Macro View

The new week has begun off like the last week ended.  The yen and the dollar are firm against the major and emerging market currencies.  The sell-off in the precious metals continues.  Japanese bond yields rose and the yield curve steepened.  The 10-year yield spread between the US and Japan continues to narrow and now near 107 bp is the lowest since mid-January.

The market feels as if it has not re-found a balance since the BOJ's announcement, while being hit with other shocks, including disappointing US data and now, disappointing Chinese data.  

Following last week's surprising trade deficit, China reported a surprisingly slow Q1 GDP of  7.7% from a year ago.  This was below the consensus of 8% and Q4's 7.9%.  Although the market often views China's GDP figures with a jaundiced eye, a recent San Fran Fed study found it was consistent with other time series.


China also reported today a much weaker expected growth in industrial output.  The 8.9% year-over-year increase in March compares with a consensus expected of 10% after a 9.9% pace in February.  Fixed asset investment was also softer at 20.9%.  The market had expected a 21.3% pace  after 21.2% in February.  The retail sales report was the only one today at came in stronger than expected, and even than just (12.6% vs 12.5% expected).  We note that the World Bank shaved its GDP forecast for China (to 8.3% from 8.4%) and many economists likely to follow them, but with forecasts in the high-7% area.   

One of the most striking observations about China's economy from a high level is that each unit of capital inputs is producing less unit of output.   Some economists, of course, have discussed this.  We simply point out that the process appears to be accelerating.  The economic returns to capital are diminishing more quickly.

The Shanghai Composite has fallen for three consecutive weeks and last week closed at its lowest level since late December.   With today's 1.2% loss, it is off 3.8% thus far this year.  Japan's Nikkei was off 1.5%, helping to push the MSCI Asia-Pacific Index down about 0.85%. European shares are lower, the Dow Jones Soxx 600 off 1%, led by basic materials and oil and gas.

The poor Chinese data weighed on the dollar-bloc and emerging market currencies, ostensibly through the commodity link   For its part the euro is trading within Friday's ranges, but with a heavier bias.  If the theme is reversing some of the moves since the BOJ's announcement, the initial retracement objective for the euro comes in near $1.2990.  Sterling, which is trading at three-day lows, has its first retracement objective near $1.5270.  Against the yen, the dollar's initial retracement objective is near JPY97.20.  In Tokyo, the dollar found bids near JPY97.50. 

It seems clear that a good part of the recent price action in sovereign bond markets and emerging markets was done in anticipation of what Japanese investors might do given that the BOJ is going to be buying up 70% of the new issuance through the end of next year.  The available data from the MOF showed Japanese investors were net sellers of foreign bonds in the week ending April 5 as they have done nearly every week this year.  

In the CME currency futures for the week ending April 9, speculators reduced gross short and gross long yen positions in roughly equal amounts, leaving substantial gross and net short yen position.   In addition, since the BOJ's announcement on April 4, it appears that the yen tended to strength in the Tokyo session, though in margin trading, it appears there has been yen selling, including today.   

It is not a common occurrence, but our sense is that the financial markets are looking for leadership from the Tokyo market.  Official comments ahead of the G20/IMF meetings at the end of the week will likely emphasize the domestic objectives of the Qualitative and Quantitative easing strategy.   The comments may even seek to play down the significance of a weaker yen in the fight against deflation and instead emphasis lifting inflation expectations.  Vice Finance Minister Obuchi refused to comment quest on specific levels earlier today (yen, stocks and yields). 

China reported its CPI figures last week.  Price pressures eased a little more than expected and non-food prices are up 1.8% from a year ago.  Earlier today, India reported a decline in wholesale price index to its a three year low, though CPI has been stickier.   This week, the UK, the euro area, Canada and the US report CPI data.  The UK is the exception, but disinflation, as in slower increases in inflation, is the dominant price story here in early 2013, especially for the major economies.  . 

Japan, Switzerland and Sweden have deflation.  The US and the euro area have price pressures drifting further below 2%.    Canada's headline inflation is likely near 1%, while the core is near 1.4%.  There is slack in labor markets and the CRB index is nearly 25% below its 2011 peak.  

The US reports the Empire State survey today and the Philly Fed survey on Thursday.  Outside of the weekly jobs claims that have been distorted by Easter, these will be the first glimpses into how the economy is performing at the start of Q2.  These reports may have added importance now, because market participants and policy makers are well aware that in both 2011 and 2012, the economy stalled in this time frame.  

The recognition of this by Bernanke, Yellen, Dudley and vast majority of voting FOMC members means that despite the discussions, there is little chance that QE is tapered off near midyear.  In fact, comments over the weekend by Evans, the Chicago Fed President (and a voting member) and Minneapolis Fed President Kocherlakota (non-voter) that with inflation low, if the economies slows, the Fed should consider increasing its monthly purchases of long-term assets.  

There are two central banks that meet this week:  the Bank of Canada and Sweden's Riksbank.  Neither is expected to change rates. Canadian data has been consistently undershoot the Bank's forecast.  Carney's hawkish rhetoric as gradually eased, though a vestige remains.  Due to domestic household indebtedness and other concerns, the Bank of Canada is unlikely to give up its signal that the next move will be a hike, even if it continues to be pushed out.  

Rather than a tightening bias, the Riksbank has made in stand for a steady policy, with a couple of dissents, which will likely continue.  The recovery appears fragile and should it disappoint, the Riksbank may reconsider its neutrality.  Yet this seems unlikely to happen now.  

Two other central banks, the Bank of England and the Reserve Bank of Australia, will publish the minutes from the recent policy meetings.  Recall at the BOE, Governor King was outvoted in both February and March, with other colleagues, who wanted to resume gilt purchases.    Since RBA issues a statement at the conclusion of its meetings, there is less scope for surprises.  The RBA does not appear to be in any hurry to resume its monetary easing. Earlier today, Australia reported a 2.0% rise in home loans in February after the January series was revised from a 1.5% decline to a 0.3% fall.   Barring a significant deterioration in the economy, or prospects, we now recognize that it is unlikely the RBA cuts here in Q2.  Previously, we thought a move in late Q2 was possible.