Macro

In this briefing:

1. Much Ado About Credit
2. Ten Years On – Asia’s Time Is Coming, Don’t Miss The Boat
3. UK Preview: Disinflationary Date for Dec-18
4. Anatomy of a Shutdown: Scenarios for an Outcome
5. Trade Talks/Commercial Spying/Cars ‘N Consumers/Easier Credit/Yuan Rise

1. Much Ado About Credit

• Global financing conditions could tighten further
• Credit demand is deteriorating; credit risks are rising; Eurodollar costs are edging higher
• A de-escalation in trade tensions and a Fed pause could ease the pain
• Will Fed recently turning more dovish (possible shift to slower QT & Fed rate cut in 2019?) + concomitant USD drift provide sufficient respite to put a floor under risk assets?

2. Ten Years On – Asia’s Time Is Coming, Don’t Miss The Boat

We noted in   Ten Years On – Asia Outperforms Advanced Economies Asia’s economies and companies have outperformed advanced country peers in the ten years to 2017.  Growing by 6.8%, real, through the crisis the region is 188% larger in US dollar terms while US dollar per capita incomes 170% higher compared with 2007. In this note we argue even though Asian stock markets have underperformed since 2010 and the bulk of global capital flows have gone to advanced countries, Asia’s time is coming. Valuations are cheap. Growth fundamentals strong. There are few external or internal imbalances. Macroeconomic management has been better than in advanced economies and the scope to ease policy to ward off headwinds in 2019 is greater. China has already started.

3. UK Preview: Disinflationary Date for Dec-18

• UK inflation has tended to disappoint expectations, and another 0.1pp downside surprise looks likely in the Dec-18 data. I forecast CPI inflation to slow by 0.3pp to 2.0% and for a 40bp loss in RPI inflation to 2.8% (index print at 285.8).
• The ONS is likely to use 11 Dec for its index day, which would mean it is using cheaper seasonal travel dates in its airfares survey. The Consensus tends to miss this effect and be surprised by it. My proprietary food price data were soft too.

4. Anatomy of a Shutdown: Scenarios for an Outcome

The Republican president and Democratic House of Representatives remain at loggerheads over a partial government shutdown.  This is not because their differences over a ‘border wall’ are unbridgeable – it is because their mutual enmity is feirce to the point of existential. 

For the first time since 2016, the democrats have a weapon (a House majority) with which to fight Trump.  Unfamiliar with the mechanics of divided government, Trump blundered by demanding wall funding.  The shutdown is unpopular and poll data shows that Trump garners the most blame; it therefore provides a boon to Democrats, who are content to hold firm, watch Trump suffer and hope that the affair finally depresses his approval rating below the 40-42 percent threshold. 

There are five apparent ways that the shutdown could come to a resolution.  These include one of the two sides capitulating, Republican senators defecting or Trump invoking emergency powers.  At this stage it seems more likely that a resolution will hinge on a deal involving a reduced amount of spending – but there will be extended wrangling over the details, including the definitions of “fence” versus “wall”.  Neither side is showing any initiative to compromise thus far, and the shutdown seems likely to continue. 

In these circumstances, the 800,000 Federal employees who lack paychecks are collateral damage.  The shutdown adversely affects certain services, especially in transportation and economic data collection, while impacting GDP by an estimated 0.1 percent every two weeks.  More generally, circumstances damage perceptions of the US and its ability to govern itself.  The strife will have achieved something if it debunks Trump’s doctrines and diminishes his appeal.  But it will exact a toll in the meantime in terms of depressed sentiment among consumers, traders and investors. 

Given Trump’s record to date and the dearth of relatively reasonable moderates left in his administration, continued frontal conflict with House Democrats appears likely to persist for the remaining two years of his term. 

5. Trade Talks/Commercial Spying/Cars ‘N Consumers/Easier Credit/Yuan Rise

China News That Matters

• Progress, yet trade war still morphing into tech war
• Economic espionage: US targets Chinese spying
• Tesla dreams big in China despite consumption fears
• Bank funding beckons for SMEs
• Yuan leaps as hopes fade for US rate hikes

In this briefing:

1. Differing Sino-US Agendas Undermine Global Growth Outlook
2. FLASH: UK Inflation Falling Fast over 2018 Yearend
3. The United States: 2019 Set Fair but Then?
4. Philippines: The Hanjin Scare
5. FLASH: Brexit Deal Defeated by 230

1. Differing Sino-US Agendas Undermine Global Growth Outlook

The fate of the global economy in 2019 will hinge on the willingness of China and the US to combat decelerating domestic growth via invoking appropriate policy support.

Given current fiscal backdrops, both China and the US have less capacity to ease policy to boost growth compared to the available monetary measures at their disposal.

Pressure is increasing on Beijing to aggressively cut taxes in March to stimulate growth, as well as structurally boosting consumption.

China’s consumers have become increasingly more discerning in their attitude towards foreign brands, partly due to the rise of credible local competitors.

The current economic and financial environment is somewhat reminiscent of 2016 when a deal between the Fed and China averted protracted economic and financial turbulence, but the current China-US nexus makes an accord in 2019 extremely unlikely.

China is unlikely to act again as buyer of last resort for the world economy courtesy of another credit binge, but policy will instead focus on stabilising growth at 6.0%-6.5%.

2. FLASH: UK Inflation Falling Fast over 2018 Yearend

• UK inflation disappointed consensus expectations for the RPI again in Dec-18 with its 0.5pp fall to 2.7% y-o-y (index at 285.6), while the CPI print was in line at 2.1%.
• Upside news in my CPI forecast was from food and airfares while the downside on the RPI was from the housing sector.

3. The United States: 2019 Set Fair but Then?

While Donald Trump amassed troops along the Mexican border in order to repel the migrant caravan from Honduras, it is really the caravan of policy problems lined up behind him that is more likely to disrupt his presidency. Fiscal promises relating to public-sector pensions, Medicaid and Medicare are set to grow exponentially over the coming years. And then there is the increase in nonfinancial corporate debt since 2010 which has been accumulated during a period of the most distorted capital-pricing in history. When the first wave of renewed economic problems hit all there will be to withstand them is, in the famous words of ex-Fed Chair Janet Yellen, “More of Plan A”. The next time around, and that time is coming soon, it is likely to prove to be a dud.

4. Philippines: The Hanjin Scare

• Knee-jerk market reaction to the disclosure last Friday (January 11, 2019) of Hanjin’s (Philippines) severe cash flow constraints including the local banks’ loan exposure, was understandable. However, the banks FCDU (foreign currency deposit unit) loan exposure of US$412mn (roughly Php21bn) to Hanjin was modest relative to the banking system’s FCDU (banks Hanjin loan exposure is about 1.1% of FCDU deposits), outstanding bank loans, capitalization ratios, etc. Officials of the big local banks have assured markets and investors of their financial ability to cover potential Hanjin loan losses. Banks consolidated NPL ratio is in the low, single-digit (1.8% in October 2018) that can easily absorb the FCDU hit.  

• Will the employment losses from Hanjin’s local subsidiary located in Subic bay, spawn regional demand-side risk particularly for Central Luzon—a key, emerging commercial/industrial hub in Luzon? Against recent regional GDP estimates (2016-17), we failed to detect any severe employment shock during the height of Hanjin’s job shedding. Down to 3,000 workers (peak of more than 30,000 in 2014-15), we have already been through the worst of the jobless impact of Hanjin’s business collapse. Central Luzon’s regional GDP grew by over 9% in real terms in 2017 and 2016 (vs national GDP growth of 6.9% in 2016 and 6.7% in 2017) despite the likelihood of Hanjin’s job losses. Central Luzon’s manufacturing output still managed to rise by 2-digit rates in 2016-17.On a per capita basis, Central Luzon’s per capita real GDP grew by close to 8% in 2016-17 despite perceived regional job market adjustments. Perhaps the fiscal stimulus programs including more infrastructure projects directed at the Central Luzon provinces allayed the worst of Hanjin’s macro shock.

• I believe the Hanjin event risk represents an opportunity to buy risk assets on any sustained adverse market reaction while safeguarding one’s liquidity position.

5. FLASH: Brexit Deal Defeated by 230

• The UK parliament rejected the Brexit deal by a historically substantial margin of 230 votes (432 vs 202). Presentation of a plan-B will probably occur on Monday.
• A vote of no confidence in the government will occur on 16 Jan. With eurosceptics and the DUP maintaining support, an early election should be avoided.
• Theresa May is signalling greater openness to opposition support, despite its unreliability, which the market has welcomed. A codicil that clearly clarifies the backstop’s non-permanence still looks like the most likely solution, in my view.

In this briefing:

1. 2019 Equity Market Outlook
2. Wanted: A 21st Century Monetary Theory
3. Vietnam: Economic Prestidigitation
4. India Policy Rates – Case For A Cut Builds
5. Widodo Prevails in 1st Debate / Reform Discussed / BI Holds Rate / Poll Margins Steady / PSI Emerges

1. 2019 Equity Market Outlook

• The equity market in the fourth quarter of 2018 was throwing off recession-like signals with the 19.8% drop in equity prices from the S&P 500’s all-time high through the near-term trough of December 24, 2018.  We see the decline as a correction from an overvalued position in late September rather than as point to an impending recession.
• Key to the outlook for equities and the economy are economy-wide profit margins (share of nonfinancial corporate profits in output).  It appears the balance between price increases and productivity-adjusted labor costs has improved as productivity has accelerated despite a pickup in the growth of labor compensation.  The corporate tax cut has spurred post-tax margins close to record highs.
• We expect nonfinancial corporate profit growth of 7% on average over the next two years, which should support equity prices.   However, the scope for a strong further rebound in equity prices is challenged by our outlook for rising corporate bond yields (our valuation model suggests rising profits and higher yields roughly cancel each other out in our valuation model). 

2. Wanted: A 21st Century Monetary Theory

The globe is facing more than an ordinary business cycle.

Joseph C. Sternberg, editorial-page editor and European political-economy columnist for the Wall Street Journal’s European edition, recently interviewed Claudio Borio, head of the Monetaryand Economic Department of the BIS. Mr. Borio said that politicians have relied far too much on central banks, which are constrained by economic theories that offer little meaningful guidance on how to sustain growth and financial stability. The only tool they have is an interest rate that can affect output in the short run but ends up affecting only inflation in the end.

3. Vietnam: Economic Prestidigitation

On Thursday 27 December 2018 the General Statistics Office (GSO) in Hanoi announced that Vietnam had grown by 7.08% (7.1% to us mere mortals) for full year 2018. Magically, this was exactly the same number as that forecast by the Asian Development Bank in April, long before the travails that affected the rest of the region in the second half of the year. It was also an outlier among economic forecasters (with the IMF in July projecting just 6.6% for last year). Even more magically, the GSO was able to produce this number just before the end of the year when, officially, money supply data were only available up to September and credit data to July. Hey presto, economic statistics are magic!

Truth be told, Vietnam is an object lesson in the worth of most macroeconomic statistics collected by governments at the insistence of the IMF: pinches of salt should be handed out with each release.

Economic data are manipulated around the world by governments. True economic conditions are apparent to anyone who is on the ground (which makes life difficult for fund managers who are not visiting countries they invest in regularly). And in Vietnam, after one day of meetings, we would conclude that, even if the 7.1% number is just pie-in-the-sky, economic growth and general economic conditions are very good.

4. India Policy Rates – Case For A Cut Builds

A cut in interest rates is coming. The case is compelling. Headline inflation is easing and is now running well below the RBI’s forecasts. System non-performing loans have peaked while the trade deficit is narrowing meaning the central can afford some largess. Given where real lending rates are and the fragility of the corporate profit cycle, lower policy rates would welcome and a positive of the India growth story. We reiterate our overweight Indian equities call.

5. Widodo Prevails in 1st Debate / Reform Discussed / BI Holds Rate / Poll Margins Steady / PSI Emerges

BI held its benchmark rate steady due to current account concerns; in any event, bank credit growth suggests that the economy has considerable momentum despite international headwinds and the 2018 rate hikes.  Widodo did enough to surpass Prabowo in the 1st of 5 presidential debates, although Prabowo avoided gaffes and both candidates lacked energy.  Dubbed a ‘dud’ in headlines, it at least featured constructive discussion of bureaucratic reform.  Widodo also promised a National Legislative Center to rectify conflicting and excessive regulation.   A Charta Politik poll shows steady margins for Widodo and PDI-P as of late December and the sole reform-minded party, the new PSI, finally registered support of 1.5%.  Planners remain at odds over a location for a downtown terminus of Jakarta’s elevated LRT — a project crucial for complementing the imminent MRT. 

Politics: Despite a critical domestic press reaction and a lack of sensational moments, the first presidential debate produced the most detailed high‑level discussion of bureaucratic reform in more than a decade.  Overall, President Joko Widodo fared better than his challenger, Gerindra Chair Prabowo Subianto, but both seemed lacking in energy.  Both also succeeded in avoiding pitfalls: Widodo’s running mate, the aging cleric Mar’uf Amin, caused no major embarrassment for the ticket; and Prabowo maintained an even temper with no unseemly rants.  The candidates traded barbs: Prabowo hit home by questioning Widodo’s decision to appoint a “top law enforcement official” (i.e., the attorney general) who is a party representative; and Widodo twice inflicted damage by citing Gerindra’s lack of women in its leadership and its nomination of corruption convicts for legislative offices.  Widodo unveiled a plan for a National Legislative Center (Puslegnas).  The debate, translated in full by Ref Wkly, seems unlikely to alter the candidates’ poll positions (Page 2).  The president approved the release of the 80‑year‑old icon of terrorist groups, Abu Bakar Basyir (p. 15).  Widodo visited a fair for businesses run by impoverished households and, oddly, purchased 100,000 1‑liter bottles of dishsoap from one vendor.  At best, the episode may indicate a preoccupation with his family’s catering business; at worst, it shows haphazard handling of his personal finances (p. 16). 

Surveys: Charta Politik measured President Joko Widodo’s margin as being virtually unchanged at 19 percentage  points in late December.  It also confirmed that PDI‑P’s nomination of Widodo is a major reason for its popular support.  The pro‑reform Solidarity Party (PSI) finally registered detectable support of 1.5 percent (p. 17). 

Infrastructure: Differences between the central and provincial government persist over where to locate the terminus of the Light Rail Train (LRT) in downtown Jakarta.   A large land plot south of Landmark Tower has been vacant for decades – but the central government prefers a less central location (p. 19).   

Economics: The rupiah has partially rebounded amid easier external financing conditions in recent weeks, but Bank Indonesia (BI) nonetheless decided this week to maintain its benchmark rate at 6.0 percent – due to a persistently high current account deficit.  In part, the deficit reflects Indonesia’s considerable economic momentum.  Nonetheless, rising fuel imports and falling oil production signal continued current account pressure ahead, necessitating vigilance from BI (p. 20). 

In this briefing:

1. Stimulus/Bond Index Products/China-US Tension/Huawei Denials/Military
2. FLASH: UK Retail Sales Normalise for End-2018
3. The Burden of Too Big Government
4. The Black Elephant Has Trumpeted
5. Debt Ratios Do Matter

1. Stimulus/Bond Index Products/China-US Tension/Huawei Denials/Military

China News That Matters

• Pump it up, but don’t flood the place
• Roll up, roll up: China touts bonds
• Sino-US trade talks shift to Washington
• Trust me, I’m just a sesame seed
• No longer playing catch up? The “world-leading” PLA

2. FLASH: UK Retail Sales Normalise for End-2018

• UK retail sales retreated to their still-bullish trend level in Dec-18. A higher than usual share of consumption appears to have been pulled forward for Black Friday.
• The significantly weaker outcome for December trims my monthly GDP forecast to 0.0% but leaves 4Q18 at 0.3% q-o-q. The earlier reversion to trend removes that source of depression from growth in the new year.

3. The Burden of Too Big Government

From our very own “Austrian” Leigh Skene:

Wars in old times were made to get slaves. The modern implement of imposing slavery is debt. Ezra Pound

Governments used public sector balance sheets to bail out private financial institutions and assist private companies to emerge from bankruptcy in the GFC. These actions transferred credit risk from the private to the public sector, yet falling nominal interest rates minimised, and in some cases froze, the cost of servicing the mounting government debt until late 2016. Since then, many borrowers have paid rising  interest rates on increasing amounts of debt. Debt service charges are rising faster than nominal GDP in a growing number of nations as a result. It is estimated that the US federal funding requirement will rise from minus US$ 700bn to US$ 2tr in 2022.

4. The Black Elephant Has Trumpeted

In The United States: 2019 Set Fair but Then? we wrote that we do not expect another Fed rate hike until June 2019, at the earliest with an even stronger probability that the next move from the Fed in this cycle will be a cut in 2020. We expect on trend growth in the US over the next 12 months as the free money spigot continues to shut marginally. Sentiment towards Asian markets – once it is realised that Asia’s economic performance and growth in real economic activity will again surpass advanced economies by a wide margin – will change for the better this year. It’s about time. 

5. Debt Ratios Do Matter

Monetary diarrhoea has inflated the debt structure.

The death of the Bretton Woods monetary system in 1971 paved the way for unbridled money printing. The resulting Great Inflation inflicted huge negative real returns on bondholders and stockholders until 1982. Thereafter, many countries, especially EMs, linked their exchange rates to the dollar, resulting in the fastest ever-growth in global foreign exchange reserves. In addition, central bank puts and then extraordinary fiscal and monetary policies turned it into the most virulent asset bubble in history, despite monetary mayhem, exemplified by numerous banking crises and three big stock market drawdowns. 

In this briefing:

1. The United States: 2019 Set Fair but Then?
2. Philippines: The Hanjin Scare
3. FLASH: Brexit Deal Defeated by 230
4. Much Ado About Credit
5. Ten Years On – Asia’s Time Is Coming, Don’t Miss The Boat

1. The United States: 2019 Set Fair but Then?

While Donald Trump amassed troops along the Mexican border in order to repel the migrant caravan from Honduras, it is really the caravan of policy problems lined up behind him that is more likely to disrupt his presidency. Fiscal promises relating to public-sector pensions, Medicaid and Medicare are set to grow exponentially over the coming years. And then there is the increase in nonfinancial corporate debt since 2010 which has been accumulated during a period of the most distorted capital-pricing in history. When the first wave of renewed economic problems hit all there will be to withstand them is, in the famous words of ex-Fed Chair Janet Yellen, “More of Plan A”. The next time around, and that time is coming soon, it is likely to prove to be a dud.

2. Philippines: The Hanjin Scare

• Knee-jerk market reaction to the disclosure last Friday (January 11, 2019) of Hanjin’s (Philippines) severe cash flow constraints including the local banks’ loan exposure, was understandable. However, the banks FCDU (foreign currency deposit unit) loan exposure of US$412mn (roughly Php21bn) to Hanjin was modest relative to the banking system’s FCDU (banks Hanjin loan exposure is about 1.1% of FCDU deposits), outstanding bank loans, capitalization ratios, etc. Officials of the big local banks have assured markets and investors of their financial ability to cover potential Hanjin loan losses. Banks consolidated NPL ratio is in the low, single-digit (1.8% in October 2018) that can easily absorb the FCDU hit.  

• Will the employment losses from Hanjin’s local subsidiary located in Subic bay, spawn regional demand-side risk particularly for Central Luzon—a key, emerging commercial/industrial hub in Luzon? Against recent regional GDP estimates (2016-17), we failed to detect any severe employment shock during the height of Hanjin’s job shedding. Down to 3,000 workers (peak of more than 30,000 in 2014-15), we have already been through the worst of the jobless impact of Hanjin’s business collapse. Central Luzon’s regional GDP grew by over 9% in real terms in 2017 and 2016 (vs national GDP growth of 6.9% in 2016 and 6.7% in 2017) despite the likelihood of Hanjin’s job losses. Central Luzon’s manufacturing output still managed to rise by 2-digit rates in 2016-17.On a per capita basis, Central Luzon’s per capita real GDP grew by close to 8% in 2016-17 despite perceived regional job market adjustments. Perhaps the fiscal stimulus programs including more infrastructure projects directed at the Central Luzon provinces allayed the worst of Hanjin’s macro shock.

• I believe the Hanjin event risk represents an opportunity to buy risk assets on any sustained adverse market reaction while safeguarding one’s liquidity position.

3. FLASH: Brexit Deal Defeated by 230

• The UK parliament rejected the Brexit deal by a historically substantial margin of 230 votes (432 vs 202). Presentation of a plan-B will probably occur on Monday.
• A vote of no confidence in the government will occur on 16 Jan. With eurosceptics and the DUP maintaining support, an early election should be avoided.
• Theresa May is signalling greater openness to opposition support, despite its unreliability, which the market has welcomed. A codicil that clearly clarifies the backstop’s non-permanence still looks like the most likely solution, in my view.

4. Much Ado About Credit

• Global financing conditions could tighten further
• Credit demand is deteriorating; credit risks are rising; Eurodollar costs are edging higher
• A de-escalation in trade tensions and a Fed pause could ease the pain
• Will Fed recently turning more dovish (possible shift to slower QT & Fed rate cut in 2019?) + concomitant USD drift provide sufficient respite to put a floor under risk assets?

5. Ten Years On – Asia’s Time Is Coming, Don’t Miss The Boat

We noted in   Ten Years On – Asia Outperforms Advanced Economies Asia’s economies and companies have outperformed advanced country peers in the ten years to 2017.  Growing by 6.8%, real, through the crisis the region is 188% larger in US dollar terms while US dollar per capita incomes 170% higher compared with 2007. In this note we argue even though Asian stock markets have underperformed since 2010 and the bulk of global capital flows have gone to advanced countries, Asia’s time is coming. Valuations are cheap. Growth fundamentals strong. There are few external or internal imbalances. Macroeconomic management has been better than in advanced economies and the scope to ease policy to ward off headwinds in 2019 is greater. China has already started.

In this briefing:

1. UK Preview: Disinflationary Date for Dec-18
2. Anatomy of a Shutdown: Scenarios for an Outcome
3. Trade Talks/Commercial Spying/Cars ‘N Consumers/Easier Credit/Yuan Rise
4. FLASH: UK GDP Boosted by Consumers in Nov-18
5. Widodo, PDI-P Lead / Siregar to DC / Tobin Tax Unlikely / KPK Bomb Scare / Industry Minister Eyed

1. UK Preview: Disinflationary Date for Dec-18

• UK inflation has tended to disappoint expectations, and another 0.1pp downside surprise looks likely in the Dec-18 data. I forecast CPI inflation to slow by 0.3pp to 2.0% and for a 40bp loss in RPI inflation to 2.8% (index print at 285.8).
• The ONS is likely to use 11 Dec for its index day, which would mean it is using cheaper seasonal travel dates in its airfares survey. The Consensus tends to miss this effect and be surprised by it. My proprietary food price data were soft too.

2. Anatomy of a Shutdown: Scenarios for an Outcome

The Republican president and Democratic House of Representatives remain at loggerheads over a partial government shutdown.  This is not because their differences over a ‘border wall’ are unbridgeable – it is because their mutual enmity is feirce to the point of existential. 

For the first time since 2016, the democrats have a weapon (a House majority) with which to fight Trump.  Unfamiliar with the mechanics of divided government, Trump blundered by demanding wall funding.  The shutdown is unpopular and poll data shows that Trump garners the most blame; it therefore provides a boon to Democrats, who are content to hold firm, watch Trump suffer and hope that the affair finally depresses his approval rating below the 40-42 percent threshold. 

There are five apparent ways that the shutdown could come to a resolution.  These include one of the two sides capitulating, Republican senators defecting or Trump invoking emergency powers.  At this stage it seems more likely that a resolution will hinge on a deal involving a reduced amount of spending – but there will be extended wrangling over the details, including the definitions of “fence” versus “wall”.  Neither side is showing any initiative to compromise thus far, and the shutdown seems likely to continue. 

In these circumstances, the 800,000 Federal employees who lack paychecks are collateral damage.  The shutdown adversely affects certain services, especially in transportation and economic data collection, while impacting GDP by an estimated 0.1 percent every two weeks.  More generally, circumstances damage perceptions of the US and its ability to govern itself.  The strife will have achieved something if it debunks Trump’s doctrines and diminishes his appeal.  But it will exact a toll in the meantime in terms of depressed sentiment among consumers, traders and investors. 

Given Trump’s record to date and the dearth of relatively reasonable moderates left in his administration, continued frontal conflict with House Democrats appears likely to persist for the remaining two years of his term. 

3. Trade Talks/Commercial Spying/Cars ‘N Consumers/Easier Credit/Yuan Rise

China News That Matters

• Progress, yet trade war still morphing into tech war
• Economic espionage: US targets Chinese spying
• Tesla dreams big in China despite consumption fears
• Bank funding beckons for SMEs
• Yuan leaps as hopes fade for US rate hikes

4. FLASH: UK GDP Boosted by Consumers in Nov-18

• UK monthly GDP exceeded expectations by growing 0.2% m-o-m in Nov-18. Consumption supported the distributive trades well beyond retail and this more than counterbalanced the disappointment in IP.
• Absent revisions, no growth is needed in December for 4Q18 GDP growth to exceed the BoE’s pre-Christmas forecast at 0.3% q-o-q, which remains my prediction.

5. Widodo, PDI-P Lead / Siregar to DC / Tobin Tax Unlikely / KPK Bomb Scare / Industry Minister Eyed

Widodo maintains his 20 point lead in a late December poll, while PDI-P looks poised to control over 40% of the next parliament — rendering the recalcitrant Party Chair Megawati an unconstructive power broker.  Uno is pressing salient points about inflation and jobs, but Prabowo strikes discordant tunes.  KPK members suffered bomb threats at their homes.  The Riau-1 case increasingly implicates the industry minister, Golkar Chair Airlangga Hartarto.  The new ambassador to the US is a competent economist. 

Politics: Megawati delivered a high‑profile address to party members and dignitaries, including President Joko Widodo, that showed no inkling of embracing economic or governance reforms, despite their clear urgency.  Widodo lavished praise on the chair of the party to which he belongs; the hyperbole merely underscored his awkwardness with the powerful and imperious party chair (Page 2).  Vice Presidential Nominee Sandiaga Uno reiterated the importance of prices and jobs to voters, and downplayed the benefits derived by the poor from infrastructure works.  He is honing his messaging, but he still lacks solutions and Prabowo Subianto strikes discordant tones (p. 3).  The Solidarity Party (PSI) gained notice by issuing ‘Falsehood Awards’ to Prabowo, Uno and Partai Demokrat’s Andi Arief.  But the inspired party is languishing with negligible popular support (p. 4). 

Surveys: President Joko Widodo still had a 20 percentage point lead over Prabowo Subianto as of late December, according to the survey firm Indikator Politik.  The poll also found that only 15 percent of respondents believe that Prabowo abducted pro‑democracy activists in 1997‑98, even though he himself has admitted to doing so (he denies having abducted those that never returned) (p. 5).  The Survey Network (LSI) noted continued strong support for Megawati’s PDI‑Perjuangan, while parties such as the National Democrat (Nasdem) Party, the National Mandate Party (Pan) and Hanura could suffer exclusion from the next parliament.  Islamic-oriented parties appear poised to lose a third of their seats – but it remains to be seen if Gerindra, which is expanding, embraces elements of an Islamic agenda.  Dominance by PDI‑P in the next parliament would bode ill for economic and institutional reform (p. 7).   

Justice: Although unharmed, two Anti-Corruption Commission (KPK) members were targets of attacks on their homes by unknown assailants.  Two Molotov cocktails hit Laode Syarif’s home and a fake pipe bomb was found at KPK Chair Agus Rahardjo’s (p. 9). 

Policy News: A former finance minister suggested a reverse Tobin tax on portfolio funds, but the current minister, Sri Mulyani Indrawati, pointed out its costliness (p. 10).  The information minister promised a long‑awaited ride‑sharing regulation soon (p. 13).

Appointments: A prominent macro‑economic policymaker of the Yudhoyono‑era, Mahendra Siregar, received induction as ambassador to the US, after having served for two years as the government’s chief advocate for the palm oil industry (p. 13). 

In this briefing:

1. Ten Years On – Asia’s Time Is Coming, Don’t Miss The Boat
2. UK Preview: Disinflationary Date for Dec-18
3. Anatomy of a Shutdown: Scenarios for an Outcome
4. Trade Talks/Commercial Spying/Cars ‘N Consumers/Easier Credit/Yuan Rise
5. FLASH: UK GDP Boosted by Consumers in Nov-18

1. Ten Years On – Asia’s Time Is Coming, Don’t Miss The Boat

We noted in   Ten Years On – Asia Outperforms Advanced Economies Asia’s economies and companies have outperformed advanced country peers in the ten years to 2017.  Growing by 6.8%, real, through the crisis the region is 188% larger in US dollar terms while US dollar per capita incomes 170% higher compared with 2007. In this note we argue even though Asian stock markets have underperformed since 2010 and the bulk of global capital flows have gone to advanced countries, Asia’s time is coming. Valuations are cheap. Growth fundamentals strong. There are few external or internal imbalances. Macroeconomic management has been better than in advanced economies and the scope to ease policy to ward off headwinds in 2019 is greater. China has already started.

2. UK Preview: Disinflationary Date for Dec-18

• UK inflation has tended to disappoint expectations, and another 0.1pp downside surprise looks likely in the Dec-18 data. I forecast CPI inflation to slow by 0.3pp to 2.0% and for a 40bp loss in RPI inflation to 2.8% (index print at 285.8).
• The ONS is likely to use 11 Dec for its index day, which would mean it is using cheaper seasonal travel dates in its airfares survey. The Consensus tends to miss this effect and be surprised by it. My proprietary food price data were soft too.

3. Anatomy of a Shutdown: Scenarios for an Outcome

The Republican president and Democratic House of Representatives remain at loggerheads over a partial government shutdown.  This is not because their differences over a ‘border wall’ are unbridgeable – it is because their mutual enmity is feirce to the point of existential. 

For the first time since 2016, the democrats have a weapon (a House majority) with which to fight Trump.  Unfamiliar with the mechanics of divided government, Trump blundered by demanding wall funding.  The shutdown is unpopular and poll data shows that Trump garners the most blame; it therefore provides a boon to Democrats, who are content to hold firm, watch Trump suffer and hope that the affair finally depresses his approval rating below the 40-42 percent threshold. 

There are five apparent ways that the shutdown could come to a resolution.  These include one of the two sides capitulating, Republican senators defecting or Trump invoking emergency powers.  At this stage it seems more likely that a resolution will hinge on a deal involving a reduced amount of spending – but there will be extended wrangling over the details, including the definitions of “fence” versus “wall”.  Neither side is showing any initiative to compromise thus far, and the shutdown seems likely to continue. 

In these circumstances, the 800,000 Federal employees who lack paychecks are collateral damage.  The shutdown adversely affects certain services, especially in transportation and economic data collection, while impacting GDP by an estimated 0.1 percent every two weeks.  More generally, circumstances damage perceptions of the US and its ability to govern itself.  The strife will have achieved something if it debunks Trump’s doctrines and diminishes his appeal.  But it will exact a toll in the meantime in terms of depressed sentiment among consumers, traders and investors. 

Given Trump’s record to date and the dearth of relatively reasonable moderates left in his administration, continued frontal conflict with House Democrats appears likely to persist for the remaining two years of his term. 

4. Trade Talks/Commercial Spying/Cars ‘N Consumers/Easier Credit/Yuan Rise

China News That Matters

• Progress, yet trade war still morphing into tech war
• Economic espionage: US targets Chinese spying
• Tesla dreams big in China despite consumption fears
• Bank funding beckons for SMEs
• Yuan leaps as hopes fade for US rate hikes

5. FLASH: UK GDP Boosted by Consumers in Nov-18

• UK monthly GDP exceeded expectations by growing 0.2% m-o-m in Nov-18. Consumption supported the distributive trades well beyond retail and this more than counterbalanced the disappointment in IP.
• Absent revisions, no growth is needed in December for 4Q18 GDP growth to exceed the BoE’s pre-Christmas forecast at 0.3% q-o-q, which remains my prediction.

In this briefing:

1. Widodo, PDI-P Lead / Siregar to DC / Tobin Tax Unlikely / KPK Bomb Scare / Industry Minister Eyed
2. Extraordinary Fiscal and Monetary Policies Have Disrupted the Global Economy
3. Fed Policy Credibility: Markets and President Trump Pile on the Pressure
4. Seismic Shift in Fed’s View Driven by Anaemic M2, Implying US$-Weakness and an EM-Positive Year
5. UK Politics: Swerve, Crash or Stop (55:30:15)

1. Widodo, PDI-P Lead / Siregar to DC / Tobin Tax Unlikely / KPK Bomb Scare / Industry Minister Eyed

Widodo maintains his 20 point lead in a late December poll, while PDI-P looks poised to control over 40% of the next parliament — rendering the recalcitrant Party Chair Megawati an unconstructive power broker.  Uno is pressing salient points about inflation and jobs, but Prabowo strikes discordant tunes.  KPK members suffered bomb threats at their homes.  The Riau-1 case increasingly implicates the industry minister, Golkar Chair Airlangga Hartarto.  The new ambassador to the US is a competent economist. 

Politics: Megawati delivered a high‑profile address to party members and dignitaries, including President Joko Widodo, that showed no inkling of embracing economic or governance reforms, despite their clear urgency.  Widodo lavished praise on the chair of the party to which he belongs; the hyperbole merely underscored his awkwardness with the powerful and imperious party chair (Page 2).  Vice Presidential Nominee Sandiaga Uno reiterated the importance of prices and jobs to voters, and downplayed the benefits derived by the poor from infrastructure works.  He is honing his messaging, but he still lacks solutions and Prabowo Subianto strikes discordant tones (p. 3).  The Solidarity Party (PSI) gained notice by issuing ‘Falsehood Awards’ to Prabowo, Uno and Partai Demokrat’s Andi Arief.  But the inspired party is languishing with negligible popular support (p. 4). 

Surveys: President Joko Widodo still had a 20 percentage point lead over Prabowo Subianto as of late December, according to the survey firm Indikator Politik.  The poll also found that only 15 percent of respondents believe that Prabowo abducted pro‑democracy activists in 1997‑98, even though he himself has admitted to doing so (he denies having abducted those that never returned) (p. 5).  The Survey Network (LSI) noted continued strong support for Megawati’s PDI‑Perjuangan, while parties such as the National Democrat (Nasdem) Party, the National Mandate Party (Pan) and Hanura could suffer exclusion from the next parliament.  Islamic-oriented parties appear poised to lose a third of their seats – but it remains to be seen if Gerindra, which is expanding, embraces elements of an Islamic agenda.  Dominance by PDI‑P in the next parliament would bode ill for economic and institutional reform (p. 7).   

Justice: Although unharmed, two Anti-Corruption Commission (KPK) members were targets of attacks on their homes by unknown assailants.  Two Molotov cocktails hit Laode Syarif’s home and a fake pipe bomb was found at KPK Chair Agus Rahardjo’s (p. 9). 

Policy News: A former finance minister suggested a reverse Tobin tax on portfolio funds, but the current minister, Sri Mulyani Indrawati, pointed out its costliness (p. 10).  The information minister promised a long‑awaited ride‑sharing regulation soon (p. 13).

Appointments: A prominent macro‑economic policymaker of the Yudhoyono‑era, Mahendra Siregar, received induction as ambassador to the US, after having served for two years as the government’s chief advocate for the palm oil industry (p. 13). 

2. Extraordinary Fiscal and Monetary Policies Have Disrupted the Global Economy

In their public presentations, central banks seem to be contemplating the use of neutral interest rates (r*) in addition to unemployment/inflation theories. R* has the advantage of appearing to be subject to mathematical precision, yet it’s unobservable, and so unfalsifiable. Thus, it permits central banks to present any policy conclusion they want without fear of verifiable contradiction. R* is the policy rate that would equate the future supply of and demand for loans. It rises and falls as an economy strengthens and weakens. Long-term observation during the non-inflationary gold standard, period indicated that r* in an average economy was 2% plus, which would become 4% plus with today’s 2% inflation target. The Fed may soon end this tightening cycle with the fed funds rate at or near 2¾%, which would be r* if the rate of lending and borrowing in America remained stable thereafter. Rising (falling) lending would indicate a higher (lower) r*. 

3. Fed Policy Credibility: Markets and President Trump Pile on the Pressure

Financial markets and President Trump have raised the ante on Fed policy conduct, but the clash with the Administration was inevitable given the tighter monetary policy offset to last year’s easing of fiscal policy.

President Trump’s attack on the Fed may indicate broader issues and concerns about the performance of his economic team, notably Treasury Secretary Mnuchin.

Uncertainty about the Administration’s future relations with both the Fed and House of Representatives will remain elevated during 2019, thereby increasing the pressure on the Federal Open Market Committee (FOMC) to assume a greater leadership role in the realm of economic management.

Financial markets have become excessively reliant on crystal-clear guidance from the FOMC since the financial crisis, but policy communication in 2019 will be reset to incorporate flexibility and patience in the realm of future conduct.

US equities have other adverse factors to consider in 2019 apart from Fed policy, but lower valuations suggest reduced investor complacency, as well as offering some downside protection.

Recession risks in the US are still manageable due to low inflation and the FOMC’s ability to lower the federal funds due to its past policy actions.

4. Seismic Shift in Fed’s View Driven by Anaemic M2, Implying US$-Weakness and an EM-Positive Year

Fed chairman Jay Powell’s extraordinary flip-flops over the past 3 months have left his communication strategy in tatters (unsurprising, given that he has no economics training, as we warned at his appointment: Trump Now Has a Clear Path to Damage the Fed, Even as He Loses Political Ground). Nothing in the US growth numbers or core inflation could justify the seismic shifts in the Fed chair’s language. However, M2 money supply moderated sharply to 3.8% YoY growth in October, and didn’t materially improve in November or December, suggesting that the money multiplier is not rebounding quickly enough to offset the sharp contraction in the monetary base. In our view, this is the indicator that the FOMC and market need to pay more attention to in 2019.  

While the stock market has predicted “nine of the last five recessions” (to use Paul Samuelson’s famous phrase), an inverted UST yield curve (specifically a negative 2-10 year Treasury spread) has predicted each of the last seven recessions. The 1980 recession began 18 months after the yield curve first inverted, but the lag has been shorter (about 12 months) for the subsequent four recessions. The yield curve has not yet inverted, but is inexorably trending toward negative territory. We expect the US to enter recession no later than mid-2020, bang in the middle of the next US presidential election cycle.  

A weak US$ is likely to remain the last reflationary factor for the US in 2019. But, like in 2017, US$-weakness will be positive for Emerging Markets (EMs). We expect China’s debt and growth challenges to come to a head this year, but they would have imploded a lot sooner and more drastically had this been another year of US$ strength. 

5. UK Politics: Swerve, Crash or Stop (55:30:15)

• The UK parliament continues to show its opposition to everything, including a no deal Brexit. Recent amendments are more signalling than substance, though.
• A political swerve to approve a deal based on the existing one remains the most likely scenario, in my view (55%). Brinkmanship leaves a crash out with no deal as a significant risk (30%), though, as it is the default outcome despite opposition.
• Stopping the exit from the single market and customs union (15%) is appealing to many commentators, but it still looks more like hope over reality, in my view.

In this briefing:

1. A Golden Future?
2. India: 2018 Outlook – Strong Growth but Growing Risk of Policy Mistake
3. The Shutdown-For-A-Wall: Three Reasons Why Trump Is Blundering
4. Philippines: Another CPI Downside Surprise in December
5. China Consumables in a Sluggish Economy

1. A Golden Future?

The ability to have stable prices has great value.

According to Edward Gibbon, the decaying Roman Empire exhibited five hallmarks: 1) concern with displaying affluence instead of building wealth; 2) obsession with sex; 3) freakish and sensationalistic art; 4) widening disparity between the rich and the poor; and 5) increased demand to live off the state. Most DMs and many EMs display similar symptoms today because fiscal and monetary policies, the foundation of both ancient and modern societies, are identical: increasing welfare outlays by artificially inflating the money supply. The Roman Empire took more than four centuries to destroy what the Republic had built in the previous five centuries because clipping and debasing coins inflated currency supplies slowly. Entering debits and credits in the books of commercial and central banks is much more efficient. 

2. India: 2018 Outlook – Strong Growth but Growing Risk of Policy Mistake

The Indian economy is in a sweet spot currently. On one hand economic growth is strong and on the other hand, some of the risks have abated due to the sharp fall in Oil prices. Economic growth will thus be strong in 2019 with macro stability. However, given that 2019 is an election year, the risks of a policy mistake are high due to the divergence in economic growth between rural India and the rest of the country. It is very likely that the next few months will see some monetary easing on one hand due to the relatively benign outlook for headline inflation and fiscal stimulus on the other to prop up the rural economy. This given the backdrop of already strong overall growth and stubbornly high core inflation risks over stimulating the economy and consequent build-up of inflationary pressures – something akin to what happened in 2009 but on a smaller scale. However, that is a problem for 2020 or perhaps beyond. In the interim, 2019 promises to be a reasonably strong year with 7% plus growth, lower interest rates and strong growth in corporate earnings.

3. The Shutdown-For-A-Wall: Three Reasons Why Trump Is Blundering

No end is apparent for the 18‑day‑old partial government shutdown following US President Donald Trump’s Oval Office Address today.  Rather than offering compromise, proposing new ideas or even attempting to expand public support for his position, Trump relied on familiar techniques of lurid hyperbole and base fear‑mongering.  But this doggesd pursuit of a US$5.7 billion wall seems bound to fail.  In effect, Trump is a political neophyte, with poor advisors, confronting an opposition‑controlled House for the first time – and he is blundering.

4. Philippines: Another CPI Downside Surprise in December

• Another CPI downside surprise largely due to hefty disinflation in CPI food and transport coupled with easing core inflation. Seasonally adjusted headline CPI printed another monthly drop (-0.4%MoM SA). The 2018 average inflation rate was 5.2%. 

• Assuming oil prices stay low and prevailing supply conditions persist, inflation can fade to less than 4% starting in March, based on our latest extrapolation. Average inflation in 2019 can settle at 3%.

• The updated inflation trajectory, benign oil price conditions and supply side effects of upcoming liberalization of rice imports, would sustain BSP’s neutral rate stance this year and terminate its rate hiking cycle.
• It’s still premature to talk about policy rate easing this year considering the limited policy space for flexibility as we face the risk of large macro imbalances that may require positive real rates and weaker PHP. 

• Enjoy the local market rallies following CPI’s downside surprise. We prefer to take profits on risk asset market rallies this early in the new year. 

5. China Consumables in a Sluggish Economy

The PBOC’s desire to loosen up China’s economy is relying on consumers to keep spending. However, as seen in the data below, consumers just are not spending. From cars, to cameras and retail, consumers are increasingly avoiding big ticket items, as China’s consumers look for breathing space.

In this briefing:

1. Growing Pains & PBoC Cut/US-China Clash/Railways & Airports & Bonds/More Babies Please/Moon Landing

1. Growing Pains & PBoC Cut/US-China Clash/Railways & Airports & Bonds/More Babies Please/Moon Landing

China News That Matters

• PBoC responds to disappointing start to another year of slowing growth
• Talks planned but US-China “clash of civilisations” deepens
• Ever faster trains, new airports from Beijing to Antarctica – and more debt
• Two-child policy fails to avert demographic crisis
• Beijing nails first ever landing on moon’s far side