The ECB buys corporate bonds-Unyielding
Quantitative easing in the euro area enters a new phase
Jun 11th 2016 |
TRY and try again. On June 8th the European Central Bank (ECB) started buying corporate bonds, in its latest effort to gin up inflation in the euro area. Prices declined slightly in May compared with the same month a year before; the ECB’s inflation target is just under 2%. The scheme has already helped boost the zone’s corporate-bond market. Doing the same to its economy looks a tall order.
The purchases form part of the ECB’s quantitative-easing programme, under which it is already buying €80 billion-worth ($91 billion) of public-sector bonds, covered bonds and asset-backed securities monthly. (Government debt, of which the ECB has amassed more than €800 billion, accounts for most.) To qualify, corporate bonds must be investment-grade and issued by euro-area firms other than banks.
Analysts reckon that €600 billion-plus of bonds fit these criteria. The bank hasn’t yet said whose debt, or how much, it will buy; from mid-July it will report holdings weekly. According to Bloomberg, first-day purchases included bonds issued by Anheuser-Busch InBev, the world’s biggest brewer; Generali, an Italian insurer; Siemens, a German engineering giant; and Telefónica, a Spanish telecoms firm.
The ECB is likely to be a hefty buyer. It can acquire bonds in the primary or secondary market, and can hold up to 70% of an issue. Some analysts guess it might snap up €5 billion-10 billion a month. That may be a stretch. Even if it bought a quarter of the likely total of this year’s eligible issues, calculates Suki Mann of CreditMarketDaily.com, a website, that would still only work out at €4 billion a month.
Yields tumbled in anticipation of the ECB’s entry. According to Bank of America Merrill Lynch, yields on investment-grade bonds have slid under 1%, their lowest for a year; those on high-yield (junk) bonds have fallen, too.
That suggests the ECB is achieving its objective: directly reducing companies’ financing costs. But if it buys less than expected, the rally could go into reverse. And whether cheaper borrowing will spark investment and inflation is questionable: in March, when the ECB unveiled its plan, investment-grade yields were a less-than-prohibitive 1.3%. The ECB is also funnelling cash into banks as fast as it can: another lending-incentive scheme starts this month. But it is lack of demand, not of funds, that is holding Europe back.
America’s economy-When barometers go wrong
A weak jobs report belies the resilience of America’s economy
Jun 11th 2016 |
AMERICA’s labour market has become a reliable source of comfort when other economic indicators dismay. When growth slowed to just 0.8% in the first quarter of the year, economists were mostly unperturbed, because payrolls were growing by over 150,000 workers a month. Wage growth was picking up. Even labour-force participation was rising, after a long period of decline.
So the news on June 3rd that the economy created a mere 38,000 new jobs in May—the lowest total since 2010—was a nasty shock. Three days later Janet Yellen, the Fed’s chairman, hinted that she no longer favours raising interest rates this summer. This abrupt change of direction followed weeks of warnings from Fed officials that a rate rise was coming, perhaps as soon as the conclusion of the Fed’s next meeting on June 15th. That now looks all but impossible.
The consensus forecast was for about 160,000 new jobs in May. Even accounting for 35,000 striking workers at Verizon, a telecoms firm, the shortfall was substantial (though the estimate, which has a wide margin of error, may yet be revised up). A labour-market slowdown that had seemed gentle now looks pronounced: between March and May, the economy created on average 116,000 jobs per month, compared with 222,000 in the year to February. The fizzing labour market had been tempting Americans who had given up on work back into the labour force. But participation has now handed back two-thirds of its gains since September.
The report, taken alone, was dire. But on the whole, there is much less cause for gloom. The American economy may have slowed, but remains fundamentally strong, as it is buttressed by a healthy consumer. Personal consumption, adjusted for inflation, is up by 3% in the past year, having surged in April. The University of Michigan’s consumer-confidence index, which was due to be updated as The Economist went to press, grew strongly in May. Even before that, confidence exceeded its average during the 2003-07 boom. According to a recent Fed survey, 69% of Americans say they are “doing okay” or “living comfortably”, up from 62% in 2013. What is more, the rise has been most pronounced among those with only a high-school education.
Rising wage growth helps explain consumers’ cheer. Since early 2015 growth in average hourly earnings has perked up from about 2% to around 2.5%. Admittedly, this is sluggish compared with wage growth before the financial crisis, which often exceeded 3%. And wage growth has plateaued as the labour market has slowed (see chart 1).
But demographic change is keeping average wage growth artificially low. The financial crisis struck when the oldest baby-boomers were nearing retirement age. As well-paid boomers retire, average wages fall. In addition, many low-wage workers, who were disproportionately likely to lose their jobs during the recession, are now returning to work, which also pulls average wages down.
Recent work by researchers at the San Francisco Fed suggests that, as of the end of 2015, these biases in entries and exits from the workforce were reducing growth in median weekly earnings by about two percentage points. Those in steady employment are faring well: the Atlanta Fed’s wage index, which tracks the same individuals over time, thereby ignoring retirements and new workers, shows wage growth of 3.4% over the past year.
At the same time, Americans have been leaving petrol stations with fatter wallets, thanks to cheaper oil. Consumers did save more of the petrol-price windfall than expected. But that means that now oil prices are firming—on June 7th Brent crude surpassed $50 a barrel for the first time since October—consumers will not have to rein in spending much in response, argues Andrew Hunter of Capital Economics, a consultancy. Indeed, savings tumbled in April as consumption rose.
Somewhat higher oil prices should also help put an end to another drag on the economy: pallid investment, which was partly responsible for the first quarter’s slow growth. Investment in oil rigs and the like has fallen by almost 70% over the past two years, adjusted for inflation, as investors have mothballed shale-oil and -gas projects. But in the week to June 3rd, the rig count rose for the first time since August. Even if oil prices were to fall again, energy investment cannot drag down growth for much longer, as it has already fallen so far.
Other business investment has disappointed, too. But rising house-building has picked up some of the slack (see chart 2). Adjusted for inflation, residential investment is up by 11% on a year ago. Government spending is also rising, after four years of pulling down growth as politicians trimmed budgets. An investment spree by state and local governments has contributed to the turnaround.
A dangerous world
Threats remain. The world economy is a worry. Europe has not yet secured its recovery (see next story), Brexit is a growing concern, and the Chinese economy remains fragile. Financial markets, which tanked early in the year on account of the world economic outlook, are sturdy for now—after Ms Yellen’s dovish comments, the S&P 500 rose close to a record high. But the world economy could yet shake markets again.
Even if it doesn’t, the contrast between American vigour and torpor abroad will delay interest-rate rises, argues Mark McClellan of the Bank Credit Analyst, a newsletter, because the Fed cannot tighten monetary policy without sending the dollar on a tear. That could itself cause renewed financial-market wobbles, particularly in emerging markets with dollar-denominated debts (see article). It would also dampen inflation, which remains below the Fed’s 2% target, as the dollar’s strength made imports cheaper.
Where next, then, for Ms Yellen? She rightly says that raising interest rates is not a goal in itself, and describes today’s near-zero rates as only “modestly” accommodative—a reminder that the so-called “natural” rate of interest, the rate which neither stimulates nor dampens the economy, is probably much lower than it used to be. The Fed will probably need convincing that the latest labour-market report was an aberration before tightening policy. The next few months should provide such reassurance. Come what may, expect Ms Yellen to take only baby-steps.
The EU referendum-After Brexit; ye ken noo
Jun 10th 2016, 12:30
THERE is an old story that puritanical Scottish preachers used to tell their congregations about sinners cast into the fires of hell. The condemned call out to the Almighty for mercy who replies “Did I not tell you to abandon your lives of drinking, fornicating and sinning?” “Yes, lord” comes the pitiable reply “but we didna ken.”* “Well” comes the implacable reply “Ye ken noo.”
The British vote on the EU is remarkably close despite the parade of experts—the Bank of England, IFS, IMF and OECD, as well as the vast majority of economists—who have pointed to the potential adverse effects. The problem is that many voters simply don’t believe the experts, especially in the wake of the 2008 crisis. And the Conservatives in the Leave campaign, who cheerfully cite such experts when attacking Labour party policies during general elections, now disdain them altogether. Similarly when business leaders pronounce for Remain, their views are dismissed by Tories who normally treat the needs of business as pretty sacrosanct.
Cite those strategists who say that sterling or the markets will fall after a Brexit and people will say “The bankers got it wrong before”. Well David Bowers and Ian Harnett of Absolute Strategy Research are independent researchers and their view is
For sterling, the risk is revisiting parity vs the US dollar should the UK exit. For equities, investors might demand 100bp more yield, implying close to a -20% adjustment.
Of course, the markets are not the most important thing in life but the projected falls reflect the likely hit to confidence and thus economic activity that would follow a decision to leave. Can one prove this will happen? Of course not, just as those Scottish sinners ignored their preachers while they were alive. Is it all priced in anyway? It is hard to disentangle Britain’s market movements from the global trend; bond yields are plunging. The FTSE 100 is down 2% today with some citing the impending vote. If the gambling markets are anything to go by, investors still think Remain will win; a Leave vote is currently 11/4. Absolute Strategy, based on the betting markets, thinks the implied probability of Brexit is only 24%.
And what is the plan if we leave? As far as we can tell from Boris Johnson, who struggles with the facts, there isn’t one. He will mutter “Carpe diem” or whatever Latin phrase comes to mind (Festina lente? Sic transit Gloria mundi?). We don’t know if we will end up with a Norway-style link (in the single market, and still with freedom of movement) or with a Canadian style deal (no freedom of movement and restricted access for the services sector). Labour politicians are just waking up to the fact that a post-Brexit government led by Michael Gove and Boris Johnson will not be friendly to workers’ rights; those EU regulations they want to sweep away include labour market protections. Labour voters will only find that out, of course, if they vote Leave.
There was another example of the contradictions in the Leave camp yesterday when Tony Blair and John Major warned of the impact on Northern Ireland if Britain exits the EU. Currently there are no border controls between southern and Northern Ireland. So our options if we leave are:
1) continue with no controls (which Leave says will happen)
2) take control of our borders (which Leave also says will happen)
Both can’t be right. As far as I can tell, Leave claims that the Irish can be relied upon for our security, and that migrants won’t come across the border because they won’t have the permits to work. Your blogger is all in favour of immigration but this seems the flimsiest of arguments. If work permits are all we need to control borders, how come we have to stand in long lines at Heathrow? And if the Irish are in control of our borders, then Britain is not.
Anyway, the shoddy reasoning may win out in the end. And then people will complain later in 2016 when jobs are lost and the purchasing power of their pounds declines, and say that no-one told them such things might happen. And it will give the rest of us no satisfaction at all to say “Ye ken noo”.
* For those unfamiliar with the Scottish dialect, they are saying “We didn’t know”. And God replies “Well, you know now.”
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