Monday, April 11, 2016

Feds recent flip has helped China and hurt Japan, Europe

In March I re-emphasized my view that the Fed ‘put’ (i.e., the point at which the Fed admits failure and flips from hawk to dove) would not be seen until mid-2016 and would require the cash S&P500 index to drop into the 1500s. Clearly, I had given the Fed too much credit – it flipped after a drop to 1810 and shifted in March, all much earlier than I had expected.

Clearly, my confidence on my negative views for global growth, on my belief in deflation over inflation and on the deeply negative outlook for earnings are now set even more in stone. The Fed has told me as much. In fact, I suspect that the Fed in private is far more concerned about these factors then it is currently willing to admit.

The Fed’s change in March was all about weakening the USD, which in turn is designed to help the US economy fight off imported deflation, instead of which the Fed hopes to import inflation into its economy (all to try and hit the 5% nominal GDP growth target which I discussed in my March note) and with it the hope that it helps US exporters regain competitiveness. USD weakness also helps crude and commodity exporters, and it helps the EM world, which has suffered from commodity price weakness and tight USD financial conditions at a time when the EM world is drowning in USD debt. 

China is a huge beneficiary as the Fed’s flip and USD weakness allow China to continue devaluing vs the world ex-the US without having to do anything itself, and it helps (at the margin) the heavily USD-indebted Chinese economy. The big losers are of course Japan and Europe, and this is compounded by the fact that both the ECB and the BOJ are, in my view, already at the limits of what they can do credibly. Just look at price action on the EUR, on European stocks, on core duration in Europe, on the JPY, on the Nikkei and/or on JGBs. The charts speak for themselves and should concern policymakers at both these institutions.