Financial markets do react to changes in financial public policy. That’s a valid axiom. So, if markets do not move when new public policy arrives, does that mean that markets no longer care? Or that the particular new policy does not matter?

Strip away other things to which markets are not reacting: the economy is chugging along above forecast, in the second half of 2017 at or above 3% annualized GDP growth but still with no increase in the slope of inflation or wages. New trade policies are more hurtful than helpful, but can stay so for years without much economic effect. The same is true for geopolitical risk: our adversaries may steal a march or two in these years, but fundamental global strengths and weaknesses are deeply anchored. 

Which leaves the tax bill as the oversize turkey -- or ham, depending on your tastes -- arriving as early as next week. The Senate may pass its version before Thursday, which would then plunk that version along with the House one into conference committee, which usually assures passage of a final. We won’t know until then what’s in it (most of us have survived Thanksgivings with experimental stuffing), but the basic outline is clear now.

Thus, stick with that outline for now and work on perspective and overall effects.

First, it’s hard to tell how much attention the public is paying to the tax bill. A lot of the country seems more tuned-in to politics than usual, but a lot of politics now is at the level of circus and gossip, not substance. Our longstanding national tune-out of gridlock may explain markets’ non-response to the tax bill.

Second, the math. The trillion-this, trillion-that, biggest-ever, most in 30 years -- all of that is numbing. I’m not sure exactly when, but a couple of decades ago we began to discuss fiscal changes -- taxes, spending, deficit -- as “over ten years,” which makes the changes seem bigger than they are. Over-ten-years has also been convenient camouflage for bi-partisan Congressional fraud, as in years eight-nine-ten spending has always turned out bigger and revenue smaller.

With apologies to Everett Dirksen, $1.5 trillion used to be a lot of money. But, divide this proposed tax cut by ten, $150 billion per year, that’s barely 3.8% of annual federal spending (total FOUR trillion). As a percent of our $19.5 trillion GDP, an undetectable 0.8%. That’s an accounting error. In the same range as total repair costs of this year’s hurricanes.

The overall structure of the tax bill is clear. It is not “reform” in any sense of the word. It adds more complexity than it removes and opens many gates to new tax gaming. A better term would be tax “reallocation,” as nearly three-quarters of the tax cut will go to big business. Will this reallocation have positive effect on the economy?

At Tuesday’s gathering of the WSJ’s CEO Council (229 members), a WSJ editor on stage with the prideful and log-rolling Gary Cohn asked the CEOs how many intended to expand investments because of the tax bill. The WSJ’s own coverage says that only “a smattering” of hands rose. The YouTube video shows none raised above shoulder level. Cohn looked as though slapped with a mackerel and blurted “Why aren’t the other hands up?” No one answered.

The top risk in this tax bill has been that it might stimulate the economy. The Fed and other economists are in a running fight about the speed limit of our economy, but all non-political mainstreamers agree that if we’re not at growth capacity now, we’re going too fast. Any significant stimulus would force the Fed to react, raising rates and the risk of aborting growth altogether. Small magnitude aside, the bill would push chocolates to big businesses in a world already bloated with excess capacity (see “China”). Making an unneeded investment tax-deductible does not make it needed. Adding to corporate bottom lines has never added to wages, let alone in a world drowning in labor.

Thus, markets don’t care. Pass the turkey, or don’t.

The hardest part of true tax reform, especially if neutral to revenue and the deficit, is a good political balance between cutting taxes for some taxpayers and raising taxes on others to compensate. The great 1987 reform raised revenue by closing anti-productive loopholes and in exchange cutting tax brackets. Today’s bill does some of that for the middle class by increasing the standard deduction. However, the offsetting loopholes closed are not abusive ones, or non-productive. And the public has not noticed the things it will lose.

Example: both the House and Senate versions hurt the 20-year-old tax exemption for the sale of a primary residence. In current law, you get the exemption if you’ve lived in a primary home for two of the last five years; the new bill proposes five of the last eight. There is no economic benefit to this change, just stealing one of your few protections against inflation-boosted taxes. Acting like Democrats, the Republicans propose an expanded federal deficit, and reaching into your wallet for money to give to their buddies. 

Republicans desperate for revenue have also tacked on a repeal of the Obamacare individual mandate. I am biased, my judgment clouded. My wife and I have a disabled daughter, uninsurable, who will for life depend on Medicaid. This tax bill’s economic ineffectiveness aside, its small-minded and mean spirit trouble me.

This exchange in a Senate hearing this week: when senator Orrin Hatch, chair of the Senate Finance Committee said that there were no Medicaid “cuts” in the bill, just people choosing not to sign up for Medicaid, senator Claire McCaskill snapped, “Where do you think the $300 billion is coming from? Is there a fairy that’s dropping it on the Senate?”

Despite all of the political antics, and a Fed hike coming in December, the 10-year T-note (and mortgages) are holding a two-month range:


The 2-year T-note expresses the Fed’s intentions. The December hike is built-in, but not a bit of the three hikes due next year:


The Atlanta Fed GDP Tracker says Q4 will be hotter than anyone expected, although the consensus has slowly drifted upward during 2017:


Rates Improve Slightly on Mixed Economic Data

Mortgage interest rates improved slightly this past week on mixed economic data.  Economic data stronger than expected included the October Producer Price Index (PPI), October Retail Sales, October Industrial Production and Capacity Utilization, the November NAHB Housing Market Index, October Housing Starts, and October Building Permits.  PPI was up 2.8% year over year; core PPI excluding the food and energy components was up 2.4% year over year.  Economic data weaker than expected included the NFIB Small Business Optimism Index, the November New York Empire State Manufacturing Index, weekly jobless claims, the November Philadelphia Fed Business Index, October Import Prices, and October Export Prices.  Also of note, the October Consumer Price Index was up 0.1% month over month and 2.000% year over year, in line with expectations.  The House passed its version of tax cuts so the bill now moves to the Senate for debate.


The Dow Jones Industrial Average is currently at 23,376, down about 50 points on the week.  The crude oil spot price is currently at $56.39 per barrel, down slightly on the week.  The Dollar weakened versus the Euro and Yen on the week.


Next week look toward Monday’s Leading Economic Indicators, Tuesday’s Existing Home Sales, Wednesday’s Durable Goods Orders, Jobless Claims, Consumer Sentiment Index, and FOMC Minutes from its November meeting, and Friday’s PMI Composite Flash as potential market moving events.  U.S. markets are closed on Thursday for Thanksgiving.


Long-term rates found bottom late this week. The rebound is not bad, mortgages still close to 4.00%, but risks have tilted upward.

The financial/economic world is odd enough today without unusual political intrusion, and thus it is more important than ever to deconstruct events and pressures into separate components.

From the most-broad perspective, it is true that national economies are synchronizing into a global expansion. Which is exceedingly rare and tends to end badly in an episode of overheating and either inflation or bubble-bursting. That is NOT what this one looks like. This one is new and different.

Several forces have combined for a couple of decades to produce an episode of synchrony. Supply chains twenty-five years ago became so entangled that traditional measures of national trade became meaningless. The Apple i-phone concept is US intellectual property exported to meet physical components manufactured and assembled all over Asia and re-exported here. My 2007 Volvo has a German engine, a Japanese transmission, and a hood logo probably made in Sweden.

The synchrony underway now is a concert of central banks, not economies. The four major regions -- US, Europe, Japan, and China -- from any historical perspective are each engaged in hysterical fountains of monetary ease. The US is the only one able to begin to back away, although in the most tentative tip-toeing. Our rates are rising, but financial conditions are still easy.

Never having been in this situation before, we can’t know how it ends or normalizes (if there is such a thing). China seems at the end of its debt binge. China’s central bank governor Zhou Xiaochuan has been so able (charming, too, if you get to see him) that he has overstayed every term and age limit, now at last retiring and on his way out shouting “debt danger” to the heavens, obviously with Xi’s approval. Nobody anywhere knows how to end a debt binge without some slowing economic effect, or exporting that effect via trade channels to other economies.

Europe is astride the stimulus tiger and dares not dismount. Draghi’s ECB presidency will end in 2019. In the entire 19-year existence of the ECB its chair has been held in sequence by a Hollander, a Frenchman, and an Italian; Germany all the while drumming fingers and waiting its turn. Club Med Europe is just as dependent on the ECB to protect unsustainable debt and currency mistmatch with Germany as it was when Draghi took over in 2011. Germany has been hostile to the whole stimulus effort.

Japan’s financial affairs are hopeless, dependent on the BOJ’s magic trick, making debt equal to double GDP disappear. Japan’s population is shrinking, and the last Japanese will owe a great deal of money.

It is hard to see how this synchrony symphony improves, but it might. Consider Mark Twain’ judgment of Wagner’s music: “It’s better than it sounds.”

We also cannot know effects already in train, especially in equity markets. Are they synchrony-bloated? Or overvalued by traditional measures, but under-valued in light of the fantastic and lucrative explosion of global trade? Nils Jensen, author of the Alhambra letter and concerned for years about a stock-market bubble, this month posted his clinching evidence. He observes that the long-term US GDP-to-wealth ratio has been 3.75% and is now 5.0%, aching for a fall. But the counter-argument asks, in a globalized world, more than half of S&P500 earnings derived overseas, why would the determinant of the wealth ratio be confined to US GDP? Why not global GDP, or the growth rate in global trade?

I am sure that I don’t understand stocks and have no idea if its prices are pre-bubble or proper. But in the bond market we have plain-sight metrics. Today the US 10-year T-note has risen to 2.40%. A German 10-year pays 0.41%. Japan’s: 0.03%. Reflective of each central bank’s future intentions, German 2-year notes pay negative 0.76%, Japan’s negative 0.19%, and the US 2-year positive 1.65% which will rise to 1.80% after the Fed hike in December.

You’re a pension fund or life insurance company or endowment, and you have to buy bonds. Which ones will you buy? Especially after considering currency risk? You can earn 10.18% on Brazil’s 10-year, but paid in... what?

The Fed will push up short-term rates, which will exert pressure on long-term ones, but the ex-US buy-pressure is stronger than the Fed. The 2-year yield might rise above the 10-year in an “inversion,” previously a guarantee of recession, yet have no US economic meaning whatever.

Politics. Markets have largely ignored politics in one of the most unusual years on record. Not his week. On news that the huge corporate tax cut would be enacted but delayed, stocks thumped down this week. That move says two things: first, markets expect this tax bill to pass. Second, they expect the bill to benefit corporate earnings. If you think that the tax bill’s benefit to business will then flow to rising wages, the market disagrees with you. The market thinks that it will keep the benefits.

The US 10-year T-note in the last year. The pattern has changed: we now have substantial “resistance” to declines in the 2.30% area, and equally strong resistance to increases beyond 2.40%. Thus a forecast for a boring episode of choppiness until something happens:


US 2-year T-note, one-year history. The Fed’s December hike is built-in, but immediately afterwards 2s will begin to price the next one, due by March.


The Atlanta Tracker is on track, 3% growth in Q4 2017 -- above trend by any measure, tax cut stimulus on the way, and foreign central banks’ stimulus has canceled the effect of Fed rate hikes on US long-term rates. That combination makes Fed rate-hike decisions easy:


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Rates Up Slightly on Limited Economic Data

Mortgage interest rates increased slightly this past week as economic data was limited.  Of note, September JOLTS Job Openings and September Consumer Credit were stronger than expected.  Weekly Jobless Claims and the University of Michigan Consumer Sentiment Index were weaker than expected.  September Wholesale Inventories were in line with expectations.  The Treasury auctioned $62 billion of 3 Year Notes, 10 Year Notes, and 30 Year Bonds which were met with okay demand.  It appears that there will be tax cuts although the details are still taking shape.


The Dow Jones Industrial Average is currently at 23,411, down almost 280 points on the week.  The crude oil spot price is currently at $57.18 per barrel, up over $1 per barrel on the week.  The Dollar weakened versus the Euro and Yen on the week.


Next week look toward Tuesday’s NFIB Small Business Optimism Index and Producer Price Index (PPI), Wednesday’s Consumer Price Index (CPI), Retail Sales, Empire State Manufacturing Survey, and Business Inventories, Thursday’s Jobless Claims, Philadelphia Fed Business Outlook Survey, Import and Export Prices, Industrial Production, and Housing Market Index, and Friday’s Housing Starts as potential market moving events.



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Rates Improve Slightly on Positive Economic Data

Mortgage interest rates increased slightly again this past week as economic data continued to be stronger than expected.  Economic data stronger than expected included the S&P Home Price Index, Chicago PMI, Employment Cost Index, Personal Income and Spending, PMI Manufacturing Index, Consumer Confidence, ISM Non-manufacturing Index, Factory Orders, International Trade, Productivity and Costs and Jobless Claims. Economic data that came in weaker than expected included the ISM Manufacturing Index, ADP employment Report, Non-farm and Private Payrolls, EIA Petroleum Status Report and Construction Spending. The FOMC stated that economic activity is “rising at a solid rate” which is an upgrade from the last time they met. A rate hike seems very likely at their next meeting as the labor market continues to show strength, despite a September drop in payrolls.

The Dow Jones Industrial Average is currently at 23,534, up about 130 points on the week.  The crude oil spot price is currently at $55.74 per barrel, up over $2 per barrel on the week.  The Dollar was flat versus the Euro and strengthened versus the Yen on the week.

Next week look toward Tuesday’s JOLTS, Wednesday’s EIA Petroleum Status Report and MBA Mortgage Applications, Thursday’s Jobless Claims, and Friday’s Consumer Sentiment and Treasury Budget as potential market moving events.