Entries from March 13, 2011 - March 19, 2011
Is yen suppression wise?
Overnight concerted intervention to weaken the yen has met with some initial success but there is no expectation that other G7 members will commit significant sums, let alone alter their monetary policies, in support of this effort. Effective yen suppression may require vast Japanese sales and much more aggressive monetary loosening.
As discussed in yesterday's post, the medium-term impact of the Tohoku Pacific earthquake and tsunami is to cut Japan's saving surplus and put upward pressure on real interest rates and the yen. This may be regarded as a benign process by which capital is attracted back to the country to finance the massive reconstruction effort.
A large offsetting loosening of monetary policy is required to offset this natural tendency for the yen to rise. The Bank of Japan today promised "powerful" monetary easing but its only significant announcement to date has been a modest ¥5 trillion expansion of its asset purchase programme. (Temporary liquidity injections into the banking system do not qualify as monetary loosening.) Foreign currency intervention has a similar monetary impact to securities buying so would be effective if conducted on a large enough scale.
The wisdom of such action, however, may be questioned. Facing its worst disaster since the second world war, the Japanese state is increasing its liabilities not to finance reconstruction but in order to purchase foreign government securities, principally Treasuries, thereby aiding the funding of the large US fiscal deficit. The main beneficiary of a weaker yen will be Japan's multinational export companies, which are unlikely to divert an increase in their profits to the stricken region. Higher raw material imports necessary to support rebuilding and allow a shift away from nuclear electricity generation, meanwhile, will be more expensive.
Is dollar-yen heading for ¥66.6?
The suggestion is not entirely frivolous.
The Tohoku Pacific earthquake and tsunami have destroyed supply capacity but will boost demand beyond the short term as a massive reconstruction programme begins. A rise in demand relative to supply implies a fall in Japan's saving surplus and upward pressure on real interest rates. Higher real yields, in turn, push the yen higher relative to its long-run equilibrium value. Unless this long-run equilibrium simultaneously falls (e.g. because of a permanent rise in the risk premium investors demand to hold Japanese assets), this suggests a stronger yen.
Higher real interest rates and a stronger currency are the means by which capital is attracted to finance reconstruction. This capital inflow is the counterpart of the fall in the saving (i.e. current account) surplus.
The upward pressure on the yen could be neutralised by a sufficiently large loosening of monetary policy. The Bank of Japan, however, is unable to reduce interest rates (its target for the uncollateralized call rate is 0-0.1%) and has yet to expand QE significantly. (The additional ¥5 trillion of asset purchases announced this week will be spread over the 14 months to June 2012, implying a monthly rate of less than $5 billion at the current exchange rate.)
The extent of any rise in the yen will depend on the policy response but a target of ¥67 against the dollar has some "technical" attractions:
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The yen strengthened from ¥98.6 before the Great Hanshin earthquake of 17 January 1995 to an intraday low of ¥79.75 on 19 April, a decline of 19.1%. The yen closed at ¥82.9 on 10 March, the day before the Tohoku Pacific earthquake. A 19.1% fall from this level targets ¥67.1.
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The yen's behaviour echoes that of the S&P 500 index in early 2009. The S&P rallied from temporary support at 805 before breaking this level in a final plunge to an intraday low of 666. The yen, similarly, rallied from a low of ¥80.4 in late October but has now breached this support.
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The yen weakened from ¥102.0 to ¥123.8 between January 2005 and June 2007, a rise of ¥21.8. A Fibonacci 2.618 multiple of ¥21.8 is ¥57.0. A ¥57.0 fall from the June 2007 high targets ¥66.8.
UK labour demand rising, consistent with ongoing recovery
The latest official statistics indicate that labour demand is improving gradually, confirming recent survey evidence, including a rise in the Monster index of online job vacancies.
The labour force survey (LFS) measure of employment rose by 32,000 in the three months to January from the prior three months, with a 77,000 gain in private workers offsetting losses of 45,000 in the public sector (including 6,000 in the publicly owned banks). Full-time employment, moreover, rose by 75,000, outweighing a 43,000 decline in part-time working.
The improvement is confirmed by the workforce jobs measure, which rose by 77,000 in the fourth quarter. (This counts positions rather than people employed.) The LFS measure of workers with second jobs jumped by 41,000 in the latest three months – evidence, perhaps, of people seeking additional employment to offset the squeeze on real earnings from higher taxes and commodity prices.
Claimant-count unemployment, meanwhile, fell by 10,000 in February, maintaining the recent downward trend and suggesting that the economy remains on an expansion path despite weather-related GDP volatility – see first chart.
The three-month moving average of vacancies fell slightly in February but was 24,000 higher than in November, although two-thirds of this increase is attributed to hiring in connection with the 2011 Census.
The main disappointment in the figures is a 0.1 percentage point rise to 8.0% in the LFS unemployment rate in the three months to January as the labour force grew by more than employment. The LFS figures, however, often lag the claimant-count measure, suggesting a stabilisation or decline over coming months – second chart.
Government job cuts are progressing much faster than projected by the Office for Budget Responsibility. General government employment fell by 63,000 during the second half of 2010 compared with the OBR's November forecast of a decline of 40,000 by March 2012.
UK floating-rate mortgage share still below 70%
The FSA's latest Statistics on Mortgage Lending, released today, reports that 31.49% of residential mortgages outstanding were at fixed rates at the end of the fourth quarter of 2010, implying 68.51% at variable rates.
The form sent to lenders asks them to split outstanding balances between fixed and variable rates. There is no reason to think that respondents would wrongly classify balances that have moved from a fixed rate to the lender's standard variable rate in the former category.
The FSA statistics are similar to those collected independently by the Bank of England. In its December Financial Stability Report, the Bank stated that "around two thirds of outstanding mortgages in the United Kingdom have floating interest rates, somewhat above the average over the past five years".
The Bank's figures extend back to 2004, when the floating-rate proportion was 73%, according to an article published in March 2010. It fell to a low of 52% in 2007.
Monthly estimates can be derived from the Bank's statistics on average mortgage interest rates – see chart. The rise in the floating-rate portion has slowed recently. The FSA reports that fixed-rate lending accounted for 45.93% of new mortgages in the fourth quarter of 2010, up from 37.39% in the first quarter.
The claim that 90% of mortgage borrowers are exposed to a rise in Bank rate appears to be incorrect. The pass-through of higher official rates to standard variable rates, moreover, may be smaller than in the past, partly reflecting the current record 3.5 percentage point spread (i.e. the average SVR was 4.02% in February, according to the Bank).
Emerging-world slowdown may cool commodity prices
Leading indicators are signalling a slowdown in emerging-world growth, confirming an earlier analysis based on monetary trends – see post in November. The loss of momentum is likely to be associated with a stabilisation or reversal in industrial commodity prices – unless the Federal Reserve embarks on "QE3".
Emerging-world growth has been a key driver of commodity price movements in recent years. The first chart shows the strong positive correlation between six-month changes in E7 industrial output and the Journal of Commerce industrial commodity price index. (The E7 refers here to the BRIC economies plus Korea, Mexico and Taiwan. The JoC index tracks 18 materials used in manufacturing production including crude oil and natural gas.)
The six-month change in the JoC index rose from a low of -2% in October to 23% in February, mirroring an increase in six-month industrial output expansion from 2.2% (not annualised) in September to 6.1% in January (the latest available month).
Industrial output growth, however, is likely to have peaked in February. The second chart shows the relationship with a conventional leading index (based on the OECD indices for six of the E7 countries and a national index for Taiwan) and a proprietary "leading indicator of the leading index". The latter is more useful, signalling turning points in six-month output expansion an average of four months in advance.
This "double-lead" indicator peaked in October and has fallen for three successive months, suggesting that industrial output momentum will decline from a high in February at least through May. The slowdown, in fact, is likely to extend well into the second half, based on a continued deceleration of real narrow money M1 – third chart.
A set-back in commodity prices would reverse a recent drag on G7 real incomes, supporting domestic demand. As previously discussed, however, monetary trends also suggest a G7 slowdown from this spring, as a loss of momentum in Euroland offsets continued US strength.