Blain's Morning Porridge - 26th June. If it ain't the labour market that's driving infla

Blain’s Morning Porridge - June 26th 2017

“He’s a supersonic scientist, he’s the guaranteed eternal sanctuary man.”

There seems to be something of a sea change underway in Central Banking thinking. This shift could have profound implications for perceptions of market risks. It’s only a question when market participants realise how the ground has shifted as the “Economic Consequences of QE and Monetary Experimentation” come to the fore.

I repeatedly read we're in a long-term economic recovery, but it doesn't feel that way. Must be the way my grandparents felt after the war.. their generation might have won the battles, but austerity Britain lasted the next 20 years. If this is global boom it sure doesn't feel like it.

The BIS annual report released Y’day talks about a global economy that's done (selectively) well, but is running out of "slack" - especially in Labour markets, where we all know inflation resides... According to press reports, BIS are also worried about normalisation. They foresee risks as the Fed raises rates and drains dollars (by cutting the balance sheet), setting off a dollar squeeze and triggering a global rate shock - and all the corrective mayhem that will cause! Schweet..

BIS warns the next financial crisis might be just around the corner, and about on-going boom/bust cycles: "Policy normalisation presents unprecedented challenges" that could "trigger or amplify a financial bust in more vulnerable countries."

In contrast, my Macro Man, Martin Malone has a bullish slant on the report, with stronger expectations for Global GDP, employment and inflation closer to objectives. I’ve attached his summary which is short words, long charts and long facts. Well worth a read!

I wonder who BIS are thinking about in terms of vulnerable countries... EM? Argentina? Italy? China? Canada? Whomever?

Another signal the global economy is being reassessed was BOE economist Andrew Haldane's conversion last week to tightening in the UK - having figured out the Phillips Curve (the much postulated trade-off between employment and wage driven inflation) ain't happening. The only way to get a pay rise today is by getting a new job.

And if inflation isn't being generated where we've been looking for it (in labour markets)... what else are we missing? Oh... er... What about that massive credit bubble and the galloping inflation across Financial Assets caused by the last 10-years of monetary experimentation, easy money and QE running the cash spigots dry? Which is why it’s time to reassess market valuations.

Central bankers are looking again at the economic fundamentals for where the bust is coming from. It’s not just Mark Carney worrying about the burgeoning levels of consumer credit card debt.

What they survey from their lofty bank eyries must terrify them. The unanticipated economic consequences of 10 years of easy money and unlimited QE pumping cash into the global economy has spawned massive imbalances. And into today’s global economy, a wobble in one place causes the tower to tumble somewhere else..

It’s not all been bad. Swift Central bank action arrested the global economy slipping into utter chaos. Since 2008 the US economy has at least fixed its banks. The US economy is into a new neutral/normal slow recovery, but debt levels across the States are higher. No just in Central government, but look at deteriorating state credit ratings and burgeoning corporate and consumer debt. Everyone watching markets will be aware of just how stretched and wobbly Auto, Student and Credit Markets are. POP!

I mentioned Canada up above. Lots of the press has now picked up on the looming Canada property bubble burst (I wrote about it over a month ago!) Bubbles caused by the kind of demand/supply/price imbalances we see in Canada (caused by external buyers) simply can't continue. POP!

Or China - lots of folk worried about the parallels between China's debt markets and the Occidental world in 2008. I'm in the camp which believes the Chinese authorities can probably deal with it - but will have to be aggressive, meaning significant global economic consequences. Plus domestic economic tension could fuel dissent on politics and the environment. POP!

Or Italy? Sure it’s a wealthy nation and I'm told everyone is very happy and content, and are taking the whole summer off because, well why not…. Sadly, shrugging their shoulders and assuming someone will fix it is not a solution to chronic banking instability (because until last night, nothing - absolutely forking nothing - had been done to fix Italian banks) and galloping state debt. POP!

Or what about European banks? Essentially unfixed. Bremer Landesbank has deferred coupons on non-cumulative German subordinated debt, while Italy has been forced to push Banca Pop di Vicenza and Veneto Banco into a variation of the “Spanish Banco Pop” resolution mechanism. A total Euro 17 bln bailout has been approved by the EC. Initially, Intesa will pay 1 Euro for the banks, but instead of having to raise capital itself, it will receive Euro 5.2 bln from Government to sort them into a Good Bank, Bad Bank split.

However, retail investors in sub paper are not being fully bailed in – setting a messy new precedent as “Euro 60 mm for the reimbursement of retail subordinated bonds” has been set aside. Otherwise, shareholders and institutional sub debt holders have been “resolved”. The remaining Euro 12 bln government cash is there.. if needed – which it definitely will.. meaning taxpayers pay (in so much as taxpayers in Italy actually pay for anything…)

I suppose there really wasn’t much choice; the Veneto is part of rich Italy and Europe could do without a crisis. Not quite a POP, but messy.

Which makes me wonder... what else is going to change as we look under the sheets..?

Out of time..

Bill Blain