JAPAN - Stalled Inflation Adds Pressure for Second Round of Stimulus

Japan’s Stalled Inflation Adds Pressure for Second Round of Stimulus

A year after the Bank of Japan launched its strategy for re-inflating the country’s economy, stalled price increases raise expectations of a second round of easing.

Core inflation excluding food prices came in at 1.3 percent year on year in March, unchanged for a fourth month. Data showed inflation in Tokyo at 2.7 percent in April, up from 1 percent in March. That reflects the consumption tax increase rather than a shift in price pressure.

In a speech heralding the launch of quantitative and qualitative easing last year, Governor Haruhiko Kuroda said the BO J’s asset purchases would spur growth and inflation through three channels.

First, lower long-term interest rates should raise demand for credit. Interest rates on loans have fallen to 0.8 percent in February 2014 from an average of 1 percent in April 2013. That helped extend a moderate expansion in loan demand. Outstanding loans rose 2.3 percent year on year in December 2013, accelerating from 1.7 percent growth in April. Since then though, growth has slowed. The loan officers’ survey suggests demand for credit will remain weak into the second quarter.

Second, Kuroda announced there would be portfolio rebalancing as low yields on government bonds pushed investors into riskier assets. The share of government bonds in total bank assets fell to about 10 percent at end 2013, from 12.5 percent in March that year. Still, that remains higher than the long-run average. Japan’s equity markets — among the worst performing in the world this year — do not suggest a sustained pick-up in risk appetite.

Finally, Kuroda said higher inflation expectations would push down real interest rates and stoke private demand. Inflation expectations have indeed risen. The five-year breakeven rate is now at 2.3 percent, compared with 1.5 percent a year ago. The share of households expecting prices to rise in the year ahead rose to 88 percent from 69 percent over the same period.

Still, the pass-through to stronger demand has been mixed. For companies, lower real interest rates and higher profits are stoking stronger investment spending. Machine orders were contracting when the B o J announced its stimulus. Now they are growing at double-digit rates.

The impact for consumers is harder to see because wage growth has failed to keep up with rising prices. With real wag- es falling since o ctober 2013, households may be reluctant to hit the shops.

Pressure for rising prices is set to fade in the months ahead. Import prices, which were up 17.8 percent year on year at the end of 2013, rose just 4.4 percent in March. That reflects the end of the yen’s period of rapid depreciation.

The question on a second round of easing is not ‘if’ it will occur but ‘when.’ The B o J’s o utlook Report, slated for publication April 30, will provide clues to the answer

CHINA - Is China is Exporting Deflation Worldwide by Driving Down Yuan?

Suspicion grows that China is exporting deflation worldwide by driving down yuan 04-24-14 Anbrose Evans-Pritchard

• Yuan Down 3.1% YTD to 6.25 to USD,
• FX Reserves increased to $510B to $3.8T in 2013. Now $3.95T,
• Suspect China buying through Belgium of $341B from $164B in August,
• China falling into deflation with factory gate prices down 25 consecutive months,
• GDP Deflator down to 0.4% from 1.4% over last year, This means that China’s nominal GDP growth has dropped to just 7.4pc and is nearing the levels of the post-Lehman trough. This is the indicator that matters for the solvency of China’s heavily-indebted companies.
• Those countries that have failed to build adequate defences by keeping inflation safely above 1pc could face a nasty shock when China accelerates exporting deflation,
• China’s current account surplus has fallen from 10pc of GDP in 2007 to around 2pc today but the Treasury report says it will rise again before long.
• It claims that China’s surplus is nearly $450bn if FDI flows are included.
• The true picture has been masked by unsustainable levels of investment. Quite so. China invested $5 trillion last year, as much as the US and the EU combined.

The Chinese Yuan weakened yet again this morning, punching through the key line of 6.25 against the dollar. It is almost back to where it was two years ago. This is the biggest story in the global currency markets. Yuan devaluation has reached 3.1pc this year. The longer this goes on, the harder it is to accept Beijing’s story that it is one-off measure to teach speculators a lesson and curb hot money inflows.

The US Treasury clearly suspects that the Chinese authorities have reverted to their mercantilist tricks, driving down the exchange rate to keep struggling exporters afloat. Officials briefed journalists in Washington two weeks ago in very belligerent language.

The Treasury’s currency report this month accused China of trying to “impede” the market by boosting foreign reserves by $510bn last year to $3.8 trillion – “excessive by any measure”.

It gave a strong hint that China is disguising its reserve accumulation. You don’t have to dig hard. Simon Derrick from BNY Mellon said a recent buying spree of US Treasuries and agency debt by Belgium of all places looks like a Chinese front.

Holdings by entities in Belgium have jumped to $341bn from $169bn last August. This would appear to explain how China’s FX reserves have kept rising to $3.95 trillion even as its custody holdings in the US itself have been falling. If so, China is playing dirty pool.

Hans Redeker from Morgan Stanley says China seems to have adopted a “beggar thy neighbour policy” to

• Counter the slowdown at home and
• Soak up excess manufacturing capacity.

Albert Edwards from Societe Generale said in a note today that China is “sliding inexorably towards deflation”. Factory gate prices have been falling for 25 months in a row.

The GDP deflator – which proved a much better gauge of trouble at the onset of Japan’s Lost Decade than consumer prices – has plummeted from 1.4pc to 0.4 over the last year.

This means that China’s nominal GDP growth has dropped to just 7.4pc and is nearing the levels of the post-Lehman trough. This is the indicator that matters for the solvency of China’s heavily-indebted companies.

Mr Edwards said the next shoe to drop in world the economy (leaving aside the Donbass) is a systematic attempt by China to export its deflation to any other sucker willing to accept it by driving down the yuan. Those countries that have failed to build adequate defences by keeping inflation safely above 1pc could face a nasty shock when this happens. The eurozone looks like the sucker of last resort. A Chinese deflationary tide would push Southern Europe over the edge. Perhaps that is why the ECB’s Mario Draghi sounded ever more alarmed today in his efforts to talk down the euro today.

I take no view on how far China intends to go with this. It may reverse course any time. I merely pass on SocGen’s view for readers to think about. Nor have I made up my mind whether the yuan is correctly valued.

Diana Choyleva from Lombard Street Research says it is 15pc to 25pc overvalued as a result of

• Surging wages and
• Poor productivity growth.

The IMF and US say it is still undervalued.

• China’s current account surplus has fallen from 10pc of GDP in 2007 to around 2pc today but the Treasury report says it will rise again before long.
• It claims that China’s surplus is nearly $450bn if FDI flows are included.

The true picture has been masked by unsustainable levels of investment. Quite so. China invested $5 trillion last year, as much as the US and the EU combined.

It is no mystery why the world is drifting ever closer towards deflation. That one figure tells you most of what you need to know. The dollar/yuan exchange rate tells you the rest.

CHINA - Someone Is Betting That The Chinese Currency Collapses By The End Of 2014

Someone Is Betting That The Chinese Currency Collapses By The End Of 2014? 04-26-14 Zero Hedge

Last week, USDCNY began to accelerate lower and break across the "real pain" threshold that we have been discussing for many of the world's so-called "hedgers" who have been riding the one-way strengthening trend of the CNY for years and piled in with leveraged trades on what had been a one-way bet. The collapse this week, to levels not seen since pre-BoJ QQE and pre-Fed QE3 appeared to trigger an avalanche of unwinds or hedges of the exposures we have been worrying about. As the chart below shows, billions of dollars of upside calls on USDCNY were purchased on Friday with serious size out to 6.65 strikes (levels not seen since 2009) by the end of 2014.

The losses are mounting, as we explained in great detail here...

Simply put, if the CNY keeps going (whether by PBOC hand or a break of the virtuous cycle above), then things get ugly fast...

How Much Is at Stake?
In their previous note, MS estimated that US$350 billion of TRF have been sold since the beginning of 2013. When we dig deeper, we think it is reasonable to assume that most of what was sold in 2013 has been knocked out (at the lower knock-outs), given the price action seen in 2013.

Given that, and given what business we’ve done in 2014 calendar year to date, we think a reasonable estimate is that US$150 billion of product remains.

Taking that as a base case, we can then estimate the size of potential losses to holders of these products if USD/CNH keeps trading higher.

In round numbers, we estimate that for every 0.1 move in USD/CNH above the average EKI (which we have assumed here is 6.20), corporates will lose US$200 million a month. The real pain comes if USD/CNH stays above this level, as these losses will accrue every month until the contract expires. Given contracts are 24 months in tenor, this implies around US$4.8 billion in total losses for every 0.1 above the average EKI.

And clearly the hedging of those losses is underway en masse... (the size of the circles is the notinal being hedged - we have highlighted a few for context) as it is clear, hedgers are concerned that CNY would weaken to 6.65 or beyond by the end of the year

The escalation of the unwind in recent days suggests the vicious circle is beginning.

Finally, putting aside speculative trader P&L losses, many of which are said to be of Japanese origin and thus will hardly enjoy much or any PBOC sympathies, here is CLSA's Russel Napier on what the long-tern fate of the Renminbi will be:

“Mercantilist alchemy transmutes China’s external surpluses into foreign exchange reserves and renminbi. But with capital outflows from China at record highs, those surpluses are only maintained due to its citizens’ foreign-currency borrowing. Bank-reserve and M2 growth are already near historical lows and are driving tighter monetary policy. This will lead to severe credit-quality issues and force the authorities to accept a credit crunch or opt for a major devaluation of the renminbi. They will do the latter; and despite five years of QE, the world will get deflation anyway.”

CHINA - Problems in the Target Redemption Forwards Derivatives market & Dim-Sum Bonds

Yuan Continues Slide, and It Hasn't Hit Bottom 04-25-14 WSJ

The tumble in China's yuan is showing no signs of letting up, with the currency falling near daily for three straight months as the economy slows, fueling fears that the slide has further to go.

The yuan has dropped 3.4% against the dollar since the end of January to a 16-month low, more than double the previous three-month decline seen two years ago, when investors retreated from risky markets amid the depths of the European debt crisis. In the offshore market, where the currency is freely traded, the yuan is falling at an even faster pace.

• Beijing had originally engineered the slide to thwart short-term speculators, betting the yuan would keep going up, and to prepare the market for bigger two-way swings.
• But the currency's decline has kept up even as the central bank has in recent days set a morning guidance rate stronger for the currency and that typically sets the direction for the currency, showing the strength of market forces.

"A depreciating renminbi is symptomatic of a faster slowing economy and it can depreciate further," RBS currency strategists said in a research note, forecasting the yuan to drop a possible 2.3% from here.

The unexpected fall is triggering even bulls like HSBC, the biggest foreign bank in China, to reduce their expectations for yuan gains. On Friday they predicted the yuan would trade at 6.14 a dollar at the end of the year, compared with an old estimate of 5.98. A high number means a weaker yuan, with the currency at 6.2536 Friday. On Friday, the yuan dropped as much as 1.6% from the so-called parity rate, a daily peg for trading of the yuan against the U.S. dollar set by the central bank, the widest gap ever. The decline also threatens to worsen tensions with trading partners like the U.S. who are pushing China to allow the currency to appreciate further, even after a more than 30% climb since 2005.

Much of the fears of global money managers on China are focused around the country's

1. slowing growth,
2. piling debt and
3. mounting default risks.

Investors yanked $275 million from China equity funds this week, the biggest outflow in Asia according to data from ANZ and EPFR Global.

While the currency fall is a boon for exporters, it also brings financial risks. This week the yuan in the onshore and offshore markets breached 6.25 a dollar, a significant psychological level where analysts estimate billions in dollars of highly leveraged derivative products known as "target redemption forwards" could turn sour as the yuan unexpectedly falls.

Geoff Kendrick, head of Asian foreign-exchange and rates strategy at Morgan Stanley, estimated that mark-to-market losses on these structured products now amount to around $4 billion.

"Corporates buying [target redemption-forward products] are losing money. But almost no one is unwinding. They believe [yuan will rebound] again, increasing chances that they will make it back later on," Mr. Kendrick said.

Other casualties of the currency's fall include funds investing in so-called dim-sum bonds, or yuan-denominated bonds issued outside China, which were top performers among Asian peers last year because of the currency's then resilience. This year they've reversed course and fallen an average 1.7% so far this year, according to Morningstar.

"There's near-term pressure on the yuan, but the dim sum bond market isn't too panicked by and large, because China's fundamentals—trade surplus and higher interest rates—still support its currency. And investors remain calm and stable," said Pheona Tsang, head of fixed income at BEA Union Investment Management Ltd. in Hong Kong, with $6 billion in assets under management. Its yuan bond fund recorded a 0.5% loss in the last two months, according to Morningstar.

Analysts and economists expect the yuan to continue sliding, with ING and CIBC forecasting it to touch 6.3 per dollar, which will be its weakest since September 2012 and will mark a close-to-4% tumble in the currency this year, which would be unprecedented.

"We're now looking at the scenario [that the] yuan is no longer a one-way appreciation bet," said ING Asia  economist Tim Condon. "With the band widening, the authorities aimed at adding more two-way risks in the currency's trading and they are very serious about that."

CHINA -Absence Of A Letter Of Credit!

The Scarlet Absence Of A Letter Of Credit 04-26-14 Mark St.Cyr via ZH

If there’s one thing we all know about banks and bankers: they love to tell tales in public of how much they value their customers. However, what you’ll never hear them profess in private: is how much they trust them. Although one may think that’s unseemly, believe it or not there is another entity banks hold at an even lower tier. Other banks.

One of the known facts people remember about the melt down in 2008 (as opposed to general public) was when the banks no longer trusted each other, and what they earlier claimed was “collateral” wasn’t actually worth what it was stated to be.

Credit default spreads (CDS) were supposedly the insurance to negate valuation concerns. But when the banks felt CDS weren’t worth the paper they were written on, not only did they operate in a fashion reminiscent of cutting their noses off to spite their faces, but rather they began cutting visible ties (and/or appendages) to other banks.

The blinding issue with all that took place during that period is the speed in which it all took place. Once it seemed one bank (regardless of size) was not going to be able to make good on a promise of clearing, near overnight the banks regarded any and all collateral at a discount. This fed on itself to where even once valued pristine collateral such as hard materials let alone paper began to be not only discounted, but prices slashed at such discounts that would make a blue light special at K-Mart™ blush.

So when I read the following article on Zero Hedge™: How China’s Commodity-Financing Bubble Becomes Globally Contagious.  My blood ran cold. The implications of this development and the consequences it portends just might make it the proverbial “canary in a coal mine.”

The underlying issue that makes this far more dangerous or different from times past is three-fold.

First: The idea of the need to send a perishable product overseas to another country that operates in a differing court system without the only document that gives one a chance of a “guarantee of payment” is not something to be taken lightly. As a matter of fact, it should be looked upon as a move of desperation.

Second: If that commodity is both a readily needed or used product, the immediate resale by the receiving party (especially if they themselves are in trouble) may sell it off at a steep discount. And yes, I’m implying less than what they are being billed for.

For if the receiving party needs cash, and you don’t have anything backing payment, i.e., Letter of credit (LOC.) Than it’s free money to do with as they please until you can get them into court – if you can at all.

Why would one pay full price (or even think they should) when pennies on the dollar will now be the opening settlement offer in any negotiations?

Third: The commodity itself is well-known, and has been publicly reported as being used as a collateral for cash strapped real estate developers in China. This last point is probably the most troubling of them all, and where the real issues might come about.

Here’s a scenario many are missing yet, is highly plausible. If bankers once again (for any reason) don’t believe they’ll get paid, while also concluding what they have on their books once again as collateral (since housing is a sunk line item now) can possibly deteriorate in value faster than a foreclosed building in Detroit. All bets are off.

A vicious cycle begins something akin to this… (Yes this example is an oversimplification, but the implications are not.)

The commodity producer is leveraged up and is either fully, or has over expanded needing to produce X at a rate consistent with structures and costs. The banks (markets, etc.) base their loans for operating expenses on sales, and value of on hand inventory. All rudimentary stuff.

If the collateral backing the loans for operating expenses are mostly the refined product itself, and that product is a commodity, then both the product along with its value are at the mercy of a perishable overhang. e.g., The product can spoil, or the price can plummet via oversupply, etc. But the one thing it can’t do that’s possibly worse: is sit on a producers site, books, or more, indefinitely.

The only way to turn that product into useable cash is to sell it. And here is where things get a little tricky. For what a sale “is” as to open or allow funds to be allocated to the producer for operating expenses, can sometimes have more in common with that other famous distinction of what exactly, “is” – is.

If you’re a company and producing X where LOC’s are the requisite detail of paperwork that can not be overlooked or forgone, and is standard operating procedure for the industry, and you deviate from these expected practices: it sends signals that not only something may be wrong, but quite possibly something far worse. i.e., An act of desperation.

Imagine yourself as if you owned the commodity and it were beginning to either pile up in excess inventory. Or, you had tentative sales yet, they were unable to come to fruition for lack of a LOC. What would you do?

Well, if you hold onto the product and let it sit it begins to lose value via market forces. Second, your lender values you product as collateral less and less via those same market forces squeezing you even more. So do you sit idle and let the chips fall where they may? Or, do you send it off in hopes of getting paid?

If you send it off it’s entirely plausible on your own books it will still remain as a “sale” and it keeps the demand narrative intact, reduces inventory, and helps in keeping production quotas all in check – for the time being. Keeping the spigots of operating revenues flowing. (Hopefully giving breathing room so fallacy can turn back into reality)

However, at issue is also the recipient of the product, For either A:  They didn’t want or need it. Or B: (which is far worse) Need it, but can’t pay for it.

If that customer is honorable, they might just receive the product as an early shipment, store it, and state never do it again or they’ll drop you. Yet, they’ll penalize you by paying for it only when they actually would have ordered it to begin with. Regardless of when that date may fall. That’s the most wishful (and probably unicorn/rainbow treatment) of an outcome one could hope for.  Yet things usually don’t happen that way do they?

Let’s use the guise that’s turned a blind eye by the so-called “smart crowd” across the financial media, and look at the recipient of that product as someone being squeezed by their centralized government in an effort to dampen a real estate bubble. Couple this with the tenacity as to not give into outside pressures as to “inject liquidity” at others promptings.

If the product is received by someone desperate of needing cash, than the first thing they’ll do with that product is whatever it takes to turn it into just that. And just like a drug sick shoplifter will sell any highly valuable stolen product for 50 cents on the dollar, so to will a credit induced financial addict with the overwhelming overhang of needing to supply a “credit fix” to their portfolio.

As devastating as the above scenario can play out there’s another just as plausible and actually more probable. This is where the ruthless play. And these players make banker on banker squabbles look like a kinder-garden recess.

To them: You shipped it without a LOC? Shame on you. Let’s start the bidding of you possibly ever see payment at a 50% discount today. If you don’t answer by the close of business today, it goes down even more.

Think they’re not serious or want to call their bluff? No problem, they begin by informing you that you can easily reload it onto your boat if you want. But, just to let you know, it’s no longer stored where it was off loaded. It’s now at X, or Y, or Z, or had been sold immediately on arrival. Oh and by the way, they were just informed the people they sold it to, don’t seem to have any money now either. Credit crunch is taking its toll your informed. (what a coincidental shame, who’da thunk it?)

Oh and by the way, it seems they’ve just instituted a new 90 day (or longer) advanced scheduling process, along with other “added expenses” that will need to be paid before you can get your product back.

They’d love to put you at the front of the line however, you’re notified there’s a lot of corruption taking place on the docks and even they can’t jump in line without paying.

By the looks of it, the farther one tries to work this out, it seems it just might cost you more to get it back than it was to ship it. Huh, funny how that happens. Well call back later they’ll say, and see what progress can be made as to rectify this for you. Click.

If you think things like this don’t happen, I have some ocean front property in Kentucky I would love to sell you.

Now take into account where the back half of the storm shows its presence throughout the commodity complex itself. (all hypothetical of course)

Suddenly the market becomes aware that company X is dumping your commodity onto the open market for say a 20% discount. That in turn spurs other producers or holders to begin offering their own discounts. As they do, the bastardized market (because without a LOC they’re in essence dumping) they begin dumping even more – for less.

That in turn pushes market forces in a downward spiral, which in turn reduces the value of everyone’s inventory leading into a black hole of who can discount faster. Which in turn begins in alerting “the lenders” to begin questioning any and all “sales” on clients books, and what they truly represents. Only to then find those “sales” were nothing but wishes and hopes. For without a LOC, what are they?

One doesn’t have to look all that far back in time to see just how fast the impact of any cuts, or implosion of credit lines by the banks can decimated businesses. Yes the 2008 crisis showed when they no longer trusted each other. However, “The Savings and Loan Crisis” of the 1980′s should remind every one of just how fast this can take place along with its consequences for Main Street.

Anyone that ran a credit line based business during that period remembers all too well the many businesses that were shuttered were not for a lack of business, but by the head spinning quickness LOC’s or lines of credit for operations were both changed as well as cancelled. This one could do the same but have far more reaching implications.

Over the last few years since the financial melt down of 2008, we have seen what many have believed are precursors that may tip the hand of markets as to show just how unhealthy this levitating act fueled by free money has become.

And yes there are always false indicators, and we all know correlation doesn’t equal causation. And even more may shrug and think, “No letter of credit, so what.” However, if there were ever a canary in a coalmine worth noting this is one not to let one’s eyes to divert from.

The issue at hand is not just the foolishness of the absence contained in a one off LOC gamble some company would take. Far from it.

It’s the desperation that could be hidden that’s a precursor one has to watch for. For the amount of desperation, or the degree that might be hidden beneath the surface to which a commodity will be sent overseas to another country, a country for all intents and purposes is using that very product as a pseudo currency to back other financial obligations without the requisite document to be paid; is mind numbingly dangerous in its implications in my view

CHINA - China Cracksdown on Commodity Credit

Iron Ore Prices Tumble As China Crackdown Begins 04-28-14 Zero Hedge

After the initial crash in many of the commodities backing China's shadow-banking system's ponzi, levels recovered modestly as rumors were spread of bailouts, stimulus, and in fact the exact opposite of what the Chinese government had declared it was trying to do. That ended for Iron Ore this weekend when, as The FT reports, China announced plans to get tougher on loans for iron ore imports as concerns grow that steel mills are using import loans to stay afloat in defiance of policies to reduce overcapacity in heavily polluting and lossmaking industries. Iron Ore prices tumbled overnight, closing near the lowest levels since Sept 2012 as it appears the PBOC and CBRC are serious and set to implement the tougher rules on May 1st.

As The FT reports, The China Banking Regulatory Commission warned banks to tighten controls over letters of credit for iron ore imports in a document that caused iron ore futures in China to drop 5 per cent on Monday. Rumours of the stricter measures, which are expected after the May 1 holiday, have been circulating in China for at least two months, after a hasty stock sale caused ore prices to tumble in late February.

Steel mills and traders have used iron ore imports to raise money as other sources of credit dry up, in yet another channel for off-book or “shadow” financing.

...

Chinese firms have developed a number of creative channels for raising money thanks to years of capital controls meant to starve the real estate sector of speculative funds. But the bulk and difficulty of transporting iron ore makes it a cumbersome material for raising money, limiting its flexibility as a financing tool compared with copper or gold.

But it's clear, the mills are unable to stop for fear of what the consequences are...

Data from the first quarter of the year show that China is on track to produce 822m tonnes of steel this year, a rise of 5.5 per cent from last year’s output, despite the rising debt levels, increased financing costs and the prospect of more environmental regulation.

...

Regulators are worried that the collapse of a heavily indebted mill could endanger a chain of local bank branches and even local governments, since steel mills are often the largest employers, taxpayers and debtors in their area. A case in point is Haixin Steel, also known as Highsee, which the local government in Shanxi province is trying to save.

...

The extra capacity flies in the face of a political campaign to close some polluting plants in Hebei province, which surrounds Beijing, to meet targets meant to reduce pollution around the capital. The trade-off for Hebei, which fears the loss of jobs and local tax income, is greater regional integration with Beijing and Tianjin, a large northern port city.

And therefore...

China plans to get tougher on loans for iron ore imports as concerns grow that steel mills are using import loans to stay afloat in defiance of policies to reduce overcapacity in heavily polluting and lossmaking industries.

The major problem, of course, is any restriction or tightening is necessarily lowering the price of the iron ore... thus reducing the value of collateral and thus worsening credit conditions in a vicious circle as firms can borrow less and less actual Yuan against  their inventory at a time when cash flows are becoming increasingly negative from demand collapse

CHINA - Falling Yuan

Chinese Currency Collapses To 18-Month Lows; Nears PBOC Limits 04-30-14 Zero Hedge

After widening its tolerance for real world volatility mid-March, the PBOC has faced a daily battering of USD buyers and CNY sellers which have driven the Chinese currency to its weakest level in over 18 months. However, things are starting to become problematic... while call buying and hedging is exploding - as carry traders and local specs rush to cover exposures, Bloomberg notes that Morgan Stanley fears as the yuan approaches the lower end of PBOC’s permissible daily trading range, anticipated intervention to defend band could put other currencies under selling pressure. The last time - Summer 2012 - that the PBOC defended its currency, EUR came under selling pressure but as Morgan Stanley notes, “In the very unlikely case” of PBOC not defending band, FX volatility would surge globally with implications going beyond RMB as markets would assume China’s economic problems might be significant... whocouldanode?

The Yuan is now trading 1.8% below (above on the chart) its fixing and near the 2% band limit the PBOC expanded to in March...

Bloomberg reports that as yuan approaches lower end of PBOC’s permissible daily trading range, anticipated intervention to defend band could put currencies under selling pressure, helping USD, Morgan Stanley says in note.

CNY at 6.2659 now, trading 1.8% below today’s fixing at 6.1580; PBOC widened daily trading band to 2% on either side of fixing in March

...

When a similar situation occurred in June-July 2012, PBOC used $80b of reserves to defend band and, as this operation required China’s reserve managers to sell currencies to boost USD intervention fund, EUR came under selling pressure then, MS says in client note today

...

MS says it is more likely that China will seek controlled devaluation, pushing USD/CNY fixing higher, allowing CNY to drift lower within the band; this would be USD-positive

But “In the very unlikely case” of PBOC not defending band, FX volatility would surge globally with implications going beyond RMB; markets would assume China’s economic problems might be significant, putting commodity currencies at forefront of global selling interests

What could given them that idea!!??

US GROWTH - Q1 2014 GDP

In their first estimate of the US GDP for the first quarter of 2014, the Bureau of Economic Analysis (BEA) reported that the economy was growing at an anemic 0.11% annualized rate. When compared to prior quarters, the new measurement is down over 2.5% from the 2.64% growth rate reported for the 4th quarter of 2013, and it is now more than 4% lower than the 4.19% reported for the 3rd quarter of 2013 -- indicating that the deceleration in the growth rate first noticed last quarter has both continued and sharply intensified.

Commercial activity was especially hard hit: exports led the collapse, and commercial investments and inventories also weakening significantly. Fixed investments in both equipment and residential construction contracted sharply. Government spending also contracted, primarily in Federal defense spending and state and local governmental infrastructure investment.

Consumer spending for services provided the only significant growth, with outlays for non-discretionary healthcare, housing, utilities and financial services all increasing. Spending on consumer goods was essentially flat even though household savings rates dropped once again.

Real annualized per-capita disposable income grew by $112 during the first quarter (although it is still $204 per year lower than it was during the fourth quarter of 2012), while the household savings rate shrank again to 4.1% (down -0.8% from the 4.9% in the prior quarter and down -2.5% from the fourth quarter of 2012). The reduced savings rate was an budgetary necessity -- given that spending on non-discretionary services (including healthcare) increased substantially faster than disposable income.

And lastly, for this report the BEA assumed annualized net aggregate inflation of 1.30%. During the first quarter (i.e., from January through March) the growth rate of the seasonally adjusted CPI-U index published by the Bureau of Labor Statistics (BLS) was a full half percent higher at a 1.80% (annualized) rate, and the price index reported by the Billion Prices Project (BPP -- which arguably reflected the real experiences of American households while recording sharply increasing consumer prices during the first quarter) was over two and a half percent higher at 3.91%. Under reported inflation will result in overly optimistic growth data, and if the BEA's numbers were corrected for inflation using the BLS CPI-U the economy would be reported to be contracting at a -0.38% annualized rate. And if we were to use the BPP data to adjust for inflation the first quarter's contraction rate would have been a staggering -2.50%.

Among the notable items in the report:

-- The contribution of consumer expenditures for goods to the headline number decreased to an essentially flat 0.08% (down a substantial -0.58% from the 0.66% contribution in the prior quarter).

-- The contribution made by consumer services spending increased sharply to 1.96% (up 0.39% from the 1.57% in the prior quarter). The increased spending was primarily for non-discretionary healthcare, housing, utilities and financial services.

-- Commercial private fixed investments contracted, reducing the headline number by -0.44% (after having adding 0.43% during the prior quarter). The contraction was led by reduced outlays for IT equipment, transportation equipment and residential construction.

-- Inventories are now reported to be contracting sharply -- subtracting -0.57% from the headline growth rate (down -0.55% from the prior quarter). The first three three quarters of 2013 had seen substantial inventory growth that had boosted the reported annualized growth rate by an average of 1%. We might expect a corresponding multi-quarter contraction to "normalize" inventory levels.

-- Reduced governmental spending removed an aggregate -0.09% from the headline number. The Federal government "shutdown" is now in the prior reporting quarter (i.e., 4Q-2013), and a modest bounce-back in Federal non-defense spending added 0.2% to headline number that was more than offset by contracting defense spending and shrinking state and local infrastructure investments.

-- Exports swung dramatically from adding 1.23% to the overall growth rate in 4Q-2013 to subtracting -1.07% from the headline number in the new report (a swing of -2.30%). Export growth had been one of the bright spots of 2013 -- even as the economies of many of our trading partners softened. That source of growth appears to have abruptly ended.

-- Weakening demand for imports actually added 0.24% from the headline number (after subtracting -0.24% in the prior quarter -- representing nearly a full half percent improvement). However, weakening demand for imports is not necessarily a good economic omen.

-- The annualized growth rate for the "real final sales of domestic product" dropped sharply to 0.68% (down nearly 2% from the 2.66% in the prior quarter). This is the BEA's "bottom line" measurement of the economy -- and it remains stronger than the headline number because of the contraction in inventories.

-- And as mentioned above, real per-capita annual disposable income grew by $112 during the quarter (a 1.22% annualized rate). But that number is still down a material -$204 per year from the fourth quarter of 2012 (before the FICA rates normalized) and it is up only about 1% in total ($382 per year) since the second quarter of 2008 -- some 23 quarters ago.

Summary and Commentary

There are a number of disturbing items in this report:

-- Even at first glance this is not a good report. Although the headline number itself says "stagnation," in the context of earlier reports it shows an economy in dynamic transition from lackluster growth towards outright contraction. The overall headline number is down 2.5% from the prior quarter and down 4% from the next earlier quarter. These are significant changes, with the prior quarter's trend extended and the downward slope intensifying.

-- Private commercial investment dropped substantially, led by reduced outlays for residential construction, transportation equipment and IT infrastructure.

-- The year-long 2013 cycle of inventory building has come to an end. Over an extended time period inventories are mostly a cyclical zero-sum game, with excessive growth or contraction over any period being corrected (i.e., reversed) during a subsequent period. Moving forward we should expect that inventories will continue their cyclical contraction, with negative consequences to the headline number.

-- Collapsing exports are likely confirming a weakening global economy. If so, exports are unlikely to provide the same kind of growth boost that they have provided during 2013, when they grew at about twice their historic rate.

-- A positive contribution to the headline growth rate from imports is historically an inverse growth indicator, since it is usually a consequence of reduced domestic demand (e.g., positive import contributions were particularly notable during 2008 and early 2009, and again during the overall weak 4Q-2012).

-- The Federal government's "shutdown" subtracted roughly 1% from the fourth quarter's reported growth rate. Since it is likely that some part of the reduced spending was actually only deferred (rather than foregone), we had expected a sharp "bounce-back" in Federal spending in 1Q-2014. While that did occur to some extent in the non-defense portions of the Federal budget, it was offset by ongoing cutbacks in defense spending and shrinking state and local expenditures on infrastructure.

-- Although real household income improved somewhat (at a respectable real 1.22% annualized rate), it is still below levels seen in the fourth quarter of 2012. It bears repeating that total aggregate real per-capita income growth since the second quarter of 2008 has been just 1.04% -- an average annualized growth rate of just 0.19% during the entire "recovery." The household savings rate is down over 2.5% since the fourth quarter of 2012, and it remains well below the historical long term savings rate.

-- The growth in consumer spending was caused by increased household costs for non-discretionary services -- healthcare, housing, utilities and financial services (e.g., rising interest rates). Spending on goods remained essentially flat, with the "growth" in consumer services spending coming once again mostly out of savings -- which is unsustainable over the long haul.

-- Most of the increasing spending on services was channeled/transferred to large-cap corporate America. Discretionary spending at shops on "Main Street" America -- the quickest source of economic growth or new jobs -- is under renewed (and probably unrelenting) pressure.

-- The headline growth rate is likely enhanced by an understatement of inflation. Even using BLS data to "deflate" the nominal data results in a contracting headline number, while using data from the BPP to deflate the data results in an eye-opening -2.5% contraction rate.

Enjoy this (barely) positive headline number while it lasts. Even if it survives the next two months of revisions, the economic momentum signaled by the past two quarters will likely carry the headline number into the red in the very near future.

US ECONOMY - The Proof of the Death of the American Middle Class

17 Facts To Show To Anyone That Still Believes That The U.S. Economy Is Just Fine 04-30-14 Michael Snyder of The Economic Collapse blog, via ZH

Things are definitely not getting better, and there are a whole host of signs that this bubble of false stability will soon come to an end and that our economic decline will accelerate once again.

#1 The homeownership rate in the United States has dropped to the lowest level in 19 years.

#2 Consumer spending for durable goods has dropped by 3.23 percent since November.  This is a clear sign that an economic slowdown is ahead.

#3 Major retailers are closing stores at the fastest pace that we have seen since the collapse of Lehman Brothers.

#4 According to the Bureau of Labor Statistics, 20 percent of all families in the United States do not have a single member that is employed.  That means that one out of every five families in the entire country is completely unemployed.

#5 There are 1.3 million fewer jobs in the U.S. economy than when the last recession began in December 2007.  Meanwhile, our population has continued to grow steadily since that time.

#6 According to a new report from the National Employment Law Project, the quality of the jobs that have been "created" since the end of the last recession does not match the quality of the jobs lost during the last recession...

• Lower-wage industries constituted 22 percent of recession losses, but 44 percent of recovery growth.
• Mid-wage industries constituted 37 percent of recession losses, but only 26 percent of recovery growth.
• Higher-wage industries constituted 41 percent of recession losses, and 30 percent of recovery growth.

#7 After adjusting for inflation, men who work full-time in America today make less money than men who worked full-time in America 40 years ago.

#8 It is hard to believe, but 62 percent of all Americans make $20 or less an hour at this point.

#9 Nine of the top ten occupations in the U.S. pay an average wage of less than $35,000 a year.

#10 The middle class in Canada now makes more money than the middle class in the United States does.

#11 According to one recent study, 40 percent of all Americans could not come up with $2000 right now even if there was a major emergency.

#12 Less than one out of every four Americans has enough money put away to cover six months of expenses if there was a job loss or major emergency.

#13 An astounding 56 percent of all Americans have subprime credit in 2014.

#14 There are now 49 million Americans that are dealing with food insecurity.

#15 Ten years ago, the number of women in the U.S. that had jobs outnumbered the number of women in the U.S. on food stamps by more than a 2 to 1 margin.  But now the number of women in the U.S. on food stamps actually exceeds the number of women that have jobs.

#16 69 percent of the federal budget is spent either on entitlements or on welfare programs.

#17 The number of Americans receiving benefits from the federal government each month exceeds the number of full-time workers in the private sector by more than 60 million.

Taken individually, those numbers are quite remarkable. Taken collectively, they are absolutely breathtaking.

In the real economy, the middle class is being squeezed out of existence.  The quality of our jobs is declining and prices just keep rising.  This reality was reflected quite well in a comment that one of my readers left on one of my recent articles...

It is getting worse each passing month. The food bank I help out, has barely squeaked by the last 3 months. Donors are having to pull back, to take care of their own families. Wages down, prices up, simple math tells you we can not hold out much longer. Things are going up so fast, you have to adopt a new way of thinking. Example I just had to put new tires on my truck. Normally I would have tried to get by to next winter. But with the way prices are moving, I decide to get them while I could still afford them. It is the same way with food. I see nothing that will stop the upward trend for quite a while. So if you have a little money, and the space, buy it while you can afford it. And never forget, there will be some people worse off than you. Help them if you can.

And the false stock bubble that the wealthy are enjoying right now will not last that much longer.  It is an artificial bubble that has been pumped up by unprecedented money printing by the Federal Reserve, and like all bubbles that the Fed creates, it will eventually burst.

None of the long-term trends that are systematically destroying our economy have been addressed, and none of our major economic problems have been fixed.  In fact, as I showed in this recent article, we are actually in far worse shape than we were just prior to the last major financial crisis.

ENTERPRISE VALUE - Falling EBITDA and Free Cash - Buybacks and Dividents Bleeding Cash

PATTERNS - Nasdaq Leading the Way Towards June Market "Death Cross"

As expected the higher risk stocks are leading the way (Read: Risk is Leaving the Market)

MOMENTUM LEAVING THE MARKETS

CREDIT MARKETS ARE WARNING

"There is no freedom without noise - and no stability without volatility."

FINANCIAL REPRESSION - EU Developments

EU: Financial Repression

According to John Rubino in the latest MACRO release, the EU is being penalized and disadvantaged for attempting a more prudently sound Monetary Policy. Unfortuanately the old adage of "Bad Money forcing out Good Money" is occurring and will force the ECB to soon succumb to the pressures of the other, even more monetary spendthrift, developed economies.

A positive current account and falling inflation has kept the Euro strong, which is now undermining further possible EU/ECB recovery efforts. Mario Draghi and the ECB have recently been very vocal that actions will soon need to be taken to weaken the Euro.

This has all the earmarks of escalating Currency Wars as Japan blatantly debases the Yen as a cornerstone of ABE-nomics and The Fed still prints at a rate of $55B/Month (Current TAPER rate).

With the "Baby Boomers" now retiring in Europe (much sooner than the US due to more generous entitlements), the massive unfunded and 'cash accounting' pension and entitlements programs in Europe are hitting fiscal operating budgets. There is little policy alternatives, without unprecedented social unrest, but to rapidly re-expand the money supply in an unsterilized fashion.

FINANCIAL REPRESSION

As a consequence, with little media coverage the EU is stepping up its policies of Financial Repression to combat the soon to explode "in budget" government debt levels which have previously been shrouded in government obfication and 'creative' accounting.

RACE TO DEBASE

We are now in a global "race to debase" as the developed nations debase their currencies to reduce debt burdens, while the emerging economies traditionally have debased their currencies to gain or maintain export led mercantilistic economic strategies.

We are left with the developed economies exporting inflation and the rest of the world exporting deflation. The balance is shifting and the question is which way will it tip?

FLOWS: Liquidity, Credit & Debt

For anyone who is interested in understanding my views on the global economic crisis, this is the video I would recommend watching, if I could only recommend one. In it, I am able to address almost all of the ideas I have tried to convey through my books and speeches over the past ten years. The pace is relaxed and the production quality is very good. It was filmed in a beautiful suite in the Trump Tower in Chicago.

The interview was organized, produced and conducted by Tim Verduin. Tim is the CEO of The Resilience Group, an insurance and financial services agency located in Crown Point, Indiana. I thought he asked all the right questions.

1 Hour & 2 Minutes Video

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