In this week’s bulletin:
- China to overtake the US as the leading trading nation of goods.
- Data dampens recent confidence in the UK and US recovery.
- The European Central Bank says policy will remain accommodative.
- Prime Minister David Cameron makes pledges over pensions.
The Polar epiphany
A cheering vignette of international cooperation occurred in recent weeks on the edge of the frozen Antarctic. It was Christmas Eve when the Russian research ship Akademik Shokalskiy became trapped in dense ice in an aptly named Commonwealth Bay with a cargo of assorted nationalities – all scientists, scribes, polar travellers and such like. The same fate befell its Chinese rescue ship Snow Dragon early in the New Year. Eventually, as if to round off the end of the 12 days of Christmas, the vessels broke free last Tuesday, after an attempted rescue by French, Australian and American icebreakers.
Monday 13 January 2014
With the polar high drama unfolding in the icy international waters, the worst blizzards for decades blew through America, while Britain was lashed by storms and braced itself for its own January freeze. Amid all these reminders of the harsh and unaccommodating power of nature, newspapers brought tales of mutual endeavour in meteorological adversity; all of which is evidence, as we head into January with a lingering festive afterglow, that collective action can prevail over even the toughest of environments.
And so we turn to the global economy and markets, and to the recent vicissitudes and hopes of sustained recovery. The convention of assisting one another when in peril – at sea, at least, out of mutual necessity – is a sound course of action for policymakers and governments too. The global economy and markets are, of course, ventures that can profit from concerted action, irrespective of individual loyalties. The harsh economic environment in the wake of the financial crisis has required coordinated policy action to overcome perma-frozen interest rates and growth, and glacier-like debt, and will need further collaboration to steer the global economy to safety.
Snow blanketed America as economists settled on Philadelphia the other week to fathom the state of the global economy. At a distinctly chilly gathering of the American Economic Association, Olivier Blanchard, chief economist at the International Monetary Fund (IMF), called for further inflation and stimulus to shift interest rates from their near-zero level at which they rest. Others, such as influential US economist Larry Summers, argued for more public investment to ensure America breaks fully clear of any lingering threat of stagnation.
As the polar vortex blew, the Commonwealth of Pennsylvania gathering dwelt on the slow pace of the recovery. But, even if it has taken longer than hoped, the US economy is steadily moving into clearer waters followed by the rest of the world. Or, as fund manager AXA Framlington’s head of investment strategy, Franz Wenzel, notes: “Global growth recovered in 2013, though neither the pace nor the regional contributions lived up to expectations.” The IMF’s managing director Christine Lagarde, from the warmer climes of Nairobi, recognised the advances, indicating an imminent upward revision of the 3.6% level of global growth in 2014.
Meanwhile, figures emerged to show that China is on course to overtake the US as the largest trading nation of goods, with imports and exports of $4.16 trillion in 2013. Historians have argued that China was still the world’s largest trading nation during the Qing dynasty, before the arrival of Western traders and gunboats. Now, China – despite a dip in its sub-8% growth – continues its march to the fore of the global economy.
China is also proof that 21st-century homo economicus, and homo reciprocans, when flush, will head for the car showroom. China is the world’s largest car market with sales up 16% to 18 million models last year, and vital for the global automotive sector. Meanwhile, car sales in the US are also up 8% and in the UK by 11% to 2.3 million, reflecting consumer confidence and cheaper financing. The global car market is gearing up for a top year in 2014, with the help, in part, of anglo-sphere enthusiasm for spending rather than saving as returns on savings remain parlous. (Eurozone new car purchases, however, with its slow-lane recovery, remain modest.)
America’s ice storms look to have blown through the cheer and confidence in which markets opened in 2014. The release of weaker-than-expected employment data last Friday raised unease over the US recovery. Forecasts expected increases of 196,000 jobs in December, but the figure was only 74,000 – the smallest rise since January 2011. Complicating matters, however, the unemployment rate fell to 6.7% from 7%, as 350,000 people dropped out of the labour market. America blamed the weather.
But, with the Federal Reserve’s slowdown of its stimulus programme hinging on the state of the labour markets, US government bond yields, the dollar and equity markets wavered during Friday trading. The US ten-year Treasury yield was down ten basis points (bp) to 2.86% and 14bp lower on the week; while the equity market remained uncertain about the implication of the employment data with the S&P 500 losing 0.2% on Friday, although it was up 0.6% on the week. The dollar was down on the day 0.4% against the euro.
On the other side of the Atlantic, the FTSEurofirst 300 index gained 0.4% on Friday and 0.7% over the week to close at 1,321 points. It hit a five-and-a-half-year high of 1,328 points during the day’s trading amid strong trading updates for 2014 from European corporates. In London, the FTSE 100 index gained 0.3% on Friday and was up 0.1% over the week to close at 6,740 points amid the reservations over the speed of economic recovery. Japan’s Nikkei 225 Stock Average fell 2.3% over the week on similar uncertainty.
European Central Bank president Mario Draghi left interest rates unchanged last week, and reiterated that monetary policy would remain accommodative “for as long as necessary”. Meanwhile, Europe’s financial markets are looking confident, with the FTSEurofirst 300 index gaining 16% last year, while Ireland returned to the financial markets with a bond sale last week after completing a three-year bailout programme; Portugal is planning a sale, while Greece’s ten-year sovereign debt yield fell below 8% for the first time in three years.
Draghi played down market optimism, however, that the eurozone crisis was over. The ECB cut its lending rate to an all-time low of 0.25% in November after inflation fell to 0.7%. Deflation now looms over Europe, but its central bankers look like they are out of conventional escape channels from the prolonged economic freeze after the recession. Policymakers in 2014 will need to assess whether to override deep-seated fears of printing money in Germany, and follow the other advanced economies’ route into quantitative easing.
Although the eurozone’s weakness has been evident around its periphery – in Spain, Portugal, Italy and Greece – it is France that now looks like l’homme malade de l’Europe. France’s GDP per head has risen by 0.8% a year since the creation of the euro in 1999, against Germany’s 1.3%. Unemployment in France is near 11%; in Germany it is around 5%. As the eurozone inches towards growth, France could enter recession. The response of François Hollande, France’s president, is a 75% tax on high earners and to leave public spending untouched.
As Britain withstood ferocious storms, recent data showed that economic optimism is still mixed with caution in the UK, as it is in the US. More independent surveys last week indicated that the UK’s economic recovery will remain on course in 2014, with independent forecasts quoting growth in excess of 3% while the Office for Budget Responsibility forecasts 2.4%. An increased growth rate raises the prospect of the Bank of England pursuing an early rise in the base interest rate. But factors such as controlled inflation of around 2% and almost non-existent wage growth will ease pressure on the Bank to raise borrowing costs – although this will further frustrate savers already suffering from five years of ultra-low deposit rates.
The Bank maintained its monetary policy, voting to keep interest rates at 0.5% and gilt purchases at £75 billion. Governor Mark Carney says he will not consider raising rates until the unemployment level falls to 7%, although he has stressed this is a threshold and not a trigger. The third-quarter unemployment level was 7.4%.
Markets, investors and savers will have to wait for the February inflation report for further guidance on the Bank’s thinking on how to balance interest rates and the economic recovery. Fund manager Invesco Perpetual’s economist Philip Shaw summed up the situation last week as “no guidance on guidance yet”. Many expect the Bank to lower its 7% unemployment threshold for interest rate rises to keep the recovery on course.
But the Bank has stressed that the UK’s economy is still 2% smaller than before the financial crisis – and has not reached its “escape velocity”. Last week industrial production data for November was lower than expected. Fund manager Schroders’ economist Azad Zangana believes that signs of an easing of the recovery’s pace challenge the view that the Bank will raise interest rates this year. “We believe the Bank will hold interest rates until the start of 2016, regardless of the fall in the unemployment rate,” says Zangana.
Although weak demand for British goods and services, particularly from the eurozone, has hurt trade, increased domestic consumption and rising house prices are driving the UK economy. Last week, the Royal Institution of Chartered Surveyors said builders saw record growth in the fourth quarter and are upbeat for 2014. Deloitte identified a buoyant mood among the UK’s larger firms, with strong cash holdings and markets encouraging corporates to consider acquisition and expansion in 2014. However, smaller firms without big cash balances are struggling to secure finance for investment, despite Treasury efforts to spur lending.
A sense of the shape of the UK economic recovery is offered by the news that car sales are at their highest level since 2007 and rose last year by 11%. Windfall returns from financial sector mis-selling scandals, including payment protection insurance (PPI), as well as cheap credit and renewed domestic consumer confidence are all creating buoyant conditions for the UK car market (although a moribund eurozone and stronger pound will hamper exporters in 2014). Homo economicus Britannicus, when in the money and judging by last year’s sales, can also be found at the showroom, with a view mostly of becoming Ford Fiesta man (or woman).
The run-up to the 2015 election has started with Prime Minister David Cameron courting his crucial voting demographic – the baby boomers and their elders – with a pledge to protect the State Pension from £25 billion of spending cuts. Chancellor George Osborne warned: “There are no easy options if we’re to fix our country’s problems and not leave debts to our children.” Cameron has promised to keep the ‘triple lock’ pension guarantee until the end of the decade; it was introduced in 2010 to ensure the State Pension rose by at least 2.5% each year, and at a higher rate than either inflation or average earnings. However, pensioners may face cuts to benefits they receive in addition to the State Pension. In particular, wealthier pensioners could lose their winter fuel payment, if universal benefits are abandoned, as well as free bus passes and TV licences.
Pensions minister Steve Webb wants to give pensioners a second chance at retirement income as low rates make the ‘one shot’ at turning a pension pot into a retirement income onerous. The idea is that the 400,000 people a year buying annuities could switch products as they do mortgages. But the plan has been criticised as likening apples and pears: mortgages finance buying a house on a fixed-term; an annuity guarantees a lifetime income however long an individual lives. And, as retirement costs for individuals and the state, employers and institutions increase, allowing people to chop and change risks making this guarantee unaffordable.