Standing on the shoulders of the US

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Last month’s disappointing payrolls report aside, there is a growing body of evidence evidencing that the US recovery is looking both more durable and broad-based these days.

For instance, JP Morgan Chase Chief Executive, Jamie Dimon, suggested on Friday when announcing his firm’s stellar quarterly earnings results, that the US housing market was “very close to the bottom” and that the debt-service ratio for US households was the lowest in twenty years. He was also upbeat on the state of corporate America, claiming that businesses were cashed up, well-capitalised and generating decent earnings growth.

Recently, data published by the Federal Reserve showed that the ratio of liquid assets to short-term liabilities for corporations is now the highest in nearly 60 years! Wells Fargo, another US banking heavyweight, reported that mortgage applications soared 84% in the year ended March. Both JPMorgan and Wells Fargo are themselves in a strong position, having passed the Fed’s latest stress tests with flying colours and now able to recommence dividend payments to shareholders.

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Yesterday’s US retail sales were also encouraging, up 0.8% in March after a 1.0% increase in the previous month and a 0.7% rise in January. In Q1, retail spending surged at an annualised pace of almost 8%, or around 6% in real terms. Separately, statistics from the American Bankers Association shows that consumer loan-delinquencies fell in Q4 for the first time since 2004. At the very least, the US economy seems better-equipped to deal with exogenous shocks such as the recent surge in oil prices. Let’s hope so – the world economy desperately needs the US to shoulder the growth mantle these days.

Commentary

Europe’s brief hiatus. That flood of liquidity provided by the ECB over recent months gave European leaders with some respite from their sovereign debt and banking crisis, but that hiatus is now definitely over. Spanish government bond yields climbed sharply for a time yesterday, the 10yr up at 6.12% at one stage, a four-month high. Back in early March, the 10yr yield was below 5.0% and the spread to comparable Bunds less than 300bp. Now, the spread has blown out to 430bp. Unfortunately the Spanish government seems incapable of averting the bond market’s displeasure, despite its commendable actions thus far. Over the weekend, the Rajoy government cajoled those regional leaders from its own party into accepting the need for deficit targets to be written into law. One of Rajoy’s difficulties, however, is that he is meeting fierce resistance from the two largest regional governments, namely Catalonia and Andalusia, neither of which are controlled by his People’s Party. Europe’s leaders are meanwhile scratching their collective heads once more, unsure how to respond. They head off to Washington later this week for the IMF’s spring meeting with their begging-bowl firmly outstretched, hoping to obtain a further contribution three weeks after they committed to raising the size of their firewall to more than USD 1trln. The likes of the US and Japan however are likely to be resistant, claiming that Europe has enough financial firepower to resolve its crisis without additional outside assistance. One immediate talking point is what to do about Spain, with credit-default swaps now implying a more than one-third probability of default. Increasingly, the market is sensing that Spain will be the fourth member of the eurozone to require a bailout. Spanish government ministers are imploring the ECB to recommence its SMP – for their part, council members at the ECB are likely engaged in an extremely vigorous discussion on exactly this subject. Right now, unfair though this may be on the Rajoy government, Spain seems to be heading directly for a bailout. This cannot do the single currency any favours in the near term.

Beijing’s move should be commended. One of the fears expressed in the light of the political fiasco involving Bo Xilai was that policy-making might be paralysed for a time. However, judging by some of the announcements of recent weeks, it appears that China’s leadership remains determined to move ahead with its reform agenda. The decision to double the daily trading band for the yuan to 1% is both bold and commendable given recent signs that the economy is weakening. Moreover, the announcement is well-timed; expectations regarding yuan direction over the next few quarters are now much more evenly balanced and the dollar is in demand. Indeed, 12mth yuan forwards are now expecting the currency to depreciate. Also, greater yuan-flexibility will no doubt placate international leaders at upcoming meetings of the IMF and the G20. Ultimately, widening the trading band is another step towards the greater convertibility that China needs to achieve in order for the yuan to be regarded as a proper reserve currency. Two weeks ago, CSRC (the China Securities Regulatory Commission) lifted quotas for global money managers investing in Chinese bonds and equities to USD 80bn from USD 30bn. Both the yuan trading limit-expansion and the increase in investment quotas will likely raise demand for dim-sum bonds, in turn contributing to further demand for the currency.

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