The high-frequency data cycle starts anew. The investment climate continues to be shaped by the virus that is depressing economic activity and fueling pressure for policy responses. In parts of Europe and the US, the pandemic surge from the holidays is breaking, and a third vaccine (Johnson and Johnson) appears to be a few weeks from being approved. Meanwhile, after rallying strongly in the first few weeks of the New Year, equities saw dramatic profit-taking into month-end.
The flash January PMI readings hinted at it, but last week's Q4 GDP reports (US, Germany, France, and Spain) confirmed a new divergence is opening between the US and Europe. Not including the fiscal debate currently in the US, but encouraged by the $900 bln-package approved last year, the IMF revised up its forecast for US growth to 5.1% from the 3.1% projection made in October. Due in part to the slow rollout of the vaccine and the extension of social restrictions, the forecast for eurozone growth was cut from 5.2% forecast for the eurozone to 4.2%. The IMF took Japan's new stimulative efforts onboard and boosted its projection for growth in the world's third-largest economy to 3.1% from 2.3% this year.
The new divergence will be home next week as final January PMI reports. We recognized that an upside correction was likely after the losses in November and December within our larger dollar bearish view. The risk is that the divergence extends this corrective/consolidative phase. We note that a divergence has not translated into wider bond differentials. In fact, over the past two weeks, the US 10-year premium over Germany narrowed by around a dozen basis points, unwinding more than half the widening for the first half of the month. Similarly, the premium over Japan rose by a little more than 20 bp in the first half of January and subsequently returned about three-quarters.
However, the same forces that facilitate the divergence and provide for the greenback's resilience in the first part of this year strengthen the bearish case. The expansion of the US fiscal policy is going to fuel more growth. The IMF estimates that President Biden's $1.9 trillion package would boost growth by another 1.25 percentage points and five percent over the next three years. The subsequent growth differentials will boost the US external deficits, all else being equal. The forces represented by the twin-deficits are a common element of many negative dollar-scenarios, even if not in so many words.
Three US data points stand out in the week ahead: jobs, auto sales, and trade. After a loss of 149k jobs in December, around 100k people are expected to have returned to their jobs in January. At the end of last year, unemployment insurance was being paid to around 16 mln Americans. The job loss in December was the first in eight months, and about 10 mln fewer people are employed now than a year ago. The damage will take months to repair. The elevated number of people filing for state unemployment insurance warns that the progress will be slow and haltingly. The January employment data will not move the Fed's needle, and it will see another one before the March meeting and provide updated economic projections.
Auto sales are arguably an under-appreciated high-frequency report. The auto sector accounts for a little less than 3% of US GDP, but there is other insight to be had. It is the largest durable good that most households purchase. Auto sales averaged (seasonally adjusted annual rate) about 16 mln vehicles a month in Q4 20 and 14.4 mln for the entire year. That compares with the 16.9 mln average in 2019 and 17.2 mln in 2018. January auto sales look to be around that Q4 average. Even if sales do not accelerate, the low level of inventories may encourage production in the coming months. Biden administration officials will hold talks with Taiwan officials and industry officials to pressure them to ensure a sufficient supply of semiconductors used for autos. The experience will reinforce the import-substitution thrust that, can we say, pre-dates Biden?
Through November, the US recorded an average trade shortfall of about $55 bln in 2020, up from nearly $48.5 bln in 2019 and about $47.5 bln in 2018. The December goods balance reported last week showed a little improvement, helped by a 4.6% recovery of exports that brought it back to levels seen before the pandemic struck. Imports were up a milder 1.4% to their highest level since October 2018. Good imports plus exports reached their highest level since May 2019, which is evidence of the recovery of trade.
Last week, the Census Department reported that China had met a little less than 2/3 of its obligations under the Phase 1 trade deal. It met 82% of its agricultural goods commitment and 63% of its obligations for manufactured goods. China's energy imports from the US were only 37% of its commitment, though some allowance may be allowed given the price drop. In the early days of the Biden Administration, the Treasury Secretary and the Secretary of State have been strongly critical.
At the same time, nearly immediately as Commander in Chief, Biden sent a carrier battle group into the region to demonstrate freedom of navigation. This, days after in an unprecedented move under America's 40-year old one-China policy, invited the defacto Taiwanese ambassador to the US for his inauguration. Recall that in December 2016, shortly before the Electoral College vote, President-elect Trump became the first US President or President-elect to have a telephone conversation with the Taiwanese President. China appears to have become more aggressive in the area, and the US and other countries are responding too. Germany is talking about sending a frigate into the region.
Beijing escalated its rhetoric at the end of last week, saying explicitly that "independence means war." Reports suggest that the hardliners worry that Taiwan is moving toward independence and with the world opinion critical of China for the horrific treatment of the Uighurs and the crackdown in Hong Kong, which conflated that two systems, and perhaps with a new US President, this is the historic moment. Taiwan President Tsai Ing-wen has repeatedly said Taiwan is an independent country. Its formal name is the Republic of China, she notes.
The eurozone's Q4 GDP and final PMI readings will underscore the divergence of which we have highlighted. The new information will be the preliminary January CPI figures. While the eurozone is experiencing disinflationary forces. ECB President Lagarde cited weaker demand and the drop in oil prices as important drivers.
However, those who follow these things closely know that some distortions have exaggerated the downside pressure on inflation. The pandemic, for example, altered the timing of some seasonal retail sales promotions. Germany temporarily cut its VAT last July. This depressed prices, but its end was reflected in January CPI. Using the EU harmonized methodology, German CPI jumped 1.4% in January, well above the 0.3% economists had forecast (median) in the Bloomberg survey. The year-over-year rate surged to 1.6% from minus 0.7% in December. That will likely support the aggregate report on February 3. It might be blunted by the fact that prices often fall in January. At the aggregate level, CPI fell by 1% in both January 2020 and January 2019. In 2018 and 2017, CPI fell by 0.9% in January.
Most major central banks do not meet in February. Three of the G10 central bank do meet, and two of them next week, the Bank of England and the Reserve Bank of Australia. The BOE may be the more interesting of the two. Not because it will change policy but because of its soul-searching about a negative policy rate. Short-sterling futures (three-month deposits) imply a negative rate from April through December this year. The coupon curve is negative through five-year maturities. Officials have been surveying British banks about the impact of negative interest rates and will report their findings next week. While technically possible, there is clearly no urgency.
Trade disruptions caused by Brexit have been mitigated in the short-run by the inventories that had been accumulated in preparation. Reports suggest more disruptions will be evident in the coming weeks. Meanwhile, sterling has seemed practically impervious to the better performance of the dollar more broadly. In the 13 weeks since the end of October, sterling has fallen in only two weeks. Yet, in terms of magnitude, the advance has been a mild 1.8% over the run (which is the best among the majors).
The Reserve Bank of Australia is one of the few G10 central banks that will be in February. It is unlikely to do anything. Like the Federal Reserve, the RBA is placing more emphasis on the labor market. The next jobs report is due in the middle of February. Unemployment stood at 6.6% in December, up from 5.1% before the pandemic struck. Governor Lowe speaks a couple of times next week, and while he may further elaborate on the current policy, no new initiatives or forward guidance is expected.
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Reviewed by Marc Chandler
on
January 30, 2021
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