Waiting on New China
For the volatility of last week and the strange ‘new normal’ that markets are having to get used to, today has started very quietly.
The absence of Chinese influence on these markets will be felt throughout the week as the country celebrates the Lunar New Year and beginning of the Year of the Monkey. Figures released overnight that have shown the level of hard currency reserves the People’s Bank of China has on hand to defend the yuan moved sharply lower, falling by $95bn, however their current account surplus – exporting more than they import – will keep the flow of currency into the country strong in the future.
There is still the chance, I believe, that the Chinese authorities play a few hands of monetary policy poker through the celebrations; this could be a cut in interest rates or the reserve requirement ratio, both designed to drive bank lending and consumer spending or fiscal policy changes to drive investment and spending, such as tax cuts on property and vehicle sales.
We still look for weaker yuan
If you believe that capital continues to flow out of China as the economy slows and the yuan weakens then we must think that some form of stimulus must be launched soon to boost economic fundamentals; trade is important to China but investment and consumption are both more critical to the new model of economic progress.
Obviously, efforts from other Asian central banks have fallen far short of the intended action. The currency war in Asia remains alive and well and it is helpful to look at the moves in Japan with the context of what China has been doing to the yuan in recent months. The movements in Tokyo have interesting repercussions for the European Central Bank policy meeting in March as well.
The key dynamic is that inflation pressures are weak in Japan and the Bank of Japan will struggle to hit its 2% target by the end of 2017. If pay details due in April show corporate Japan is unwilling to boost wages then we can expect additional policy easing from authorities via additional cuts to interest rates or increased bond purchases.
US labour market finally showing tightness
Friday’s US payrolls announcement was an exercise in confusion. The headline number missed estimates of a 190,000 job gain, only adding 151,000 positions and the moon shot 292,000 job number in December was revised lower by 30,000 jobs. So far, so disappointing. It was the secondary data however that prompted a rally in the US dollar and another shift in expectations around further action from the Federal Reserve.
Wages rose by 2.7% in January and the unemployment rate fell to 4.9% for the first time since February 2008, alongside increase participation in the labour force. The long and the short of it is that we may be finally starting to see the wage pressures and the diminishing marginal gains in employment that a labour market exhibits when it gets close to full employment. The slip in services data last week will be a worry to US policymakers but expectations of another Fed rate hike by the end of the year are back to 50/50.
USD could continue this run this week as Janet Yellen testifies in front of both the House and Senate on Wednesday and Thursday respectively. Should she maintain the optimism the Fed showed in its December press conference and the January minutes then traders will have no choice but to buy back the USD from these levels.