Social Media Conference in July ... Another great event in the pro-manchester calendar!
The Monetary Policy Committee voted to keep rates on hold this week. Given the latest data on GDP growth in the first quarter and the slowdown in inflation, the decision came as no surprise in the end.
Even so, markets reacted with a further fall in Sterling against the Dollar and the Euro.
So what can we make of monetary policy when real short rates are negative, ten year gilts offer a negative real return, with a bonus offer of significant capital loss to redemption?
Some comfort may be drawn from the Hitchhiker's Guide to the Galaxy. There is a theory therein, which states that if ever anyone discovers exactly what the Universe is for and why it is here, it will instantly disappear and be replaced by something even more bizarre and inexplicable.
I am beginning to feel the same way about monetary policy. If everyone discovers what current monetary policy is for and why it is in place, it will instantly disappear and be replaced by something else.
There is a further theory within the Hitchhiker's Guide - the Universe has already been replaced by something even more bizarre and inexplicable. This is probably more evident in monetary policy. Conventional monetary policy has already been replaced by something more bizarre and inexplicable. Alas poor Taylor rule, we knew him well.
What is this process of rate normalization, taking place as the economy recovers, that can be blown so easily off course by a bit of snow on the line and ice on construction sites in March?
The ONS suggest the Q1 GDP figures were weakened by the harsh weather and snow impacting on the construction sector. The phenomenon will not be reflected in the shape of recovery for the rest of the year as the Governor explains.
The Bank now expects growth of 1.4% (1.8%) this year, then modeled at 1.7% for the next three years. Inflation averaging 2.4% this year will return to target within two years. Interest rates are modeled (based on the path inferred by forward market rates) at 0.9% next year and 1.2% by 2021.
Forward guidance from the Governor may be dead. Some guidance is offered within "Hitchhikers' ... "the chances of finding out what’s really going on in the universe are so remote, the only thing to do is hang the sense of it and keep yourself occupied". So it is with monetary policy, the chances of finding out what's really going on are so remote, hang the sense of it and keep yourself occupied.
Mark Carney has one year left in the role. He is unlikely to take risks with the recovery during his tenure. The Bank is nervous, to say the least, about the impact of Brexit and any decision to leave the customs union. Further caution may prevail before the Governor makes his next career move.
In the meantime Hitchhiker's offers some insight into Quantitative Easing ...
“Since we decided a few weeks ago to adopt the leaf as legal tender, we have, of course, all become immensely rich.” Excellent ...
Beyond the Customs Union ...
Thanks for the feedback on the Customs Union piece last week. Economics should not be too complicated especially when it relates to matters of trade. My gravity trade model was further enhanced this week. Attraction based on size of country GDP was exchanged for size of country based on the level of imports. It is an obvious substitution.
Import dependencies vary from country to country. (Defined as the ratio of imports to GDP). The UK for example has an import dependency of 24%, China 15% and the USA 12%. The correlation between UK exports and size of country imports improves to 85% from 77% using GDP as the demand variable.
Size of country imports determines the pattern of UK trade. Distance also assists the process. Free to trade with countries around the world outside of the customs union will not improve the level of exports. As we explained last week. There are no new territories with which to trade. There are no real gains to be made from opportunities thought to be lost inside the customs union.
Theresa May continues to play the long game. The divisions within cabinet persist. The Prime Minister has set up two working groups to develop the options for the Customs Union deal. One team will work on the "Customs Partnership" deal, the other team will work on the "Max-Fac" proposal. The brief to "work towards a joint solution". Some chance. Robot wars would have a better chance of resolving the conflict peacefully.
Cabinet is like a troupe of late night drinkers, creating a cocktail with ingredients which do not exist, unavailable at the eleventh hour, with a barman who could never put it together, in a Brussels pub which has already called time.
Germany's EU commissioner Günther Oettinger, played down the chances of progress. "Madame May is weak. Boris Johnson has the same hairdo as Trump" he explained. Details of his own interpretation of the gravity trade model were omitted. "We can only hope that sensible citizens will put Madame May on the path to a clever Brexit".
Clever Brexit? It is a contradiction in terms. We return to The Hitchhiker's Guide to the Galaxy for the last word ... "It is a well known fact that those people who most want to rule people are those least suited to do it."
It must also be true those who would seek to determine the future pattern of UK international trade, in defiance of market forces, are particularly least suited to do it ... "ça va sans dire" ...
That's all for this week, Have a great week-end,
The Conservative Party may have survived the mid term local elections without too much damage. The torture continues in Cabinet. The schism over the Customs Union continues to threaten the future of the Prime Minister.
Free of the EU and the Customs Union, the UK will be able to set up trade agreements around the world without the restrictions imposed by European tariffs and regulation. Truly global Britain will thrive on the world stage. The world will become our oyster, or so we are led to believe.
Martin Donnelly, former permanent secretary in the trade department, said recently, "swapping the benefits of full EU membership in exchange for bilateral trade deals at some future date was rather like rejecting a three-course meal now in favor of the promise of a packet of crisps later."
A little harsh? Perhaps. The risk is, we will lose trade with the EU but struggle to compensate with new deals in other trade areas. We reject a three course meal, not for a packet of crisps, but for a two course set menu option at a much lower price.
In a recent paper, we analyse UK exports in 2017 with the Gravity Trade Model. We ask the question to what extent does the Gravity Trade Model explain the pattern of UK trade? Will we really be better off outside of the EU and the Customs Union? Not really. You can read the more complete note with data sets here. It doesn't bode well for Brexit. Beware, it's a bit geeky! What does the gravity model tell us about UK trade.
The *gravity model of international trade* in international economics is a model which predicts bilateral trade flows based on the economic sizes, using GDP and distance between two countries. We analyze the pattern of UK exports in 2017 using the model and conventional regression analysis. The model works well. Size of country GDP is the dominant determinant of trade. Distance adds to the performance of the model.
"There are no new territories behind a magic wardrobe..."
There are just 195 countries in the world. Together they have a combined GDP of $80 trillion dollars in 2017. The top 50 economies account for over 95% of world GDP. There are no new territories behind a magic wardrobe once we leave the Customs Union. The UK trades with all of the countries among the top 50. In 2017 UK exports of goods were valued at £342 billion. Using the model we can determine in which countries the UK trades well. Conversely we are able to determine in which countries the UK under performs.
Barriers to trade ...
Using the parameters within the regression model we can determine which are the countries in which we are over performing and those in which we are relatively under performing.
As one might expect, the UK over performs in the major EU countries including Germany, France, Ireland and the Netherlands. The UK also over performs in trade with Hong Kong, Singapore and Australia. Trade with North America i.e. the U.S.A. and Canada is adequately represented.
There are some surprises in the list. Qatar, Oman, Hungary, Morocco, Macedonia and Kuwait are surprisingly ranked in the UK top 50 trading countries. Some are missing or suggest we are under weight in Argentina, Colombia, Venezuela, Peru, Iran, Philippines, Vietnam and Bangladesh. Sanctions and embargoes can be a barrier to trade sometimes!
"Dropping a BRIC..."
Significant shortfalls in performance can be identified in trade with Brazil, Russia, India and China. However, membership of the EU does not explain the shortfall. Germany does much better than the UK in the BRIC countries despite the so called restrictions imposed by European tariffs and regulation
German Exports to the China, India and Brazil were over four times higher than that of the UK last year. German exports to China were valued at almost $100 billion dollars compared to less than $25 billion for the UK. Exports to Brazil were valued at almost $10 billion compared to $2.5 billion for the UK. Exports to India for the UK were valued at $6 billion dollars, German exports to India were valued at $12 billion dollars.
Trade with Russia for the UK was worth just $4.4 billion dollars. For Germany, trade with Russia was valued at almost $30 billion dollars. Product mix and capacity may provide a better explanation of the comparative shortfall in UK performance in the BRIC countries. Neither of which will be enhanced by the decision to leave the EU.
There is no economic nor business argument to leave the customs union...
Analysis of UK trade and the Gravity trade model suggests there is no business argument, nor is there an economic argument to leave the EU. Neither is there an argument to leave the customs union, in fact quite the reverse.
We divide the arguments for Brexit into four boxes, Social, Political, Economic, and Business. The Social, largely about immigration, the Political, about who governs Britain. Argue about this as you will. For the Economic and Business case, there is no argument to leave the EU and certainly no argument to leave the customs union.
No need for a ring fence around the Irish Sea. The existing ring fence around the EU customs union will enable truly global Britain to thrive. That's all for this week ... have a great weekend.
The Preliminary Estimate of UK GDP was released on Friday. Growth in the first quarter was up by just 1.2% compared to 1.8% for the year as a whole in 2017. The economy is slowing exacerbated by a big fall in construction output (down 3.3%).
"You can't lay bricks when the snow is falling", the obvious explanation. But you won't secure real growth in the absence of government activity. Construction may have been hit by the "Beast from the East". But the absence of government expenditure on infrastructure and public sector housing has been the real blight to growth in the sector for some time now. The construction data is incredibly volatile and subject to revision. Remember the preliminary estimate is made with less than half of the data to come as the series is revised in the months ahead. Even so we expect little growth this year from the sector as a whole.
"You can't lay bricks when the snow is falling"
Without the distortion in construction, growth would have been around 1.5% in the first quarter. One reason we now expect UK growth of around 1.5% for the year as a whole. Manufacturing output increased by 2.5% year on year, despite the drop in car output, where fears about the economy and the "damnation of diesel" persist. Service sector growth was down to just 1.2% with zero contribution from the public sector. The leisure sector increased by less than 1%, attributed to pressures on real incomes and fears about the economy in the months ahead. Business services were up by 1.8% plus there was a heady 2.8% contribution from transport and distribution.
"For the economy to stall it is sufficient that good government does nothing ..."
For the economy to stall it is sufficient that good government does nothing. Zero growth in the public sector, an absence of real commitment to infrastructure and public sector housing, pressures on local authority cuts. The list is mounting as the process of misdirection continues. The government may blame the "Lack of Investment" in the private sector or "Lack of Productivity Gains" in the labour sector. It is the conjuror's trick of misdirection.There is little or no thought to what's happening in the real economy, as government twists and turns with the torture of Brexit and the Customs Union. What folly there lies within ...
Last week we said "It is time to fix the roof, now the snow has blown away". It is clear, low growth in the first quarter will take the pressure off the MPC to raise rates next week ... it will remain an opportunity missed …
High growth puts pressure on the Fed to hike rates ...
In the U.S.A., growth increased by 2.9% in the first quarter of 2018. Growth has been accelerating since the second quarter of 2016. We expect growth of almost 3.5% this year as the Trump tax give away provides a real stimulus to growth.
High growth will put pressure on the Fed to continue the rate hike programme this year and into next. The Blue Dot forecast predicts rates at 3.5% within three years. It seems far more plausible now, as US growth progresses above trend rate.
Ten year bond rates closed down, just below the 3% level this week. Why? The headlines in the USA and the UK talk of "slowing growth" not accelerating growth. "U.S Growth Cooled In First Quarter", the headline in today's Wall Street Journal. It is nonsense, based on the bizarre obsession with quarterly growth rates then annualized.
The year on year arithmetic is simple and straightforward. The pattern of growth is clear. We expect bond rates to rally into 2018 hitting 3.5% by the end of year. Talk of the inverted yield curve is premature. Ten year bond yields will normalise, long before short term Fed rates. Inversion may occur but not for some time yet. If the yield curve really is the predictor of recession as some insist, it will not be speaking out for some time yet. For now enjoy the ride.
Peace in Korea is our footnote this week ... Trump Play or Trump being played ...
The historic meeting between Kim Jong-Un and Moon Jae-In bodes well for peace in the Korean peninsula. Trump stands ready to take credit for the progress. Talk of the Nobel peace prize maybe a little premature. But tough talk from Trump is thought to be the catalyst for peace. Is that really the case?
Is peace in Korea a Trump play, or is Trump actually being played by the Koreans and the Chinese? Beijing has much to gain from a nuclear free Korean peninsula and a formal end to the war. Unification would open the peninsula to the parasol protection of the expanding Chinese empire and the withdrawal of U.S. troops. The White House is demanding Seoul meets a bill, it will no longer need to pay. Demands to reduce the trade deficit with the U.S. would be facilitated by trade with China to the North. Unification would be as beneficial to Beijing as German Unification was to Bonn.
U.S. international policy is conflicted and confused. Moon Jae-In will hedge the risk of a Trump tantrum on trade.The Koreans are mindful China will become the largest economy in the world within ten years. The expansion of the mighty people's navy will guarantee control of the Taiwan straits. Peace in Korea is a win win for Beijing. The dragons will be dancing long before the Trump administration hears the music.
That's all for this week, Have a great week-end,
It all seemed so straightforward. Just a few weeks ago, markets expected rates to rise in May. Two gradual rate rises of around 25 basis points this year would mean base rates around 1% by the end of the year. Two further rate increased of similar dimension in the years ahead, would suggest rates would be around 2% by the end of 2020. All is clear, or so it seemed.
Michael Saunders is a hawk. He voted for a rate rise in March along with Ian McCafferty. At a speech in Strathclyde this week, Saunders argued future increases may be "gradual" but they need not be "glacial". It is a subtle distinction. It must have been very cold in the North of Scotland, the only way to make sense of this.
Interest rates would be likely to rise in a series of modest and measured steps. Since Bank of England independence, the MPC has experienced four tightening cycles. Rates on average have increased by 100 basis points over a period of eight months. That is the equivalent of 150 basis points per annum. Now the new "norm" for escalation, is just 50 basis points each year.
A 2% level has become the new "neutral" target rate for monetary policy. It is all very strange. A 2% neutral rate is inconsistent with a 2% inflation target. Fisher must be turning in his grave. The neutral rate should be twice as high at least. Even so, with the new "neutral rate", ten year gilt yields would increase to around 3% over two years, from current levels of 1.5%.
The implicit capital loss for gilts is around 50%. Andy Haldane has made it clear, QE has created the biggest bond bubble in history. No wonder the MPC is reluctant to pop the balloon with £400 billion of government debt on the balance sheet.
Mark Carney made it clear this week, a rate rise in May is no longer a certainty. The economics data is mixed. Unemployment fell to 4.2%, there are 1.4 million out of work. There are over 800,000 vacancies in the economy. Wage growth averaged 2.8% in the three months to February. Recruitment difficulties are increasing. All good reasons for pursuing the path of monetary tightening.
On the other hand, the latest retail sales figures were pretty gruesome. Snow kept shoppers at bay, (or on ebay). Car sales are taking the hit from tighter consumer spending and the "Demonisation of Diesel". Growth is expected to have slowed to around 1.4% in the first quarter. Worries about Brexit persist ... and with good reason ...
The good news inflation fell to 2.5% in March. Real earnings are increasing again. The outlook for households and consumer spending is improving. If the government committed to spending on housing and infrastructure, growth would be much improved this year. So what happens next?
"It is time to fix the roof, now the snow has blown away"
U.S. Markets look to higher rates ...
In the US markets are expecting rates to rise three or four times this year. Inflation increased to 2.4% in March, growth is expected to be almost 3% in 2018. The unemployment rate is just 4.1% with expectations this will fall to 3.9% by the end of the year.
The Trump administration has embarked on a spending spree of $1.3 trillion dollars at exactly the wrong stage in the economic cycle. Both the internal and external deficits are set to expand significantly pushing base rates and bond yields higher and the dollar lower.
The government deficit was over $200 billion in February and again in March. For the year as whole the deficit is likely to increase to over $1 trillion dollars. Government borrowing will increase to $20 trillion dollars, that's around 100% of GDP. Within four years, the government will be spending as much on interest payments as it does on the Pentagon and the FBI!
The external trade deficit is heading towards $600 billion this year, that's around 3% of GDP. Trump behaves like the Leader of a Banana Republic and is on the economic path to create one.
Trump behaves like the Leader of a Banana Republic
and is on the right economic path to create one.
The Federal reserve "Blue Dot" guideline anticipates rates to increase to 3.5% in 2020 before falling back to around 3% over the longer term. Ten year bond yields are testing the 3% level. 4.5% seems quite attainable in the next couple of years. Our guideline remains, to understand UK rates, follow the Fed and add six months at most. The Bank really should make the move in May and begin the path of "normalisation".
The Vera Lynn" School of Economic Thought
I am announcing the creation of "The Vera Lynn" School of Economic Thought" with a series of MP3 downloads. Top hits include "Recession Again, Don't Know Where, Don't Know When"; "There will be J curves over the white cliffs of Dover"; "Auf Viedersehen EU" and "It hurts to say goodbye". More tracks to follow ...
The Saturday Economist WhatsApp Group
On a more serious note, I have created The Saturday Economist WhatsApp Group. If you are on WhatsApp and would like to be involved, just click on this link to sign up! We plan to have some fun with this.
That's all for this week, have a great week-end, I had a great break in Gran Canaria, with ten days of sunshine. I have returned refreshed, I missed the key board and the economics! The great thing about addiction, now I know I can stop anytime I like ...
The Saturday Economist
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