In the movie Big Trouble in Little China there’s a classic line by the ‘hero’ of the show, Jack Burton. The group he’s leading is in a panic as they’re getting away from the bad guys. But Jack reassures them in a swaggering drawl… ‘Everybody relax, I’m here.’
Yesterday, Atlanta Fed president Dennis Lockhart did his best impression of Jack Burton. In a Bloomberg television interview he said,
‘There certainly seems to be an acute fixation on the timing of any adjustment to the asset purchase program and I guess I would just encourage everyone to not lose sight of the bigger picture.
‘Any adjustment is not a major policy shift. The high level of accommodation will stay in place.’
There you go…everybody relax, the Fed’s here.
Or maybe just the Atlanta Fed. Because before that, San Francisco Fed President John Williams said an improving US economy would allow the Fed to pare back its purchases of bonds in the coming months.
This has all got beyond ridiculous. These Fed muppets have absolutely no idea what they are doing. They are desperately trying to placate markets while pretending to be committed to price stability and withdrawing record stimulus.
Our friend Jim Rickards summed it up best in a recent tweet. ‘After two years of “risk on, risk off”, we now have “taper on, taper off”. Madness. There are no markets left, just puppet shows by the Fed.’
It wasn’t long before poor economic data turned the market from taper on to taper off. Because soon after the various Fed verbal acrobatics, we got news that US manufacturing contracted in May. The widely watched Institute of Supply Management’s gauge of manufacturing in the US fell to a four year low of 49, down from 50.7 in April. Any reading below 50 signals contraction.
But who needs manufacturing and the production of real stuff when you have the Fed?
Well, China could do with a bit more of it. After the ‘official’ reading came out over the weekend showing modest expansion, the HSBC reading out yesterday showed a manufacturing contraction. There’s a dilemma for you…do you believe the Chinese government or a bank? Either way, it shows China is struggling.
And you’d think Australia’s economy could do with a little more manufacturing activity too. Our index came in at 43.8 in May, marking the 23rd consecutive month of contraction. While it was a better reading than the depression-like conditions of April (where the index had a reading of 36.7) our makers of ‘things’ are still clearly hurting.
That hasn’t been an issue for the past 20 months or so because we’ve had the mining boom to cushion the impact. But now that is going, going, gone.
So what does the Australian economy rely on to drive growth now? The RBA hopes that lower interest rates will lead to another boom in housing and consumption. Phil Anderson argues it doesn’t really matter…the stars are aligned to give housing another 14-year bull run.
Phil makes a convincing argument, but we’re sceptical. Then again our scepticism comes from taking note of the ‘fundamentals’, those quaint little bits and pieces of data that are meant to provide the foundation (or otherwise) for asset price movements. And they don’t seem to matter anymore.
Although RP data did report a 1.2% fall in Aussie house prices during May. Just a blip, we’re sure…
Anyway, we’ll see just how concerned the RBA is about the Australian economy at 2.30 today when it announces its interest rate decision. The consensus is that it will remain on hold. We have no idea what they’ll do. We can only tell you that rates will probably be a lot lower in six months’ time.
Because we doubt a new consumer or home construction boom will take up the slack of the slowing mining boom. So the RBA will have no choice but to resort to the same playbook that every other central bank in the developed world is resorting to. That is, cut interest rates and pray.
But Australia has one disadvantage in this game. We’re a peripheral economy and a large debtor nation. That is, we don’t have the same ability as the US, Japan, or even the UK to cut interest rates to the bone and still be able to attract foreign capital to fund our $800 billion-odd debt pile.
Yes we can cut interest rates, but that will send the dollar lower, which will eventually feed through to higher inflation, which will force interest rates back up. Keep in mind that although the higher dollar has hurt manufacturing and many other parts of the Aussie economy in recent years, it has enabled interest rates to remain very low and provided an added benefit for our foreign creditors to keep providing credit (that is, a currency windfall).
The strong Australian dollar has kept a lid on imported inflation…so even though domestic prices seemingly rise every other day, import prices have ‘deflated’ keeping the overall price level stable (that’s if you buy a mass-produced electronic item with your shopping every week).
A weakening dollar will slowly (it takes a while to flow through into the economy) seep into higher imported inflation…and combined with higher domestic inflation, you’ll eventually see rising prices play havoc with the RBA’s ability to blow another bubble…somewhere, anywhere.
But that’s probably a story for 2014. Exchange rate effects take time to flow through to consumer prices and you have to take into account the fact that companies might absorb or pass on higher costs emanating from a weaker dollar.
For now, it’s fair to say that Australia is between a rock and a hard place. Slowly but surely, the vice is tightening.
But don’t worry. Channel your inner Micawber. Something will come up.
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