FIG Topics of Interest



Because Paul Gruenwald had a front row seat for the Asia crisis, Bloomberg News asked for his analysis of the current selloff in emerging markets, which has rattled Argentina and Turkey and prompted other leading economists such as Carmen Reinhart to forecast a rocky period ahead.The current emerging market tensions reflect the stronger dollar and higher U.S. rates, both of which reflect a relatively strong U.S. economy. Countries with some combination of high external financing requirements, high U.S. dollar-denominated debt and large foreign investor pools will be most affected. Under the assumption that markets are discriminating across these vulnerabilities, there shouldn’t be a crisis.
Do strong underlying fundamentals matter if the market turns?

If markets are discriminating then EM countries with strong fundamentals should be OK. But that doesn’t always happen. However, such episodes of generalized, non-discriminating risk reduction should be short-lived so countries with good fundamentals –- including ample reserve buffers (see, for example, Korea in 2008-09) should be able to weather the storm.

Are you concerned about debt? If so, can you detail where?

The debt levels become more of a concern if funding conditions become tight and debt needs to be rolled over and/or rates rise more quickly than expected, which leads to debt servicing issues and less spending on other goods and services. We would need a much quicker pace of policy normalization -- a Fed-behind-the-curve scenario -- to see this happen.

s there a risk to central bank independence?

I don’t think so. Central banks may need to use some combination of higher on-shore rates and reserve drawdowns to help battle any storms. This does not necessarily compromise their independence, unless they are being ordered to do so by the government.

What’s your biggest concern? Who is most vulnerable?

We really don’t have a list of countries, but we do have a list of characteristics. We would note that in Asia Pacific, India and Indonesia –- two victims of the 2013 Taper Tantrum -– are better placed this time around with lower current-account deficits, although they have seen some modest pressures and Bank Indonesia did raise rates.

How would you describe overall conditions today versus 1997?

I see markets as much more discriminating as regards EM. In the old days we would see a generalized EM selloff, sometimes with significant collateral damage hitting countries that were well-run but lumped together with all emerging markets, good and bad. With much more and more timely information now available, it is a good thing that markets are more discriminating

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The number of vacancies is pulling well ahead of the number the Bureau of Labor Statistics counts as unemployed. This year is the first time the level of the unemployed exceeded the jobs available since the BLS started tracking JOLTS numbers in 2000.

As of April, the total workers looking and eligible for jobs fell to 6.35 million, a decrease from 6.58 million the previous month. The number fell further in May to 6.06 million, though there is no comparable JOLTS data for that month.

Under normal circumstances, the mismatch would be creating a demand for higher wages. However, average hourly earnings rose just 2.7 percent annualized in May, up one-tenth of a point from April.

"Given these trends, the sluggish wage growth rate is even more perplexing," said Cathy Barrera, chief economist at Zip Recruiter, an online employment marketplace. "If employers want to fill these 6.7 million job openings, they are either going to have to raise wages or find more clever and creative ways to recruit workers off the sidelines."

Employers have been complaining for years about a skills mismatch, or the inability to find workers with the right training for the positions available. In the meantime, companies are adding other incentives to retain workers and pull new ones in.

The total "quits" rate has been nudging higher this year and was at 2.3 percent in April, the highest since 2005 and above the 2.1 percent rate a year ago and the 1.3 percent bottom set in 2010. Barrera said the rate should be higher.

"While more people are getting into jobs, folks aren't moving around much once they do," she said. "Unfortunately, the lack of mobility means that employers face little pressure to raise wages. They just aren't competing over jobholders."

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Trade tensions between the U.S. and China are unlikely to be resolved by the existing architecture that governs world trade, according to Stephen Olson, Hong Kong-based Research Fellow at the Hinrich Foundation Ltd.

The world’s two biggest economies need to agree on a new framework that will allow both of their economic systems to co-exist, something the World Trade Organization doesn’t have the capacity to resolve, said Olson, who was a former U.S. government trade negotiator.
Are we in a trade war?

“As of today, we are not in a trade war, but I think the danger is certainly escalating.
The application of the steel and aluminum tariffs to the European Union and Canada and Mexico is certainly a very significant escalation and we are certain that those trading partners will retaliate. At that point, the question becomes will the U.S. administration retaliate against that retaliation.”

What kind of scenarios are you expecting?

“I would have to say that the current administration is arguably the most unpredictable administration in modern American history, so anyone who makes prognostications does so at their own risk. I would, however, point to a couple of scenarios. There is some speculation that at the end of the day this might actually be a negotiating tactic and in fact Secretary Ross made the comment to the effect that the reason the tariffs had to go into effect on Canada and Mexico was because there was insufficient progress in renegotiating NAFTA. So it remains to be seen, but that may actually be the end game here.”

Should trade balances be viewed as a score card?

“This is one of the most concerning aspects of Secretary Ross’s weekend visit to Beijing. The primary objective seemed to be to somehow negotiate down the size of the U.S. trade deficit with China. Doing so, unless the U.S. addresses its imbalance between savings and investment, will in all probability simply transfer that trade deficit from China to other countries and it would also get us dangerously close to the territory of managed trade. Trade negotiations should be about removing restrictions to cross-border access, it should not be about arbitrarily divvying up slices of market share.”

Can trade be viewed in a binary way?

“As the size and sophistication of China’s economy grows, its state directed model of capitalism is increasingly coming into conflict with the traditional Western model of free markets, free trade and a hands-off government approach to the market place, and what we are seeing now is that the rules of global trade are not really capable to help these two competing economic systems to get along.”

What kind of model is needed?

“Given the experience we had with the Doha round, I am not terribly optimistic that this is something that can be addressed within the context of the WTO. It might be more realistic for the U.S. and China to try to work out some kind of a modus operandi, some kind of framework that would let these two countries to continue their trade and investment partnership, because after all this has been a trade and investment relationship that has been very mutually beneficial. Now is the time really for the U.S. and China to figure out how can these two systems co-exist with each other, because it is clear both are here to stay.”

Would it be better to let sleeping dogs lie?

“Because of the size of China’s economy and its growing technological sophistication, I think these friction points are just going to increase in frequency, so I don’t think we can let sleeping dogs lie, this is an issue that has to be addressed.”

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The EU said it would take immediate steps to retaliate, while Mexico vowed to impose duties on everything from U.S. flat steel to cheese. Canada’s government announced it will impose tariffs on as much as C$16.6 billion ($12.8 billion) of U.S. steel, aluminum and other products from July 1.
House Speaker Paul Ryan attacked the decision in a statement, saying "today’s action targets America’s allies when we should be working with them to address the unfair trading practices of countries like China."

Canadian Prime Minister Justin Trudeau said the tariffs are an affront to the “long-standing security partnership” and to the Canadian and American soldiers who have fought and died alongside one another.

“We have to believe that at some point common sense will prevail, but we see no sign of that in this action today by the U.S. administration,” Trudeau said at a press conference.

European Commission President Jean-Claude Juncker, speaking in Brussels, characterized it as “a bad day for world trade,” adding “it’s totally unacceptable that a country is imposing unilateral measures when it comes to world trade.”

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Companies announced plans to cut 31,517 jobs in May, a 13 percent decrease from April, a private survey reported Thursday.

The 207,977 planned job cuts announced in 2018 is more than 6.2 percent higher than the same period of 2017.

"On average, job cuts are at their lowest in May and June. Companies typically make their
staffing moves at the beginning of the year or in the fourth quarter," CEO John Challenger said in a statement.

May's results held closer to April, which bucked the trend of increasing job cut announcements. Planned cuts hit a high in March, when the most job cut announcements were made in a single month in nearly two years.

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Several strategists say there is little chance the euro zone's third-largest economy will move to leave the single currency, creating a continent-wide crisis of confidence. But internal chaos and a new election could make for a rocky summer for markets and even put a dent in European economic growth.

Italy moved to the foreground as the latest source of angst for markets, after a weekend of drama in which President Sergio Mattarella on Sunday blocked the formation of a government that would have been decidedly against the euro.

The anti-establishment 5-Star Movement, Italy's biggest party, and the far-right League party picked euro critic Paolo Savona as their economy minister. The two parties, both critical of Europe's single currency, had won more than half the votes in March's parliamentary elections. Mattarella vetoed the choice and instead asked Carlo Cottarelli, a former IMF official,to form a temporary government, but both parties object to him, and a new vote is now expected in late July.

"The chaos in Europe is pushing down U.S. interest rates so money is flowing to the U.S., fleeing Europe, making people think, that [with falling interest rates], coupled with the rising dollar, that the Fed responds by maybe having second thoughts about the trajectory of Fed policy," said Marc Chandler, head of foreign exchange strategy at Brown Brothers Harriman. "It also is a risk to the real economy because Europe's a big trading partner."

"The Fed is going to raise in June, raise in September and then they're going to play it by ear," said Peter Boockvar, CIO at Bleakley Advisory Group.

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The European Union faces another existential crisis, and the European Central Bank will need to do whatever it takes to staunch it again. So far, it's showed little inclination. By letting the turmoil continue, it risks creating a full-blown conflagration.
Investors are taking fright at the threat that Italy could leave the euro. Yields on the country' two-year bonds have surged to more than 2.5 percent from minus 0.3 percent less than three weeks ago. The extra premium investors demand to hold Italian bonds over their German counterparts has jumped to the highest since 2013.

The contagion is starting to spread to Portuguese, Spanish and Greek governments bonds. Yields on the latter’s 10-year securities have surged 75 basis points this month — a move that, if continued, could put at risk Greece's smooth exit from its latest bailout in August.

If all this eerily resembles the sovereign debt crisis of 2011-2, that's because it does. Only the stakes are higher, given the size of Italy's debt. Mario Draghi was able to stem the first crisis by promising -- with the implicit support of Germany -- to do "whatever it takes" to save the euro. Since then, the ECB has amassed almost 2 trillion euros ($2.3 trillion) of European government bonds on its balance sheet.

Contrast that action with outgoing ECB Vice President Vitor Constancio's comments on Tuesday that "we will see what happens." Bank of Italy Governor and ECB governing council member Ignazio Visco has added fuel to the fire by saying Italy is always a "few short steps away" from losing trust. We are on that precipice now.

The best place to start may be those short-dated Italian bonds. The balance of supply and demand tilts should help. The country only has about 8 billion euros of two-to-three-year bonds to sell in 2018. More than 20 billion euros of redemptions and coupons will be paid back this week, more than outweighing the 6 billion euros of medium- and long-dated securities that will be sold on Wednesday. It's a similar picture for the rest of the year. 96 billion euros of issuance will be outweighed by a further 135 billion euros of maturities. With that cashflow, Italy could well buy back its own bonds.

The ECB has committed to reinvest its maturing government bonds. Until September at least, it is also committed to buying 4 billion euros of Italian bonds a month. And it can overbuy -- as it often has in the past two years.

It's highly likely the ECB will have to delay any debate about how it will end quantitative easing. The bond-buying program, due to end in September, will surely have to be extended and the prospect of QE continuing into 2019 now looks a real possibility.

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Iran expects oil exports to remain at current levels, continued access to international finance and the completion of contracts signed with European companies, according to the person, who asked not to be named in line with diplomatic protocol. The official spoke Friday in Vienna ahead of talks with Chinese, French, German, Russian and U.K. diplomats about the fate of the Joint Comprehensive Plan of Action, as the 2015 accord is formally known.
President Donald Trump’s May 8 order to exit the JCPOA, and reimpose U.S. sanctions, has cast doubt over whether the deal can survive, even as International Atomic Energy Agency inspectors continue to verify Iran is sticking to its part of the bargain. Friday’s meeting in the Austrian capital is the first step in the dispute resolution mechanismproscribed by the JCPOA that may lead to a meeting of foreign ministers in June.

The finance ministers from France, Germany and the U.K. are also scheduled to talk about Iranian measures on the sidelines of a European Union meeting in Brussels, according to participants. The EU pledged May 18 it would find ways to maintain the sanctions relief promised to Iran under the JCPOA.
While Iran is willing to allow Europe time to fill the vacuum left by the U.S., the official said his country is skeptical that the 28-nation bloc can exert its independence from Washington. French President Emmanuel Macron and German Chancellor Angela Merkel should have focused on building alternatives to the accord without the U.S. rather than appeasing Trump with potential compromises, the official said. Both leaders visited the White House in the days before Trump announced his decision in attempts to sway him.

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“It seems like they couldn’t agree on anything beyond the next meeting,” said Stephen Stanley, chief economist at Amherst Pierpont Securities LLC in New York. “They’re really, truly going to be taking this one meeting at a time.”
Inflation rose at the committee’s targeted pace of a 2 percent annual rate in March, yet officials were cautious on whether that was sustainable given that prices had been mostly below that goal for the past six years.

“It was noted that it was premature to conclude that inflation would remain at levels around 2 percent, especially after several years in which inflation had persistently run below the committee’s 2 percent objective,” the minutes said.

The commentary was somewhat unusual given the data in hand: unemployment at the lowest level in 17 years, wages gradually moving higher and the economic expansion apparently on a firm footing.

“There was very little concern about overheating and inflation overshooting too much,” said Julia Coronado, president of Macropolicy Perspectives LLC in New York. “There was more concern that the recent progress cannot be sustained.”

“They could have sounded a lot more optimistic about the economy, and confirmed expectations for four increases this year, but they didn’t do that,” said Michael Hanson, chief U.S. macro strategist at TD Securities in New York. “This is a committee that feels like it has been head-faked one too many times on inflation.”

“The closer you get to a normal monetary policy, the less agreement you’re going to have about continuing to slog along,” Stanley said. “I’m a little bit surprised that that discussion seems to be drawing so much disagreement already.”

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China will cut the import duty on passenger cars to 15 percent, further opening up a market that’s been a chief target of the U.S. in its trade fight with the world’s second-largest economy.

The Finance Ministry said Tuesday the levy will be lowered effective July 1 from the current 25 percent that has been in place for more than a decade, boosting shares of automakers from India to Europe. Bloomberg News reported last month that China was weighing proposals to reduce the car import levy to 10 percent or 15 percent.
“This is, without a doubt, positive news,” said Juergen Pieper, Frankfurt-based head of automobiles research at Bankhaus Metzler. “You can’t completely disregard the fact that there are certain imbalances in China’s favor. This could be a signal that if one side is making concessions, it could lead to the Americans easing some of their pressure as well.”

Beijing has also pledged to cut ownership limits in the auto sector as well as in banking, and last November reduced import tariffs on almost 200 categories of consumer products.
For his part, President Trump has retreated from imposing tariffs on billions of dollars worth of Chinese goods because of White House discord over trade strategy and concern about harming negotiations with North Korea, according to people briefed on the administration’s deliberations. In further evidence of an easing in tensions, China and the U.S. agreed on the “broad outline” of a settlement to the ban on China’s ZTE Corp. buying American technology after alleged sanctions infringements, the Wall Street Journal reported.

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