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The Fed Put – Versus Fundamental Reality (#60)


Recently the Federal Reserve Chairman, Jerome Powell, confirmed he had gone from a much criticized ‘hawk’ to a sudden ‘dove’, in the space of a couple of months, from seeing the need to ‘normalize’ interest rates after decades of easing to abruptly seeing the need to be ‘patient’ and holding off rate raises indefinitely.

His capitulation to political and financial market pressures sent the Dow and the S&P soaring along with most other markets. Powell of course denied ‘pressure’ had anything to do with his sudden about-face, and cited worries such as the recent US government shutdown, the US and China trade war, the sluggishness of European economies, Britain’s Brexit woes, China’s and global economic slowdown, etc., as ample reasons to stop and hold rate raises for the time being.

We agree, there is a lot to be worried about if one is concerned about the possible direction of the US and global economy, and the global markets, but most of those concerns were there in plain sight when Powell was defiantly hawkish in the face of a steady torrent of abuse from a rather shamelessly interfering US President, and from a temper tantrum throwing, addicted to ‘easing’ financial markets. So, the abrupt need to be ‘patient’ has had to have an element of coercion to it in spite of his denials.

Now that the Fed has blinked, the question is what long-term impact will it have on the economic direction of the global economy and its financial markets?

In our view, the recent reinstated Fed-put has had its moment, as the resurgence of financial markets have shown in their glee in posting triple and double digit gains in an unmistakable salute to a subservient Fed, and to an ‘easing’ Bank of China, and the ever dovish Bank of Japan (BOJ), and the skittish European Central Bank (ECB). The dovishness of the Fed and the other major Central Banks are now priced in, as may be the anticipation of a possible reversal in the Fed’s normalization quest, as the continuing deterioration of political and economic fundamentals, from here, maintain their downward slide.

That leaves global corporate ‘earnings’ and government statistics, which at this time are mixed at best, but overall headed in the wrong direction enough to deteriorate global business and consumer confidence. And that growing negative sentiment spells trouble for the overall weakening conditions, even for the US.

First and foremost there is always Trump and his disruptive and therefore destructive impact on national and international political and economic conditions. Politics effects business and commerce, and in Trump’s case, both areas are in turmoil from his chaotic ill-considered short-sighted policies.

Trump’s trade and tariff war on partners and competitors alike has had a very disruptive effect on what was till then a relatively stable global-trade environment. Most of what Trump accused America’s trading partners of, taking one-sided advantage of a poor naïve America, was pure hogwash; if it had been true, America would not have had a growing economy for the last few decades, as it has had.

In fact it was globe-spanning American corporations that took solid advantage of opportunities in other markets that made them so dominant, including accessing cheaper labor from other countries, including China, as they should have, and in fact still are; for example - Harley Davidson is planning new factories in Europe, and Tesla is opening a massive new factory in China, while General Motors is having to shut some down in the US. This is normal business adaptation to changing market conditions that Trump, or another leader, could never reverse.

Having said that, Trump did have a point in picking a dispute with China, as the theft of technology and intellectual property by Chinese companies over the years from America and the West, and the one-sided access to its internal markets has been well documented over the past decades. As China surged from a poor dysfunctional communist economic backwater, to a dynamic and dominant global manufacturing giant, and the second largest economy after the US, from one that had been one of the smallest among the major countries just thirty some odd years ago, China did undertake all efforts to catch up to the far advanced Western business World, even if that meant not playing by international rules, or not playing fair with foreign companies seeking its internal markets as quid-pro-quo.

But the problem is, China’s manufacturing prowess is based on America’s and the Western consumer’s enthusiasm in buying cheap goods from it in huge quantities, enough to give it large positive trade surpluses with most of its trading partners.

The enthusiasm to buy from China, by the World, has made it an economic powerhouse, plus a difficult country to brow beat. The World needs China’s business and China knows it. Trump’s threats and tariffs, while posing a problem for China currently, are not enough to make it capitulate easily. And, the Chinese leadership has far more patience and staying power, overall, than Trump, who is under greater pressure to show success now, because of daily mounting internal political pressure, while China’s leadership has no such immediate pressures, except the longer-term economic pressure from a slowing economy.

China’s economy is slowing and Trump’s tariffs are putting greater pressure on it, but China is aggressively undertaking quantitative easing while maintaining its positive trade surpluses with its steady exports. That gives China more time to try and out-wait Trump, while making appropriate conciliatory gestures like promises that are never quite filled to their logical conclusion, but are enough to lead Trump and his team on (like North Korea’s promises to denuclearize), and allow him to claim some success for his immediate conservative base political needs.

Which means, that the much anticipated trade deal that Trump will soon most likely announce, as the March first deadline looms, will be long on success rhetoric, and short on China having given ground on any serious concessions at this time on the thorniest issues, such as real intellectual-property protections, responsible technology and business ownership rights and protection, greater and equal access to its internal market for foreign companies, and an international standards rule-of-law, not the arbitrary China’s own version of law. The deal, when announced, will be heavy on promises of future changes by China, but will have little in material changes now.

The lack of any real resolution on these and other trade issues will continue to weigh on global economies, trade and the financial markets.

As will the seemingly intractable solution to an orderly Brexit (Britain’s break from the European Union). Britain’s attempts to break away from the EU has reached farcical proportions so far, and therefore has enhanced daily the possibility of a ‘no-deal’ chaotic Brexit; if that were to occur (a no-deal Brexit), it will have very grave negative economic consequences for Britain, the EU, and other economies.

To add to the growing stormy clouds gathering on the global horizon, conditions in Europe are deteriorating both politically and economically; adding greatly to which, is the recent slippage of normally chaotic Italy, into official recession.

To add to the growing global woes, India’s perennial promise of economic resurgence is again tempered by terrible governance, self-serving political policies that will not address age-old chronic problems of general corruption, rotten public sector institutions plagued by endemic corruption and mountains of bad debts, unnecessary political interference in business, and the age-old caustic mix of state, nationalism and religion, which has risen sharply during Modi’s tenure, and is robbing the country of its strengths, and threatening its social cohesion.

India, in spite of to its massive size, is still a relatively small economy, but growing at a relatively healthy clip. But India’s inherent talent in sabotaging itself, repeatedly, is again becoming obvious, as Prime Minister Narendra Modi’s promise as a strong leader, able to wrestle chaotic India into some semblance of order has faded rather sharply. The approaching end of his first term is marked by national doubt and disappointment, and a list of unfulfilled promises and poorly conducted initiatives, like the infamous ‘demonetization’ fiasco, which created mass chaos and did more harm than good, and affected the economy negatively.

So India and China will not be riding to the rescue of the waning global economic growth outlook anytime soon. They have their own problems slowing them down.

Always adding to the global uncertainties and conflicts are Trump’s own agenda that is creating internal and external chaos since his election, the recent government shutdown being another ‘case in point’. The longest government shutdown in US history was both unnecessary and damaging. While it had a relatively small quantifiable negative effect on the general economic activity, it had a far greater effect on the morale of US federal government workers, and created uncertainty where there had been stability. To make matters worse, Trump is threatening another shutdown over his battle for ‘Wall funding’, or a declaration of a national emergency to be able to build his ‘Wall’, all because of his ‘signature’ campaign promise, for which the conservative provocateurs are holding his political feet to the fire. This inability to govern by consensus and compromise is promising an ongoing embattled US government that is locked in bitter partisan conflicts.

An ideologically and politically pliable Trump is being forced to take a hard-line by his fear of further losing his slowly eroding conservative base. As a result, the list of Trump related American and international uncertainties, will add to the steepness of the hill up which the markets and the economies will have to climb.

So while the Fed’s capitulation has boosted financial markets almost everywhere, generally, the myriad factors, political and economic, that are darkening the American and international horizons, are gathering steam and will ultimately swamp the various Central Bank’s efforts (including the Fed’s) to keep everything going, as in the recent past decade of unprecedented quantitative easing through ultra-low interest rates and bond buying exercises. With interest rates still at historic lows in North America, Europe and Japan, and the government debts at all time highs; there is limited room for the Fed and the other major Central Banks to keep intervening to stoke an overextended global economic cycle, and generally over-inflated asset markets. Economic cycles and natural tendencies towards reverting to the mean will have their day, helped along by political chaos.

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