by Shaun Richards
There have been 2 major economic themes so far this year. The first is the rise in inflation and hence the cost of living and the second has been the rise and indeed rise of the US Dollar. These are linked in so many ways as for us in the rest of the world commodities are priced in US Dollars meaning it was making them even more expensive. But if we look at the United States itself we see that it is the interest-rate increases combined with the promises of more of them, that has driven the US Dollar higher. So the cure for the US creates more trouble for the rest of us and that is before I get to the issue that the sensible for other central banks is simply to match the Federal Reserve. So we get higher interest-rates and bond yields too.
On Friday though we got the first hint that there may be what the Scorpions called the “Winds of Change” as I note this.
Federal Reserve officials are barreling toward another interest-rate rise of 0.75 percentage point at their meeting Nov. 1-2 and are likely to debate then whether and how to signal plans to approve a smaller increase in December.
That was from Nick Timiraos in the Wall Street Journal and for newer readers he is the journalist who the Federal Reserve speak to when they want a story placed in the media. So at a time of many “sauces” he has been a bona fide one.
Until now the hammer has been down and it was expected to continue and the Fed has encouraged this.
The Fed has raised its benchmark federal-funds rate by 0.75 point at each of its past three meetings, most recently in September, bringing the rate to a range between 3% and 3.25%. Officials are raising rates at the most aggressive pace since the early 1980s. Until June, they hadn’t raised rates by 0.75 point since 1994.
I would take care with the comparisons over time as they have not be raising interest-rates that much at all! But they were trying to convince us that they had set a pace like a long-distance runner and would stick to it.
Cleveland Fed President Loretta Mester has signaled she would favor rate rises of 0.75 point at each of the Fed’s next two meetings because there hasn’t been progress on inflation. “We can’t let wishful thinking drive our policy decisions,” she said on Oct. 6.
That was a world which had seen the US ten-year yield rise to a new peak of 4.34% on Friday. Whereas now we are being told this.
If officials are entertaining a half-point rate rise in December, they would want to prepare investors for that decision in the weeks after their Nov. 1-2 meeting without prompting another sustained rally.
This is a much bigger issue that merely 0.25% less than expected because investors would start to project fewer rises and maybe even cuts next year. Actually it seemed some already were on Friday.
The S&P 500 closed up 2.4% on Friday, with all 11 sectors posting gains.
US Mortgage Rates
If we look for a trigger for the apparent change of view at the Fed it seems likely to be this.
Currently P&I is up about 59% year-over-year for a fixed amount (this doesn’t take into account the change in house prices). This is above the previous record increase of 50% in 1980. This assumed a fixed loan amount – if we add in the year-over-year increase in house prices, payments would be up over 70% YoY for the same house. ( Calculated Risk)
So mortgage payments are soaring and the US Federal Reserve must be so grateful that mortgage costs are not in the US inflation measures. After all why would you put in a number owner-occupiers do pay when you can put in one they do not? Using imputed rents has reduced the recorded inflation numbers.
A problem arises though when you return to the real world as new buyers and those remortgaging are both unlucky and facing quite a squeeze However desperately the Fed tries it will never find anyone lucky enough to pay one of its Imputed Rents. Oh and just to add they are something of a fantasy for those who do pay rent as well as I looked at on the 14th of October.
This implies, however, that we should expect the CPI in rents to converge in levels to the other price indexes. This is extremely worrying. While growth is converging (shown above), the market indexes remain around 14% higher than the CPI for rents.
So it is quite possible that both renters and home owners have told the Fed that the real world is a lot tougher than its models with their fantasy numbers.
The Economy
As it stands it looks okay.
The GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the third quarter of 2022 is 2.9 percent on October 19, up from 2.8 percent on October 14. After recent releases from the Federal Reserve Board of Governors and the US Census Bureau, the nowcast of third-quarter real gross private domestic investment growth increased from -3.6 percent to -3.3 percent.
So 0.7% in our terms although we do need to recall for perspective that the US economy shrank in the first two quarters of this year. Also we need to look ahead to late next year and 2024 to allow for leads and lags in the response to monetary policy. Although some do not seem to realise this.
Welcome to Hikelandia, where inflation just won’t budge ( The Economist)
Bank of Japan
I think that it caught the mood music and that is why it intervened on Friday and why it did so earlier this morning. Maybe they were too early in the cycle as the Yen has again strengthened ( 149.4 as I type this). But I think they are hoping for a change in interest-rate policy and may even have got something of a nod.
FX Swaps
These have reappeared.
Huw Roberts, head of analytics at Quant Insight in London, reckons the problems at Credit Suisse CSGN.S are behind the surge in Swiss demand for dollars. He notes that the SNB last week drew $6.3 billion from the U.S. Fed’s currency swap line facility, roughly double the amount drawn a week earlier. ( Reuters)
There is an arbitrage trade on here.
This year there’s an added twist: the Swiss franc basis has blown out to levels not seen for years.
In itself this is simply an arbitrage trade but it does pose a few questions. Essentially we are left with the Carly Simon critique.
Why does your love hurt so much?
Why?
Why does your love hurt so much?
Don’t know why
Comment
We seem to be approaching the point where the US Federal Reserve looks ahead and does not like what it sees. We have learned over time that central banks prioritise the housing market and there we are seeing quite a squeeze being applied. So I would expect that to be the source of any change of strategy.
We can now also add in things that the Fed did not know when it was leaking this. Some of the moves in China over the weekend were too political for me but we can note this.
Hong Kong closing to drop about -7%. Question, when was the last time it dropped this much since 2010? Well, only today. Only today. We gotta go back to the GFC (2008) to get those huge intraday drops. ( @Trinhonomics)
Also it would appear that the foreign exchange intervention by Japan is struggling.
JAPAN ECONOMY MINISTER YAMAGIWA: I HAVE HANDED IN RESIGNATION. ( @financialjuice)
I counsel not over emphasising these issues as the Fed sets policy for the US and ignores the rest of the world. But they do have potential implications for the US.
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