Danger! Political roadworks!

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Nov 07, 2019
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You’ve been marooned on a desert island these past few months: your mobile’s full of seawater and, even if it weren’t, there’s neither signal nor wifi; you’ve had no human contact since your shipwreck, no company except turtles and seagulls. One day a passing ship is attracted by your frantic signals. Rescue!

After a long bath, a shave, a good meal and a stiff gin, spirits restored you buy a newspaper to catch up. Adorning the front page is a large photo of the UK prime minister and the US president talking together, followed by sensational paragraphs describing the UK Supreme Court’s finding that Boris Johnson acted unlawfully in proroguing parliament, and how Westminster is burning in the heat of moral indignation; Donald Trump, furthermore, is to face impeachment by Congress for dodgy dealings with some Ukrainians.

In the business section it reports the German 30-year government bond has a negative yield (whereby the holder of the bond pays for the privilege of owning it). Turning to sport, Ireland has just been walloped by Japan at rugby.

Guessing you’re in a parallel universe, you’re strongly tempted to demand the captain of your rescue ship restore you to your solitary confinement until the world returns to normality.

Economically, it hasn’t been the finest moment for central banks either. As global growth decelerates towards 2.6 per cent this year from 3.2 per cent in 2018 – stoked by Trump’s use of tweets, tariffs and trade barriers against any economy with a substantial trade surplus with the US and with which he has a political beef (principally China, Germany, Japan and Mexico) – so central banks have been furiously debating how to head off an incipient global recession.

Markets have been 10 steps ahead since the beginning of the year, and the central banks are frantically trying to play catch-up and give some semblance of leadership. In July, the US Federal Reserve was forced to concede a cut in interest rates of 0.25 per cent, having raised them as recently as last December.

In emollient tones, Fed chairman Jerome Powell declared it was nothing more than a “mid-term policy adjustment”, and nothing to be excited or concerned about. Investors, unconvinced, continued their flight to safe-haven assets, aggressively buying bonds of Western governments and large, high-quality companies, forcing prices up and yields down (around 26 per cent of total government debt globally now has a negative yield).

"The central banks are frantically trying to play catch-up and give some semblance of leadership"

In the meantime, as analysts also took their red pens to economic forecasts, by the time of the Fed’s September meeting it felt impelled to cut interest rates by a further quarter point to 1.75 per cent to 2 per cent, declaring: “If economic conditions continue to deteriorate, we are prepared to be aggressive.”

Consider the absurdity of that statement: “aggressive” from 1.75 per cent. The 1990 recession needed US interest rates to fall from 9 per cent to 3 per cent to deal with it; in the 2001 recession, the fall was from 7 per cent to 1 per cent (including the aftermath of the dot.com bubble, 9/11 and the war on terror); and, in the looming sub-prime mortgage crash, the global financial crisis and subsequent recession, the fall was from 5.25 per cent in 2006 to 0.5 per cent in 2009, an interest rate that endured more than half a decade and eventually dropped to 0.25 per cent in August 2016.

In every case, recession has required a multiple percentage point response; yet Powell has faith in the effectiveness of his firepower with no more than two points’ worth of headroom before he hits the 0 per cent buffers.

One hopes that, if recession comes to pass, it’s rather less than a third as bad as anything previously.

Quantitative easing

The European Central Bank fared no better. In September it admitted recessionary pressures blighting Italy, Germany and France required a resumption of quantitative easing (from 1 November at a rate of €20bn [£17.23bn] a month) and the reduction of interest rates from -0.4 per cent to -0.5 per cent. Nine of the 25 council members of president Mario Draghi’s board, including Germany, fundamentally disagreed with him.

Effectively admitting he was out of monetary policy bullets, Draghi’s parting shot to the EU ahead of his retirement on 31 October was to join the clarion calls of Macron, Juncker and others demanding full fiscal union across the EU to create a proper, homogenous economic system.

It’s entirely logical. But, given it requires political union as a pre-requisite and the full concession of national sovereignty, EU members will eventually be confronted with a decision just as fundamental as ours with Brexit: in or out?

John Chatfeild-Roberts is head of strategy for the Jupiter Independent Funds team


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