a word on the euro, US deficit doves, and Japan

As previously discussed, the euro looks to keep going up until the trade surplus reverses. Problem is the strong euro doesn’t necessarily cause the trade surplus to reverse, at least not in the short term. But it does tend to work against earnings and growth. And there’s nothing the ECB can do about it, short of buying dollars via direct intervention, which would be counter to their core ideology, as building dollar reserves would give the appearance of the dollar backing the euro. The solvency issue has now been behind them for quite a while, and still no sign of any ‘official’ recognition that deficits need to be higher to restore output and employment.

And, also as previously discussed, while the future was looking up for the US a few months ago, the caveat of ‘austerity’ has come into play with the year end FICA and other tax hikes, and now the odds are the sequesters are allowed to come into play March 1 as well. Note this has been Japan’s policy as well- fiscal tightening at the first sign of any hope for expansion. Fed policy also looks to remain restrictive as blatantly evidenced by the recent turn over of some $90 billion of ‘profits’ to the Treasury that otherwise would have been earned by the economy.

The headline ‘deficit doves’ pushing for larger deficits with their ‘out of paradigm’ arguments are also serving to continue to support austerity. They have been arguing that the low interest rates are a signal from the markets (as if they know anything about markets) indicating the economy wants the govt to sell more bonds. This is in response to the hawk’s equally out of paradigm argument that financing deficits will eventually drive up interest rates. So now that interest rates have started going higher, the dove’s case is for higher deficits is pretty much gone, removing the resistance to ‘getting our fiscal house in order’ just as the sequester date is approaching. Whether it’s gross ignorance or intellectual dishonesty doesn’t matter all that much at this point- it’s happening. At the same time oil and gasoline prices have been creeping up, taking a few more shekels away from consumers. January and it’s strong equity inflows/allocations and releases of December’s stats ends tomorrow. February’s releases of Jan stats will bring more post FICA hike clarity.

Japan’s weak yen, pro inflation policy seems to have been all talk with only a modest fiscal expansion to do the heavy lifting. Changing targets does nothing, nor does the BOJ have any tools that do the trick as evidenced now by two decades of using all those tools to the max. And while I’ve been saying all the while that 0 rates, QE, and all that are deflationary biases that make the yen stronger, there is no sign of that understanding even being considered by policy makers, so expect more of same. What has been happening to weaken the yen is a quasi govt policy of the large pension funds and insurance companies buying euro and dollar denominated bonds, which shifts their portfolio compositions from yen to euros and dollars, thereby acting to weaken the yen. I have no idea now long this will continue, but if history is any guide, it could go on for a considerable period of time. Yes, it adds substantial fx risk to those institutions, but that kind of thing has never gotten in the way before. And should it all blow up some day, look for the govt to simply write the check and move on.

Confidence Index decreased to 58.6

Not conclusive but a bit of evidence the FICA hike is beginning to take a toll.

From Gail:

The Conference Boards Consumer Confidence Index decreased to 58.6, the weakest since November 2011, from a revised 66.7 in December

January 29 — Says Lynn Franco, Director of Economic Indicators at The Conference Board: Consumer Confidence posted another sharp decline in January, erasing all of the gains made through 2012. Consumers are more pessimistic about the economic outlook and, in particular, their financial situation. The increase in the payroll tax has undoubtedly dampened consumers spirits and it may take a while for confidence to rebound and consumers to recover from their initial paycheck shock. Consumers appraisal of current conditions deteriorated in January. Those claiming business conditions are good declined to 16.7 percent from 17.2 percent, while those stating business conditions are bad increased to 27.4 percent from 26.3 percent. Consumers assessment of the labor market has also grown more negative. Those saying jobs are plentiful declined to 8.6 percent from 10.8 percent, while those claiming jobs are hard to get increased to 37.7 percent from 36.1 percent.

Japan’s debt approaches 1 quadrillion yen

Debt approaching 1 quadrillion, and the highest as a % of GDP anywhere I know of, and still no bond vigilantes in sight!

Who would have thought???

Not to mention decades of 0 rates, massive QE, and in general the BOJ trying as hard as it can to inflate.

Maybe it’s not all that easy for a CB to cause inflation???

Anyway, net fiscal will add a bit to GDP, but nothing serious, and the hawkish rhetoric doesn’t seem to have changed any.

And note the cuts in welfare ‘paying for’ the increases in defense and infrastructure.

Of the Y92.6 trillion yen in spending, Y43.1 trillion will be financed with tax revenues and Y42.9 trillion with issuance of new bonds, adding to Japan’s massive public sector debt that already totals nearly Y1 quadrillion.

The FY2013 budget does show clear differences from those of the previous DPJ administration, with a clear shift away from social welfare toward defense and infrastructure programs.


It calls for a reduction of Y67 billion in welfare benefits over the next three years, an increase of Y712 billion, or 15.6% in public works programs and a Y35 billion, or 0.8% increase in spending for the Self-Defense Forces.

“Adequate amounts have been provided to ensure the safety of public infrastructure and to address public concerns about national defense,” Mr. Aso said.

The LDP’s call for aggressive public works spending got better reception after the collapse of an expressway tunnel in December that killed nine people. Simmering tensions with China have also increased support for spending programs to improve security of Japanese territory.

In a policy address Monday, Mr. Abe vowed to erase fiscal deficits in the medium-to-long term, but stopped short of saying when, leaving the task to his economic advisory panel.

Sayuri Kawamura, a Japan Research Institute economist, is worried that not enough attention has been given to the risk of fiscal implosion.

“As debt piles up, the cost of servicing that debt also goes up, eating deeper into tax revenue, and leaving less and less for policy programs. The government hasn’t explained how they are going to deal with this challenge,” Ms. Kawamura said.

from Karim: January looks ok so far

Agreed with Karim. So far no signs of actual damage from the FICA hike. Even bonds now indicating same.

The problem is personal- it’s hard for me to fathom FICA going up that much without some meaningful damage to GDP.

So I remain on the sidelines pending more Jan data.

ICSC 3% Retail Sales Growth Maintained for January, Fiscal Year (ICSC) January sales growth is tracking above ICSC’s 3% estimate for the month, even with a slight moderation of yoy sales growth as the month has progressed. All Super Bowl shopping will fall in January this year, so sales should gain momentum as the month closes. January U.S. store traffic growth continued to slow in the third week of the month, rising 3.1%, as stores transition from post-holiday clearance to more everyday merchandise. Traffic at enclosed malls remained unchanged yoy and apparel stores declined by low-single digits for the first time since the lull in early December. The 12% month-to-date traffic gain stems from large increases in early January. U.S. same store sales excluding Wal-Mart rose 2.7 percent in Dec. from a year earlier.

ICSC index drops every January but this year higher than last, as Karim indicated.

January auto sales seen continuing 2012’s strong pace (Reuters) Auto sales in January are expected to continue the torrid pace set at the end of last year, with sales rising as much as 15 percent. J.D. Power and LMC Automotive, in a joint press release, said they expect U.S. retail sales in January to reach the highest rate in five years. Including fleet sales to commercial customers, the research firms expect an annual sales rate for the month of 15 million vehicles. That would follow the strong showings in November and December, when the rate topped 15 million. “The year is off to a fast start, which bodes well for the remainder of 2013,” J.D. Power Senior Vice President John Humphrey said.


Strongest manufacturing expansion since March 2011 (Markit) The Markit Flash U.S. Manufacturing PMI rose to 56.1 in January from 54.0 in December. The output index rose to 57.2 from 54.5, the new orders index rose to 57.7 from 54.7, the new export orders index fell to 51.3 from 52.6, and the backlog of orders index fell to 49.5 from 50.3. Manufacturers reported a further rise in production levels during January. Companies attributed faster output growth to an increase in new orders. Overall incoming new work rose at the fastest rate since May 2010, largely reflecting higher demand in the domestic market. New export orders continued to increase, up for the third month running, albeit at a slower rate than in December. Asia was mentioned by survey respondents as a key source of new business.

Email exchange on balanced budget multiplier

>   
>   (email exchange)
>   
>   Hi Warren, I’m a bit confused over one point. MEMMT says that only govt deficits (or an
>   external sector like foreign) can inject NFAs into nongovt. So if govt runs a balanced
>   budget over the years the NFAs left to nongovt will net to 0.
>   

Yes.

>   
>   Now take Keynes’ consumption function and the multiplier. Govt invests 100$ into Mr A in
>   nongovt. Mr A will spend on average 75% of that, and will save the rest.
>   

Yes.

>   
>   The next guy will spend 75% of the $ he got from A and save, and so on along an ever
>   dwindling series of consumption expenditures that will add to say 300$, ie the multiplier
>   effect.
>   

Ok. This presumes there is unemployment/unmet savings desires. And the additional 100$ of nfa will have resulted in higher levels of employment that produced the 300$ of incremental output.

>   
>   So, say that govt runs a balance budget, ie spends 1 billion and will tax 1 billion, however
>   the multiplier effect will have created in the aggregate a lot more $ out of the original
>   govt injection of 1 billion.
>   

If it all reduces savings desires unemployment will fall and output will rise. The presumption is that the 1 billion tax cuts spending by less than 1 billion, while the spending is the full 1 billion. That is, savings desires fell as those who were taxed spent from savings (or borrowed to spend, same thing).

And just as the initial govt spending is spent and respent as you describe, the tax also cuts spending which further cuts spending etc.

The presumption of the idea that an equal spending and tax will lower unemployment must be based on one of two things.

First, somehow those taxed simply reduce their savings and their savings desires. This is certainly possible.

The second is first illustrated at the extreme.

As govt employment grows the number of people left in the private sector falls, and we don’t measure unemployment as a % of the private sector work force. So if half the workforce in Italy is in the public sector, and unemployment is 10%, that means unemployment is some 20% of the available private sector labor.

So if, for example, govt employment was 90% of the labor force, it would be impossible for reported unemployment to be over 10%.

With 100% public employees there is 0 unemployment as defined.

I discussed this back in 2008 and I need to repeat it in a post thanks!

>   
>   And here is where I lose it. Will this mean that even in a balance budget regime in reality
>   govt is never able to tax as many FAs as the multiplier will have created in nongovt before
>   taxation is due? Is this disproving MEMMT and prove instead that a balance budget can
>   still create NFAs for nongovt? Thx P.
>   

Not at all.

ME MMT fully explains the workings of the condition described.

;)

Added link to Bill Mitchell’s dissertation on the subject here.

Monti Proposes More Than EU13.5 Billion in New Tax Breaks, Cuts

The headline is promising but the details don’t read at all well.

Italy needs aggregate demand/spending/sales/ouput/employment. Cutting corporate taxes does precious little of that, especially over 5 years beginning 2014. And tax cuts ‘paid for’ by spending cuts tend to reduce demand overall as well, as does fighting tax evasion. And there’s nothing he can do about bond yields.

And I doubt his opposition is offering anything better.

As the gag stated, the food was bad and the portions were small.

Monti Proposes More Than EU13.5 Billion in New Tax Breaks, Cuts

January 27 (Bloomberg) — Italian Prime Minister Mario Monti said that he plans tax breaks and reductions worth more than EU13b if hes elected to a second term in February. Monti spoke in an interview on La7 Television. Monti proposes cutting corporate taxes after 2014;Monti sees EU11.5b reduction in corporate taxes over 5-yr period; Monti says he plans tax breaks for first-home owners, families with children worth EU2b; Monti says he will revamp IMU property tax from this year; Monti says he will try to cut income tax rates after 2014; Tax cuts can be paid for through cutting spending, fightingtax evasion and keeping bond yields down.

Draghi Says Conditions Considerably More Favorable Than Last Yr

As previously discussed, looking like deficits high enough for stability and even modest growth, albeit with output and employment at tragically low levels, if they don’t further tighten fiscally.

It didn’t have be this way. They could have increased deficits pro actively vs via austerity.

Also, their ‘automatic fiscal stabilizers’ are very strong and, even if all is left alone, will tend to keep any recovery muted.

EU Headlines
Draghi Says Conditions Considerably More Favorable Than Last Yr
Merkel Takes Swipe at Yen
German Business Sentiment Rose More Than Forecast in January
Ifo Business Climate Index Rises
German Cooperative Banks See Growth Exceeding Government Outlook
France needs time to overtun rampant jobless rate: minister
Monti Says Monte Paschi Bailout Hinges on Bank of Italy
Italian PM under fire over bank crisis
Spain tries to peel back business rules

No ‘Massive Mark to Market’ Event for Bonds This Year: Friesen

No ‘Massive Mark to Market’ Event for Bonds This Year: Friesen

By Madeleine Lim

Jan. 23 (Bloomberg) — While “shortage of yield” will provide support for stocks, unlikely to see “great rotation” out of USTs and investment-grade bonds this year, III Associates principal and Co-CIO Garth Friesen said in interview yesterday.

Growth set to be sluggish in major economies, earnings growth expected to slow down, driven by contractionary fiscal policies, particularly in Europe; tight fiscal policies likely in place for foreseeable future; supportive of fixed income

Central bank policy in major developed economies to remain highly accommodative,

With real yields negative across all maturities and central banks taking yield out of market, demand rising for carry-oriented investments; favors higher-rated HY, structured credit

While 10Y yields could rise another 25bps-50bps, sharp rise in UST yields unlikely as Fed purchases to support long end, while front end anchored by low-rate commitment; with thresholds unlikely to be breached this year or next, Fed to remain on hold

Bear markets in fixed income typically prompted by Fed policy tightening

Still some debate whether halt or curtailment of Fed asset purchases presents tightening; flow of purchases important to markets

Fed balance sheet not a near-term risk; balance sheet is a tool for Fed, which would only shrink balance sheet for policy purposes; given outlook for muted inflation, Fed not operating under time constraints


III has $2.3b in AUM, three lines: fixed income arbitrage, long-short credit, tail hedging business; mostly in G3/G7 currencies

Euro investments in swaps, funding markets, less exposure to sovereigns; credit exposure mainly U.S., some euro exposure

Shirakawa Leaves Onus on Abe for Stimulus as Action Deferred

Monetary doesn’t do the trick in any case. If this leads to a larger fiscal adjustment give him credit for the assist, intentional or not.

Shirakawa Leaves Onus on Abe for Stimulus as Action Deferred

By Toru Fujioka & Isabel Reynolds

January 22 (Bloomberg) — The Bank of Japan (8301)’s decision to hold off on fresh monetary stimulus for a year puts pressure on the Abe administration to revive growth through fiscal measures and risks capping losses in the yen that aid export competitiveness.