Ahead of the Thanksgiving 2013 Break

November 21, 2013

Private and public analysts have lately expressed more optimism about the global economic outlook, but the reality is still fraught with plenty of downside risk.  The fourth Friday of November arrives this year on the 28th, which is its latest possible date for Thanksgiving and associated with the shortest possible U.S. holiday shopping season.  Beyond yearend lurks another fiscal showdown between Democrats and Republicans in January.  America’s demographic advantages are counter-balanced by a number of liabilities such as waning geopolitical influence, voter distrust of the political process, technology that doesn’t create enough jobs, widening wealth inequality, confusion over the juxtaposition of disinflation and the Fed’s balance sheet.

Other economies face problems, too.  Euroland’s recovery is a touch-and-go situation, and disinflation has now exceeded safe boundaries.  Doubts persist about whether Japan’s recovery has legs.  Consumer confidence there has faltered.  In China, the Third Plenum of Communist policymakers revealed planned reforms that markets wanted to see, but it remains to be seen if the broad intentions are transformed into concrete actions.  In any case, other nations have to get used to a new normal Chinese growth rate that will be two or more percentage points weaker.  Other emerging economies are struggling even more discernibly.  The OECD just revised combined Indian projected 2013-14 growth downward by 2 percentage points (ppts) per year and reduced Brazil’s likely growth in those years by 1 ppt per year.  2013 has been a tough year for emerging market currencies.  Some stabilized but only briefly and are proving vulnerable again.  Australia is an industrialized economy but one with a significant resource sector, and officials there have vocalized mounting worry that the Aussie dollar hasn’t weakened more sharply.  At this Thanksgiving, chances seem to be growth that more, not less, currency market interference will be seen in the coming year and not just by Australia.

The dollar’s relationships with the euro and yen have lately hinged on shifting speculation about the future path of Fed tapering.  Official signals on this matter have been mixed, but other messages are clearer.  Fed officials want to anchor low short-term interest rates for considerably longer, and they do not want the yield curve to steepen much.  A 3% 10-year Treasury rate in early September was protested in several ways.  The yield fell to 2.49% by within seven weeks but has recouped over half of the drop over the past month.  The possibilities of an equity or housing bubble appear to bother officials less than the continuing huge jobs deficit and the extent of disinflation.   The economic outlook has similarly not improved enough since Labor Day that a 3.0%+ long-term interest rate would be acceptable to Fed officials in the near future when it clearly was not considered okay just two months ago.  Tapering could happen before March but only, I believe, if officials are confident that such can be started without risk of an undue upward response in long-term rates.  Tapering as soon as March can only happen under that condition or if officials become more confident in sustained stronger job growth and other signs of a healthier labor market.

While the stock market has weathered the swings in long-term interest rates since Labor Day, the dollar mirrored the fall and rebound of Treasury yields.

  September 5 October 23 November 21
10-Year Tsy 2.99% 2.49% 2.78%
EUR/USD 1.3118 1.3794 1.3468
USD/JPY 100.11 97.37 100.98
DJIA 14,938 15,413 15,990

It seems unlikely that the dollar will appreciate much further during the coming three months.  Longer term, and by that I mean years not quarters, the trend is apt to be down.  Everyone’s got problems.  However, the dollar still constitutes a hefty and dominant share of reserve asset portfolios, and the U.S. chronic current account deficit continues to hover near 2.5% of GDP.  The dollar will be the obvious liability currency in the continuing diversification of currency holdings.  This is in fact not a new phenomenon.  From its pre-1973 fixed parities, the U.S. currency has in fact already fallen extensively.

Copyright 2013, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.

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