The Leaders’ Desires

In China, Brazil and some others
The market has proved it still smothers
The leaders’ desires
To cause what transpires
No longer do they get their druthers

The dollar is generally stronger this morning as the market continues to react to comments from Central Bankers around the world as well as the ongoing stream of data. The thing is, there is no longer a consensus as to what is going to happen with monetary policy almost anywhere on the globe, Japan excepted. I have discussed the Fed issues at length, and am sure I will continue over time, but suffice it to say that there is a great deal of uncertainty over the timing of any reduction in monetary ease at the moment. The ECB has been somewhat less mysterious, but remains behind the eight ball because the Eurozone economy remains mired in recession and is showing no signs of a quick recovery. So while there is no expectation of tightening any time soon, the real question seems to be will there be further ease?

The BOJ is easy, printing presses are running at full speed with no end in sight. Will it solve their problems? That is far less clear, but after 20 years of economic purgatory, the Japanese seem willing to try anything. The Old Lady of Threadneedle Street is in a quandary similar to the Fed. While they have a new governor, Mark Carney, ready to add to the easy money party, the data from the UK continues to show improvement, like this morning’s Construction PMI print of 51.0, (the highest level in 12 months), and so evidence of a recovery is building. Easing into that situation will be a difficult call for Governor Carney.

We also heard from the RBA last night, which left rates on hold, as expected, and claimed that despite a recent 10% decline in the AUD, it still remains high. It can be no surprise that the new Treasurer, Chris Bowen, came out looking for more rate cuts as every politician is a fan of easy money, but for now, it seems that the RBA will keep further rate cuts in their pocket as the economy continues its adjustment to a less mining intensive one. As long as the AUD continues to soften, and I think it will, the RBA will be reluctant to act further without a sharp decline in output there.

Let’s look at some of the emerging markets though, where the leadership is finding out that one of the downsides of becoming a more open economy is that government control over things is diminished. In China, for example, they have been struggling with how to effectively prevent another housing bubble while simultaneously maintaining sufficient stimulus for the economy to grow elsewhere. There is also a macro program to rebalance the economy to more domestic consumption and less export dependence. Well, that is a tricky set of objectives for any nation, but perhaps even more so for a nation that has a history of intense secrecy in its financial dealings with the market. The results have been a sharp spike in short term financing rates during the past month, rumors of a bank default, weaker economic data and no solution in sight. While the Renmimbi is not likely to collapse any time soon, what has become clear is that its steady appreciation has halted. The current level between 6.12-6.15 seems to be all there is and it would be no surprise to see a gradual move back toward 6.25. This problem for the Chinese is there is no simple solution, and I would look for more market gyrations there, expressed as equity market moves, over the rest of the year and beyond. But remember, no market lives in isolation, so if the Shanghai Composite is tumbling, you can expect a knock-on effect in other markets.

And in Brazil, the problems are manifesting themselves via the massive protests in the streets. Already we have seen the government there back off the bus fare hikes that started things, and now they have offered more direct democracy. But it strikes that what the people want is not direct democracy, they simply want competent and uncorrupted leadership by the elected officials. Of course, that is a rare outcome in any country, let alone one that has as short a history of democracy as Brazil’s. The Central Bank is having a problem because inflation has jumped above the top of its target range at 6.5%, but growth remains weak at 1.9% annually. The term stagflation springs to mind, but in a nation where the government’s legitimacy seems to be being questioned by the people. If you remember, when we first saw the weakness of EMG currencies several weeks ago, I mentioned that I thought there was a chance of a very significant decline in the BRL. I think that probability continues to grow seeking only the next surprise. I fear a move toward 2.50 is a realistic event this summer.

Today’s US data is dull, with only Factory Orders of note. All eyes are on tomorrow’s start to the employment story as that is intimately tied to the FOMC decisions. I sense a modest day today, with limited overall activity in FX, especially as the July 4th holiday approaches.

Good luck