Yellen's mixed bag

7 min read

The Philadelphia Story: I do hope that I am not alone in wondering what exactly the Fed’s Janet Yellen told us yesterday. In essence we were treated to both the hawkish and the dovish view of the world and we ended up, truth be told, knowing little more than we would have done had we not been listening.

Anybody who expected to get a clearer vista of the horizon was either not listening properly or didn’t understand what she was telling us. Some things are good but not that good whereas other things are bad but not that bad either. Therefore the Fed might do something but then, on the other hand, it might quite legitimately choose not to. All we know is that June 15 is not a date for tightening the interest rate screw but most had already begun to suspect that. By the time we’d seen the pretty dismal payrolls report on Friday it had become a racing certainty.

Wall Street is now focusing on July and September. Personally, I don’t like the idea of tightening on September 21 as that is only six weeks shy of election day and with a near certain confrontation between Hilary and the Donald, the Fed will surely be well advised to keep its head firmly below the parapet. It doesn’t take a PhD in brain surgery to work out that the US is being asked to choose which of the candidates for the White House is disliked least. Wa’ever! How the world’s largest economy and self-declared greatest democracy – it can’t claim to be the largest for that is quite clearly India – can end up with two such controversial characters vying for the presidency escapes me but should haves and might haves will count for nothing on November 8.

Presidential election years are not good ones when it comes to monetary policy action. July and December remain the two key FOMC meetings and anyone who claims otherwise is probably trying to use some algorithmic quant model rather than a brain to determine how interest rate policy will develop. It has to be the Fed’s primary target to normalise the interest rate scenario as soon as it can so Yellen’s verbal assurances that adjustments to policy will be slow and low really aren’t worth the paper they’re written on.

Markets like what she had to say and it was happy times. The S&P closed at 2,109.41, the high for the year and only 19 points below its all-time high.

A Chorus Line

Yellen joined the chorus of the great and the good in expressing fears that an ‘exit’ vote in the UK on June 23 would be good for nobody in particular. The swing in recent polls in the direction of the outers has everybody worried except for, it would appear, UK equity investors. The FTSE rallied yesterday by 1.03%, taking it back into the black by by 0.5%, year-to-date. I know the pound is supposed to be under pressure from the Brexit risk but at US$1.45 it’s only four cents below its 12-month average and only two cents below the 200-day moving average. Panic? What panic?

My thanks to the colleagues at Commerzbank – I love their research – for pointing out the following: “Low rates have reduced euro area budget deficits on average by 1-2 (percentage) points, S&P says. France would have been at 5.5% (instead of 3.5%), Spain at 7% (5%), Italy at 4.5% (2.5%), Germany at 1.5% (0%).”

The Great Escape

In my humble opinion the effect of persistently low rates on the cost of the public sector debt pile hasn’t been highlighted enough, same as the time bomb embedded in institutionalised deficits. I wondered in Friday’s column how the EU can be unerringly clinging on to its nearly 60-year strategy of a single borderless Europe that was articulated in the Treaty of Rome in 1958. I wondered how one could succeed in running a business if management were bound by a corporate strategy that had been formulated by the current generation’s grandparents. Likewise, the 1992 Maastricht criteria of 3% deficit/GDP and 60% debt/GDP were set when German CPI was, in the aftermath of reunification, at 6%.

If France is struggling to meet deficit targets when it can refinance its maturing 5% bonds at 0.44% at 10 years and at 1.35% for 30 years, then what chance will it have if, as and when the rate cycle turns? And turn it will; maybe not this year and maybe not next but sooner or later, the free lunch of ZIRP and NIRP will be gone and Europe is not prepared. What looks like fiscal discipline has come like a free gift in the corn flakes packet from the ECB although the political class is behaving as though it was of its own making. I digress.

Brent crude is back above US$50 per barrel. Yes, it might have been pushed higher by the technicals of supply shortages but we’re also coming close to the American summer driving season so I would not expect it to suddenly dip again or certainly not by much before September.

Gift Horse

Meanwhile, Pierre Moscovici, the European Commissioner for Economic and Financial Affairs – great pay, great pension – has found that the Greeks have met 95% of the conditions in order to justify them being given another €7.5bn in payments. Well he would, wouldn’t he? Isn’t it exciting how the Greeks seem to keep on succeeding in meeting all their debt repayments? And then they’re surprised that nearly half (and, heaven forbid, maybe just a little bit more than half) of the great British public, when asked, questions the hypocrisy?

Meanwhile Moscovici’s Latvian colleague, Valdis Dombrovskis, the Commissioner for Euro & Social Dialogue, whatever that is, has expressed fears for the health of the Greek banking system. He said: “We need to clean up bank balance sheets of non-performing loans if banks are to resume lending to the real economy in a meaningful way; and a lot of measures have already been put in place” but concludes that “this is a very serious issue”. Yes sir, it really is…

Keep the happy powder coming…