Yield Curve Inversion Amplifies Recession Fears and Flight to Safe Assets

August 14, 2019

The 2-year Treasury note yield edged marginally above the 10-year yield for the first time in 14-1/2 years. This and a similar yield curve inversion in the U.K. happened as investors selectively fixated on weak data while ignoring some better-than-expected statistics, causing share prices to drop sharply in Europe and the United States. Losses amount to 1.6% in the DJIA and 1.3-1.9% in Germany, France, Italy and the United Kingdom.

The 10-year Treasury yield slumped 10 basis points to 1.60%. This compares with a closing high this year of 3.13% a half year ago. Yields dropped 3 basis points in Germany and the U.K. and by even more is several other European countries.

Earlier today, the Pacific Rim avoided this panic. The 10-year Japanese JGB yield firmed 2 basis points, and share prices closed up 1.0% in Japan and India, 0.9% in Indonesia, 0.7% in South Korea, 0.6% in Taiwan, and 0.4% in Australia and China.

A 13.6% June increase in core domestic machinery orders was far greater than forecast and resulted in a 4.1% year-on-year advance in the second quarter as a whole. Foreign orders for machinery rose 6.7% in June.

Australian wage cost inflation of 2.3% from a year earlier was the same in the second quarter as posted in 1Q. Consumer confidence according to Westpac-MI recovered 3.6% in August.

On-year growth in South African retail sales of 2.4% was at a 2-month high.

The price of Comex gold climbed another 0.8%, and at $1,526.1 and has risen over $300 per ounce since late November. West Texas Intermediate crude oil, however, dived 2.9% earlier today.

The Argentine peso recouped a small part of its massive losses earlier this week but remains highly vulnerable. The Mexican peso fell 0.6% against the dollar, whereas the Japanese yen advanced that amount. The dollar strengthened against such commodity-sensitive currencies as the loonie, kiwi, and Aussie dollar, but it dipped 0.3% against the yuan and 0.1% relative to sterling.

The first piece of discouraging economic data today came from China, where industrial production posted a 4.8% year-on-year increase in July, smallest in 209 months and down from a 6.3% increase in June. On-year growth in retail sales likewise slowed appreciably to 7.6% from 9.8% the month before. Fixed asset investment in July was lower than the first-half pace, and unemployment rose 0.2 percentage points to a 5-month high of 5.3%.

A 4.0% monthly drop in capital goods output caused overall Euroland industrial production to slump 1.6% in June. that was the biggest monthly decline this year and caused the year-on-year rate of decline to more than triple to 2.6%.

Euroland GDP growth in the second quarter slowed sharply, but the data released today did not deviate far from advance estimates already reported. GDP rose 0.2% on quarter and 1.1% on year, half the 2.2% increase over the previous four quarters through the spring of 2018.

Among the three largest euro zone economies, German GDP fell 0.1% for the second time in the last four reported quarters, resulting in year-on-year growth of only 0.4%, down from 2.0% in the year between 2Q17 and 2Q18. Italian GDP was unchanged both from the prior quarter and a year earlier. French GDP growth printed at 0.2%, down from 0.3% in the first quarter and 0.4% in the final quarter of 2018, resulting in a 1.3% year-on-year rise. In highly trade-dependent Belgium, GDP rose just 0.2% last quarter. Austrian GDP also rose that amount.

Stronger quarterly growth was experienced in Eastern Europe of 1.1% in Hungary, 0.8% in Poland and 0.6% in the Czech Republic.

On-year growth of employment in Euroland decelerated to 1.1% last quarter from 1.3% in each of the prior two quarters, 1.4% last summer, and 1.6% in the second quarter of 2018.

A slew of reported British price data saw CPI inflation unexpectedly accelerate to a 3-month and above-target 2.1% in June. Core CPI of 1.9% was at a 4-month peak. Producer output price inflation climbed 0.2 percentage points to 1.8%, while producer input price inflation inclined a percentage point to 1.3%. The ONS-compiled house price index remained 0.9% greater than a year earlier.

French unemployment dipped 0.2 percentage points last quarter to 8.5%, and CPI inflation last month slid to 1.1%. Energy prices registered their fourth consecutive monthly decline.

Indian wholesale price inflation dropped to a 25-month low of 1.08% in July from 2.02% in June, 3.24% in April and a high in October 2018 of 5.28%.

U.S. import prices, which were projected to be unchanged last month, instead rose 0.2%, but a 1.8% decline from a year earlier contrasted sharply with a 4.8% advance over the twelve months through July 2018. Dollar strength depresses import prices and, other things being toe same, provides the Federal Reserve with greater motivation to cut interest rate.

So a debate over the cause of slower U.S. growth continues to gain steam. Does such reflect overly high Federal Reserve interest rates, as President Trump but hardly any economists maintain, or is it the predictable result of Trump’s trade war and a hangover from the fiscal high that followed the big tax cut package earlier in his presidency? U.S. tariffs imposed to achieve a more level playing field have elicited retaliatory barriers against U.S. exports and depressed foreign demand in general. Protectionism has invariably led to adverse consequences for virtually everybody. Why should it be different this time?

Copyright 2019, Larry Greenberg. All rights reserved. No secondary distribution without express permission.

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