Good morning,
Algiers ‘deal’ boosting markets
World markets are fixated on Algiers this morning following the announcement of a cut in the amount of oil produced by members of the OPEC cartel. This had not been expected from a rather informal meeting that seemed to have ground to a halt on disagreements between Iran and Saudi Arabia over how much the former should cut.
The last time the Organisation of Petroleum Exporting Countries decided to cut production was in 2008 in the heat of the financial crisis, but while low prices have driven away shale operators in the short term and allowed countries such as Kuwait, Saudi Arabia and the UAE to snatch back market share, it has come at a supreme cost to their fiscal balance; despite pumping flat out these countries were not raising enough money to keep their economies on an even fiscal keel.
What can go wrong?
The one issue with the deal to cut production is how that is to be achieved. No policy details have been released overnight and while we are seeing a near-term leap in prices that is being greeted positively, there have to be doubts about the efficacy of these negotiations. One can announce the desire to have a baby and tell people that you are pregnant but 9 months later, something has to be born.
There is also no guarantee that a cut triggers a meaningful increase in price of course. Nigeria is looking to bring on around a million barrels per day soon – roughly what analysts expect will be the sum total of these cuts – whilst you had better believe that shale operators in the US and elsewhere will be looking forward to getting their wild cat operations.
A run to $52 a barrel is entirely possible and that will continue the gains that some assets are making this morning.
Strange reactions
Market reaction, outside of the obvious rush higher in commodity prices, has been resoundingly positive. Commodity currencies – CAD, ZAR, AUD, RUB – are all higher, as were Asian equities overnight, with bonds lower too. It really is a strange thing to see markets react so positively to an increase in oil prices but my threshold for surprise is somewhat skewed given what has happened in the past 8 years.
The obvious economic factors that we have to appeal to now evidently revolve around inflation. The pass-through to consumers will be crucial; cuts in oil prices since 2014 represented a rebate to the man in the street but we believe that consumers have largely spent that money and may have difficulty if prices run drastically higher. It is not time to start talking about central banks hitting their inflation targets – they want wages to drive inflation, not commodities – but central bankers labouring under a bond market primed for deflation will be somewhat relieved if a deal comes to pass.
Fed and BOE members add little
As we highlighted yesterday, there was a huge amount of central banker chatter risk yesterday with three Fed members including the Chair making public comments. In the round nothing new was said but expectations of a hike in December were solidified by Janet Yellen telling Congress that a majority of the FOMC sees a rate rise as likely needed this year.
Similarly Minouche Shafik, a member of the Monetary Policy Committee set to leave her post in a few months, told us that she believes that more UK easing is ‘likely needed at some point’.
Elsewhere, focus remains on the European banking sector with Deutsche Bank mooted to be in line for a German government bailout. A final reading of US GDP for Q2 due this afternoon is the highlight of the data calendar.
Have a great day.