September-October
2019 Outlook: Here We Go Again
Tue, 03 Sep 2019 12:30 PM EST
Perhaps its déjà vu, but the next few months could see significant new
developments in global macro issues that were supposed to have been resolved
months ago. The Brexit, now scheduled for October 31, was supposed to have
occurred in March, and now may be delayed again. We were told a US/China trade
deal was “90% completed” in June before Beijing backed off, and now nothing may
come of it before the end of the year.
The issues are the same, but circumstances are different, at least as far as
the economic environment. The trade tensions have built up uncertainties and
slowed growth, enough to trigger a reversal by central banks that had been
charting their paths to normalizing monetary policy but have now resumed
easing. The yield curve is has begun to flash warning signs – many inversions
have occurred already, and in recent weeks the critical 2-10 year yield curve
inverted for the first time, solidifying the signal that recession may be on
the horizon.
The central market thesis is that the US will amicably resolve its trade
disputes with China, Europe and other trading partners and central banks will
stay cautious and keep their monetary policy supportive. Some key events over
the next two months will reveal how accurate those expectations are:
September 1: 15% tariffs go into effect on $112B of Chinese goods
Despite reports that Chinese negotiators asked for a delay, new tariffs went
into effect on September 1 on a wide variety of products including consumer
goods like clothing, kitchenware, and footwear amounting to over $110B. The
larger portion of tariffs on consumer goods, over $160B worth, have been
delayed to December over White House concerns that they might have soured
spending during the upcoming holiday season. A late August report that Chinese
negotiators claimed to have made progress on restricting exports of fentanyl
did not appear to have been enough to sway President Trump to show any leniency
on the September tariffs, which he proclaimed to be ‘still on.’
The uncertainty over the US/China trade talks is running so high that each time
the parties merely say they are still in contact the market takes it as if it’s
a breakthrough. If that low bar persists, the announcement of a concrete date
for new face-to-face talks could be the next shot in the arm for markets. For
weeks the White House has been insisting that a fresh round of high-level
in-person negotiations will occur in Washington in early September and for
their part the Chinese have not dismissed the idea. However a firm date has not
been set for this highly anticipated meeting and the latest reports say the
September tariffs have eroded trust, leaving in doubt when any announcement
will be forthcoming. Locking in a meet date will likely raise hopes that the
negotiators are getting back toward the “90% complete” threshold that they
claimed to reach earlier this year, but markets could get nervous as the days
tick off the calendar in September without an announcement.
September 10: North Carolina special election
A special election for a House seat will be resolved on September 10 and it
could have implications for the 2020 election. North Carolina's 9th District,
anchored by Charlotte's suburbs, shouldn't be a toss-up: in 2016, candidate
Trump carried it 54% to 42%, more than triple his statewide margin of victory.
Yet the race is too close to call between Marine Corps veteran Dan McCready, a
Democrat, and his opponent Republican state Senator Dan Bishop. A Democratic
victory in the historically conservative district would be a bad omen for
Trump’s reelection hopes. It might also affirm that Republican politicians
foresee strong headwinds in next year’s general election – a substantial number
of Republican Congressmen have already announced they will not seek reelection
next year and such retirements are often a signal that the party in power
anticipates a defeat in the next general election. At some point, the markets
will recalibrate to the prospect of a Democrat occupying the White House in
2021 which may lead to some risk off behavior.
September 12: Democratic debate
Just two days later (9/12) the Democratic presidential hopefuls will hold
another debate. The candidates on stage have been whittled down to ten and, and
though its still early, Joe Biden and Elizabeth Warren appear to be pulling
away from the pack as the most likely winners of the nomination. Biden is seen
as the ‘safe’ candidate, relying on “electability” and personal character even
though it appears he may have lost a step in his dotage. Warren is definitely a
more radical candidate, and if she should pull ahead in the Democratic polls it
could spook markets at some point. She could also push China into the arms of
President Trump – her platform on trade is even more protectionist than
Trump’s, demanding compliance with high environmental and labor standards, and
might incent China’s leaders to choose a deal with the current Administration
as the lesser of two evils.
September 12: ECB policy decision
Central bankers are being counted on again to take the lead in reinvigorating
global growth, despite mandates that don’t explicitly stretch beyond their own
borders. In recent weeks the European Central Bank has sent strong signals that
its record low interest rate could be heading even lower as early as September.
Markets are also hoping the ECB will return to more unconventional policy with
a new quantitative easing program in September.
But ‘not so fast,’ say some northern European members of the governing council.
The Netherland’s Knot recently threw cold water on the idea of new
extraordinary stimulus, saying the market expectations for the September ECB
decision are “overdone.” Knot made the case that conventional rate policy
should be enough for now, and that the central bank should keep its QE powder
dry in case of a new shock.
The ECB doves want to see more government bond purchases, though even they are
ruling out purchases of stocks or bank bonds at this point. As rates go lower
there is also debate around how to lessen the adverse effects of negative interest
rates on banks’ interest income, with so called ‘tiering’ (reducing the amount
of excess liquidity subject to a negative interest rate) and modifications to
the TLTRO being discussed as options.
The September meeting is the last for President Mario Draghi before he hands
over the reins to Christine Lagarde. Markets often test new central bank
leaders early in their terms, but Lagarde may have the advantage of being a
well known quantity after her years heading the IMF. However, with Germany and
the other euro zone nations experiencing weak data still unwilling to flex
their fiscal policy muscle, it may fall on Lagarde to take ECB policy to new
extremes of accommodation as her term starts.
September 17: German ZEW economic sentiment
Hopes that the export-oriented German and wider European economies would
benefit from US trade war with China – by China substituting European imports
for American ones – have not materialized. The general global trade malaise is
dragging down German manufacturing, leading to new orders falling at the
fastest pace in a decade. On the bright side, German consumer spending has held
up, preventing the service sector from entering contraction.
The German ZEW index, which measures bullishness versus bearishness among analysts,
has been negative for all but one of the last seventeen month, and last month
it dove below the trend range to levels comparable to those seen during the
2008 financial crisis. That magnitude of bearishness is concerning and will be
more troubling if it is confirmed in the September 17 reading.
Less than a week later, the German Flash Manufacturing PMI (9/23) will give
another read on the situation in central Europe. The manufacturing PMI has been
showing a state contraction for every month so far this year and yet another
reading in the low 40’s would help confirm the dire straits German industrial
firms have fallen into after experiencing a brief boom in 2017 and early 2018.
All this negative sentiment plays into the narrative that the German government
may be considering new fiscal stimulus to fight off a more severe downturn.
Germany is at risk of falling into a technical recession when it reports Q3 GDP
(11/14), after posting a 0.1% decline in the Q2 reading. So far, however,
Berlin has been reluctant to veer from its balanced budget goal. Despite
European neighbors and economists urging Germany to go on a stimulative
spending spree, the German government appears to be willing to take only modest
measures. The stain of a recession later this year may be enough to prod the
Germans to think bigger in the months ahead, perhaps dedicating some funding to
much needed infrastructure spending, an area that has been largely neglected
since the post-unification splurge in Germany. The cheers would be loud among
economists if Berlin does decide to abandon the balance budget target and
strategically spend its reserves.
September 18: FOMC rate decision
How the Fed navigates the rest of the year will be a delicate dance with market
sentiment, as it attempts to provide some accommodation without giving up all
of its ammunition, all while trying to avoid the perception that the central
bank is underwriting the trade war. The dovish case that weak inflation and
uncertainty over global trade and other macro issues has so far won out,
leading the Fed to cut rates in July with another cut all but assured in
September. However, two hawkish dissenters in July and Chair Powell describing
the cut as a “mid-cycle adjustment” injected some doubt about the extent to which
the central bank stands ready to act to sustain the current economic expansion.
As occurred in July, some market analysts are speculating again that the Fed
could make a dramatic statement by cutting by 50 basis points in September.
Such a move might backfire, however, as it might convey the Fed is deeply
nervous about an impending recession. So a 25 basis point cut seems to be the
safe bet: it would show market participants that the Fed is responding to their
concerns, while leaving flexibility for the next step in monetary policy as
more data comes in. At this point, Fed fund futures are anticipating another
rate cut in October and possibly a fourth 25 basis point cut December, which
seems quite aggressive and leaves the markets open to disappointment.
October 1: Japan consumption tax rises another 2%, to 10%
In October, Japan will raise its consumption tax to 10% from the current 8%
level. Prime Minister Abe has already postponed the increase twice on concerns
it could cause a slowdown, but his government is resolute that no further
delays will be tolerated except in the event of a global financial crisis.
Consumption tax hikes in 1997 and 2014 were followed by serious economic
downturns, so the stakes are high given the current shaky global environment.
The ultimate result may be that Japan needs to add fresh stimulus measures to
offset the impact of the tax increase.
The tax increase comes at a particularly sensitive time as Japan finalizes its
trade deal with the US. Negotiators have reached an ‘agreement in principle’
that is expected to be signed during ceremonies at the UN General Assembly in
the second half of September. The agreement is said to reduce industrial
tariffs, and address agriculture and digital trade issues. It does not, however,
remove the 2.5% tariff on Japanese vehicles and auto parts that Abe sought, but
it should eliminate the possibility that Trump will renew his threat to impose
a 25% tariff on Japan auto exports to the US. Abe has stopped short of pledging
to purchase hundreds of millions of dollars in US corn and other agricultural
products as Trump has urged him to do, but the bilateral trade deal could still
be a boon for the farm belt. The deal is also not comprehensive: as the Chamber
of Commerce is quick to point out, the bilateral trade agreement does not
tackle key regulatory barriers and IP protection, subjects that were covered in
the Trans Pacific Partnership. As a result US exporters have been losing out on
some sales to Japan that are going to TPP partner countries instead.
October 1: China tariffs rise another 5%; 70th anniversary of the founding
of the People’s Republic
The US will raise tariffs by another 5% to a total of 30% on $250B of Chinese
goods on the first of the month in what appears to be Trump’s strategy of
slowing ratcheting up the pain as long as China doesn’t move toward a deal.
Trump has played both the good cop and bad cop during these negotiations and
may decide to delay or waive the additional 5% duty if he senses progress being
made. Either way the markets will continue to watch his tweets with baited
breath as the day to day uncertainty over the talks persists.
For his part, China’s President Xi will find it very difficult to give into any
America demands that would cause him to lose face amid the pomp leading up to
the 70th anniversary of the founding of the People’s Republic. The mid-November
APEC meeting that will be attended by both Trump and Xi would seem like a
logical target date to get a deal done if it’s going to happen this year.
Meanwhile the clock will be ticking down to the next deadline on December 15,
when tariffs will escalate again on over $160B in Chinese consumer goods, and
China will institute its previously announced retaliatory duties.
If no deal coalesces in the next few months, the risks of further retaliations
will grow. China has already showed a willingness to allow a freer float of its
currency, which enabled it weaken past the key 7.00 level in early August,
suddenly crystalizing concerns that the trade war could expand into a full
blown currency war. Beijing could also escalate into areas such as increased
audits on foreign operations within the country, challenging free navigation in
Asian waters, or even reducing its US Treasury purchases. More quietly China
may already be withholding its assistance on North Korea, which perhaps not
coincidently has conducted a series of missile tests this summer after
remaining dormant for over a year.
October 15: Q3 earnings season unofficially starts
Corporate earnings reports will begin to flow out during the third week of
October, beginning with the major banks describing how they are coping with a
fresh round of lower rates. Then industry, and finally retailers, will reveal
how incrementally higher tariffs, and more importantly tariff-related
uncertainty, is weighing on their business and planning efforts. Corporate
earnings were solid in Q1 and Q2, allaying some fears that the trade war would
drag down results. But more and more companies with links to China are warning
that the next round of tariffs will crimp their business, and many may have to
raise prices to consumers and end users. This could start showing up in
inflation readings as soon as October. There could be some nasty downward
revisions to Q4 forecasts from many corporations that have already squeezed
their supply chains as much as possible to resist price increases. This may be
the quarter during which firms see no way around raising prices on household
goods, which could threaten the consumer spending that has been the pillar
propping up the US economy. Also any strong uptick in inflation could make an
already divided Federal Reserve even more reluctant to cut interest rates.
October 21: Canada Federal Elections
This fall’s election in Canada could see another G7 nation bring its
conservative party back into power. Throughout the year Canada’s Conservative
Party (CPC) has led in the polls, which could spell the end of Justin Trudeau’s
government. The polls have tightened recently, despite the PM being involved in
an ethics scandal, so the Liberals could still make it a contest. Trudeau’s
favorability rating stands at just 31%, which seems dismal until compared to
CPC leader Andrew Scheer at 38%. Still it will be an uphill batter for Trudeau
as the latest Angus Reid polling found that more than a third of people who
supported the Liberal Party in 2015 are planning to vote for another party at
this point. If he does pull out the victory the Conservative leader has pledged
his government will repeal Trudeau's carbon pricing policy and new standards
requiring cleaner burning fuel, and balance the budget within two years, all
while increasing health transfers and social transfers by at least 3% annually.
October 31: Brexit (?)
New PM Johnson is adamant that the UK withdrawal from the EU will happen
without further delay, no matter the consequences. Johnson’s hope is that the
threat of an unceremonious ‘no deal’ Brexit will be enough to coax the EU into
granting him concessions over the key sticking point, namely the Irish border
backstop. To this end Johnson roped the Queen into the political drama by
getting her approval to suspend Parliament for a month ahead of the October 31
deadline in an effort to impede UK legislators from neutering his ‘no deal’ threat.
That maneuver has European officials stepping up commentary about making
preparations for a potential ‘no deal’ Brexit with just weeks to go to the
deadline. It has also rallied the ‘no deal’ opponents in Britain to quickly
draft new legislation that would delay the Brexit date again, this time to
January 31, 2020. Johnson’s government has only a one vote majority in
Parliament, setting them up for a dramatic vote in the first few days of
September. If Johnson sees any defections and this new bill passes, he has
indicated his next move will be to call for a general election (likely on Oct
14). The stakes are high and Johnson’s government could be one of the
shortest-lived in history.
Even if Johnson is victorious in quashing the Brexit delay, it now seems highly
unlikely he will be able to extract a renegotiated Brexit deal by the
mid-October European Council meeting in six week. In this scenario, Johnson’s
‘no deal’ threat would likely become a reality on October 31, and markets will
be watching for any fallout in the UK…and in Europe. The UK may face
significant challenges in the near term from switching over to WTO rules for
trade in Europe. As the months go by, however, if Britain doesn’t suffer major
economic damage from the Brexit, it may embolden other discontented EU members
(such as Italy) to contemplate leaving the union.
CALENDAR
SEPTEMBER
1: New US tariffs on China go into effect
2: US Labor Day; UK Manufacturing PMI
3: US ISM Manufacturing; Fed’s Rosengren (dissenter) speaks; China Caixin
Services
4: UK Services PMI
5: US ISM Non-Manufacturing PMI
6: US Payrolls & Unemployment; Fed Chair Powell speaks
9: UK GDP; UK Manufacturing Production; China CPI
10: Special Election in North Carolina; China New Loans
11: US PPI; China Trade Balance
12: OPEC+ monitoring meeting; ECB Policy decision; US CPI; Democratic
Presidential Debate
13: US Retail Sales; Preliminary UofM Consumer Sentiment
15: China Industrial Production
16:
17: German ZEW Economic Sentiment; UN General Assembly (9/17-9/30)
18: UK CPI & PPI; US Housing Starts & Building Permits; FOMC Policy
Decision & SEP update; BOJ Policy Decision
19: UK Retail Sales; BOE Policy Decision; Philadelphia Fed Manufacturing Index
20:
23: Euro Zone Flash Manufacturing & Services PMIs
24: German Ifo Business Climate; US Consumer Confidence
25:
26: US Final Q2 GDP
27: US Durable Goods Orders: US Personal Income & Spending
29: China Manufacturing & Non-manufacturing PMIs; China Caixin
Manufacturing PMI
30: German CPI; UK Current Account; UK Final Q2 GDP; Chicago PMI
OCTOBER
1: Additional 5% tariffs on $250B of Chinese goods; 70th Anniversary
of the founding of the PRC; UK Manufacturing PMI; US ISM Manufacturing PMI
2:
3: UK Services PMI; US ISM Non-manufacturing PMI
4: US Payrolls & Unemployment
7: China Trade Balance
8: US PPI
9: China New Loans; FOMC Minutes
10: UK Q3 GDP; UK Manufacturing Production; ECB Minutes; US CPI
11: Preliminary UofM Consumer Sentiment
14: China CPI
15: German ZEW Economic Sentiment; Q3 earnings season unofficially starts
16: UK CPI & PPI; US Retail Sales
17: UK Retail Sales; Philadelphia Fed Manufacturing Index; US Housing Starts
& Building Permits; China Q3 GD; China Industrial Production
18: European Council meeting (10-17 and 10/18)
21: Canada Federal Elections
22: German Ifo Business Climate; UK Autumn forecast statement (tentative)
23:
24: Euro Zone Flash Manufacturing & Services PMIs; Euro Zone Policy
Statement; US Durable Goods Orders
25:
28:
29: US Consumer Confidence
30: German CPI; US Advance Q3 GDP; FOMC Policy Statement; China
Manufacturing and Non-manufacturing PMIs; BOJ Policy Statement
31: BREXIT deadline; Euro Zone CPI; US Personal Income & Spending;
Chicago PMI; China Caixin Manufacturing PMI
NOVEMBER
1: UK Manufacturing PMI; US Payrolls & Unemployment; US ISM
Manufacturing PMI
