“Stranger and stranger,” said Alice. As peculiar as markets have been, we are overdue to return to some version of normal, reacting to actual economic events instead of shock-politics and related speculation.
This week had the feel of concluding crescendo. The offices of the personal attorney of the president were searched by warrant approved by his own Department of Justice. Then markets improved in response to a reassuring speech on trade by a world leader, Xi Jinping (I have no memory of any prior speech by any foreign leader moving US stocks so much).
Speaker Ryan will retire, not until January despite helpful shoves from behind by his friends. With apologies to Winston Churchill and Clement Atlee, the object of Winston’s spear: “An empty limousine arrived at the Capitol, and out stepped Paul Ryan.” Congress needs help at the top of both parties; add McConnell, Pelosi, and Schumer as empties in the limo. Ryan’s announcement, the introduction of Mueller-protective legislation, and Mike Pompeo’s charm offensive all calmed markets.
On alternate days markets were upset by Syria. To strike or not to strike, how soon or how hard, but at least intersection with the real world: oil this week broke to its highest prices in three years. The new Middle East is pure and unstable power play beyond the ability of the US to control. Iran versus Saudi Arabia, the former allied with Russia and Syria, the latter aligned with Israel, and Turkey a wild card. Now a common event: in the sky above Riyadh, the Saudis shooting down Iranian missiles launched by Yemeni rebels.
All of that conspired to keep US interest rates down. For two months the 10-year T-note has traded within an inch of 2.80%, holding mortgage rates close to 4.50%.
To hold long-term rates down like this while the Fed intends at least two more rate hikes this year... that requires a great deal of contrary force. And rates stayed down despite this week’s Treasury auctions of $64 billion in new bonds.
Pushing down: rising oil prices will slow the global economy, which is not accelerating despite hopeful foreecasts. The prospect of trade war is already slowing economies, if only by tamping down upon risk-taking. Dallas Fed prez Kaplan in Beijing said that few if any of the proposed US tariffs will happen. “I think it’s so clearly in the interest of both countries that we have a constructive trading relationship and substantive talks.” There are no talks underway.
Markets had a bright day after Trump said we may re-join the TPP, but fizzled when learning that we intend to renegotiate it, too. We will not be able to renegotiate in our favor every trade agreement outstanding, and the effort will burn good will. Franz Kafka: “In a battle between you and the world, bet on the world.”
The US economy is showing odd signs. The rate of growth in total bank credit began to fall in half early in 2017, and this past February fell to zero. That dearth of borrowing may be the result of the new tax and spending bills loading potential borrowers with cash, but the trend began long before those took shape late last fall.
The Fed released minutes of its March meeting on Wednesday, and given everything else going on, nobody but professionals noticed. The bulk of the minutes were straight down the fairway, the Fed staff saying that risks are “balanced.” However, discussions among the participants are shifting toward end-of cycle thinking.
These minutes are tricky to read as “participants” include the Fed governors and all of the regional Fed presidents. A good half of the regionals are unqualified, and all opinions in the minutes are anonymous. But there are patterns:
“All participants agreed that the outlook for the economy beyond the current quarter had strengthened in recent months. In addition, all participants expected inflation on a 12-month basis to move up in coming months.” Do not look for a pause in rate hikes.
“Participants agreed that, even after [the March .25%] increase in the target range, the stance of monetary policy would remain accommodative.” The Fed’s hikes have not even reached neutral.
"Tax changes enacted late last year and the recent federal budget agreement, taken together, were expected to provide a significant boost to output over the next few years. However, participants generally regarded the magnitude and timing of the economic effects of the fiscal policy changes as uncertain.” The tax and spending bills may not stimulate the economy, but sure as hell will not slow it.
“Several participants expressed the judgment that it would likely become appropriate at some point for the Committee to set the federal funds rate above its longer-run normal value for a time.” There it is, for the first time in this cycle. Not a switch to increased hawkishness, just a statement of fact: if the economy does not slow to a sustainable pace, below 2% GDP growth and jobs 100,000 per month or less... then we, the Fed will see to it.
"A strong majority of participants viewed the prospect of retaliatory trade actions by other countries, as well as other issues and uncertainties associated with trade policies, as downside risks for the U.S. economy.” Or maybe we’ll slow down by some other means.
The US 10-year T-note in the last two years... in the last two months, stuck:
The US 2-year T-note is ultra-sensitive to the Fed, but in the last two months almost as stuck as 10s -- very odd, considering the Fed on the march:
A tale of psychology in two charts. The National Association of Independent Business has surveyed its small-business members for 45 years. Since the 2016 election its overall optimism has reached all-time highs. Is the survey still a good proxy for the economy, or a political statement by its conservative membership? Optimism in the top chart, actual component-by-component economic performance in the second:
The Atlanta Fed’s tracker has flattened at exactly 2.0% for the first quarter after weakening throughout:
The ECRI has had a perfect forecasting record since 1965, except for one false-recession call in 2011. Its brilliant chief economist then is still on duty now, Lakshman Achuthan -- and he is worried again. Chart weakening but still intact: