THESE ARE NOT RECOMMENDATIONS - ONLY MACRO COMMENTARY - Investments of any kind involve risk.  Please read our complete risk disclaimer and terms of use below by clicking HERE

US HOUSING - Housing Starts

US ANALYTICS - M&A Deal Activity

M&A heating up at elevated stock prices. What does history tell us about such a correlation? Its different this time?

PATTERNS - HY Credit Sending Clear Warnings of a Shift Underway

GLOBAL GROWTH - Few Are Paying Atttention to the Baltic Dry

What might the Baltic Dry tell us about a slowing Global Aggregate Demand Growth Rate? Few seem to care?

US GROWTH - America's Potential Growth Rate Is Barely Half What It Was 20 Years Ago

America's Potential Growth Rate Is Barely Half What It Was 20 Years Ago 07-20-14 Economist via BI

MONETARY POLICY - ECB v FEDERAL RESERVE

Real Shadow Policy Rate Shows Why Euro Has Been Resilient Versus U.S. Dollar

BLOOMBERG BRIEF: One of the major puzzles that FX analysts and traders have had to contend with in the past couple of years has been the surprising resiliency of the euro versus the U.S. dollar. Consensus forecasts have been calling for a steady weakening of the euro during the past two years, yet the euro has confounded the consensus by marching higher. This has forced the forecasting community to continually play catch-up and adjust their three-, six-, and 12-month forecasts accordingly.

On the surface, forecasters have had several good reasons to expect a steady weakening of the euro.

First, economic-growth expectations have been favoring the dollar versus the euro for some time. Euro area real GDP has been growing at or below a tepid 2 percent pace in each of the six years since the global financial crisis, and projections by private sector economists and the ECB are calling for growth rates of 1 to 1.8 percent for 2014-16. That would be nine consecutive years of sub-2 percent growth. In comparison, expectations are that U.S. real GDP growth will average upwards of 2.7 percent during the upcoming three years.

Second, the euro is estimated to be overvalued versus the U.S. dollar by around 15-16 percent on a purchasing power parity basis. While such an over - valuation reading is not overly excessive, it does suggest that the balance of risks should have been leaning in favor of a weaker euro, not a stronger one.

Third, on the interest-rate front, nominal yield spreads between the euro area and the U.S. at both the front and back ends have been moving in favor of the U.S., not the euro area during the past two years. The nominal 2-year yield spread has moved from a near zero reading to around 50 basis points in favor of the U.S., while the nominal 10-year yield spread has swung from a 30 to a 135 basis-point differential favoring the U.S. in the past two years. One would have expected such spread widening to favor the dollar versus the euro, but that failed to happen.

Why then has the euro proved to be so resilient?

One reason is that the trend in nominal yield spreads described above might not be fully capturing the degree of monetary-policy ease being pursued by the Fed relative to the ECB as policy rates in each of the economies reached the zero lower bound.

Two academics – Jing Cynthia Wu and Fan Dora Xia – have estimated “shadow” policy rates for the U.S. and euro area that capture the path the short-term policy rate would have taken, theoretically speaking, in response to central bank forward guidance and quantitative eas ing measures had those policy rates not been constrained by the zero lower bound ( http://faculty.chicagobooth.edu/jing.wu/ research/data/WX.html ). As shown in the chart above, Wu and Xia’s estimate of the Federal Reserve’s monetary policy stance – combining both conventional and unconventional measures – would have been about equivalent to a series of short-term policy rate cuts that would have pushed the Fed funds (shadow) rate down to around minus 3 percent if the Fed funds rate were free to move into nega tive territory.

The chart also suggests that the ECB’s policy stance has been far less accommodative – its shadow policy rate is shown to be presently hovering around zer percent, not all that different from today’s actual ECB policy rate. It should be evident that the nominal euro area-U.S. shadow policy rate spread has been following a far different path than the actual 2-year and 10-year spreads have taken. Looking at policy rates in real terms, the real shadow policy rate spread has moved even more in the euro’s favor in the past couple of years. This reflects the fact that the euro area inflation rate has fallen relative to the U.S. inflation rate. As shown in the chart (click to view chart), this suggests that much of the firmness in the euro’s value versus the dollar in recent years can be explained by the widening in the real shadow policy rate spread – a reflection of the (inappropriate) relatively tighter monetary policy stance being pursued by the ECB compared to the Fed. Looking ahead into the first half of 2015, a likely gradual move toward a less accommodative monetary policy by the Fed and the possibility of quantitative easing by the ECB could prove to be the catalyst for a trend reversal in the respec - tive shadow policy rates and thus in the euro’s fortunes.

CHECK OUT OUR PAGE DEDIATED TO FINANCIAL REPRESSION

The Financial Repression AuthorityTM

THESIS 2014: The Globalization Trap

THESIS 2013: Statism

THESIS 2012: Financial Repression

THESIS 2011: Beggar-Thy Neighbor

THESIS 2010: Extend & Pretend

Request FREE THESIS Passwords Access

COMING TO YOUR LOCAL BANK

BOE’s Carney Leads Push For Bail-Ins - China and Japan Against

Officials led by Mark Carney, the Bank of England governor, are attempting to bridge sharp differences among leading G20 countries as they prepare a landmark set of proposals aimed at tackling the problem of “too big to fail” banks according to the Financial Times today. Talks under the auspices of the global Financial Stability Board (FSB) over the summer are approaching a key stage as officials aim to clinch an agreement on bail-ins and the bailing in of creditors including depositors of banks.

The issue is of major consequence also to depositors who could see their savings confiscated as happened in Cyprus. Bail-ins are coming to banks in the western world with consequences for depositors. READ MORE

READ MORE

The real danger comes if central banks try to use macropru as a semi-permanent way to keep interest rates lower than normal, as Mr Napier fears. In this case investors will face a double setback: they will not be treated as part of the “real economy” deserving of funds, while state-directed allocation of assets has a terrible history of supporting duds, hurting growth.

The Bank of England has been flashing an amber light for months about the complacency shown by low market volatility, but in house-price obsessed Britain, mortgage excess is the focus of its worry. Last month it became the first of the major central banks to set out to try to control credit using non-monetary tools: in the jargon, “macroprudential measures”. Ms Yellen has been highlighting macropru as the first line of defence against bubbles for a while.

The problem SEEMS simple central bankers. Central bankers want money to lubricate the real economy, not to flow into pointless leverage of existing assets. Higher rates could reduce the incentives to leverage, but at the cost of damage to the real economy. Their solution is to set up barriers inside the banks to direct the flow.

If central bankers ever get serious about using macropru to control bubbles, it will mean limits on more than just mortgages. The obvious place to start is with the froth in junk bonds and the leveraged loans used by private equity houses. It is interesting, therefore, that the Fed’s monetary policy report last week emphasised that the central bank is “working to enhance compliance” with leveraged loan underwriting and pricing standards. If it becomes harder for private equity groups to gear up, they can afford to pay less to buy companies, cutting back one source of demand for shares. READ MORE

It is no secret that unlike other banks who, while directly intervening in the bond market only manipulate equity prices in relative secrecy (usually via HFT-transacting intermediaries such as Citadel), the Bank of Japan has historically had no problem with buying equities outright, traditionally in the form of REITs and equity-tracking ETFs. Which explains why overnight it was revealed that in order to boost the stock market, pardon, economy, the Bank of Japan is preparing to purchase exchange-traded funds based on the JPX-Nikkei Index 400 as an "option to boost the impact of unprecedented easing," according to people familiar with BOJ discussions.

Bloomberg reports that including funds that track the index would broaden the range of shares in the BOJ’s ETF purchases, and encourage companies to deploy cash for investment. That is the official storyline. It goes without saying that what the BOJ is really after is to generate further upside in the Nikkei225 which unlike other stock markets, is still notably in the red, because not only will the primary impetus behind QE - the wealth effect of the 1% - suffer, but also all those new billions in Japanese pension funds reallocated away from bonds and into stocks will continue to lose money. And the last thing the Abe cabinet, its popularity already flailing needs, is the realization that it has gambled the retirement funds of the locals on the biggest Ponzi scheme in Japanese history. READ MORE