For the last nine months, bond markets have been showing increasing signs of concern about the global economy.
This has pretty much coincided with the aggressive stance by the US Administration as it deals with their trade imbalance with China.
The path they have taken has had bond investors worried and increasingly risk averse. Money has been flowing out of equities and into fixed income securities. Fearful investors now want the safety of Sovereign issuers (who have the power to tax to pay out) and it seems any yield is acceptable. Safety trumps yield for these large professional investors. In fact in some European markets, investors have foregone yield altogether, 'happy' to pay for the security rather than get a return. That means they will get back less at maturity that what they invested, even ignoring inflation, such is the fear.
This level of concern was heightened in the past few days. A small bond market reaction from the US Fed rate cut turned into full fright with the latest US tariff move. Markets are betting that the American pressure won't work on China in the way it is being applied, and the consequences on the US and global economy will be negative, and negative for a long while.
The yield drops have been across the board and across most countries, certainly the ones we benchmark against
American rates have now tumbled back to levels last seen in late 2016. "Normalisation" is over.
But Australian and New Zealand yields have tumbled to all-time record lows in this same period. A good part of the recent drop is the flow-on effect from the American trade moves. They signal future trade flows will be weaker than they have been.
But they are exacerbated by impending official rate cuts by the central banks of Australia (possibly again on Tuesday but more likely in a month or two) and New Zealand (very likely again on Wednesday). Markets are now very uncertain that with current policy approached these expected -25 bps cuts will be the last.
Local wholesale swap rates have fallen between -40 and -60 bps (depending on the term) since the last RBNZ rate cut, and by between -70 and -113 bps since the beginning of 2019. Both are far more than the -25 bps official OCR cut we got in May. So markets are signaling much more is to come.
One reason we have been hit so hard is because we depend on trade. Here is how we stand in the trade exposure stakes:
| 2019 | China | USA | Australia | NZ | |
| NZ$ | NZ$ | NZ$ | NZ$ | ||
| GDP (bln) | 21,587.2 | 32,722.0 | 2,230.0 | 298.0 | |
| Exports | [E] | 1,757.4 | 2,552.6 | 560.7 | 59.4 |
| Imports | [I] | 1,492.2 | 3,914.5 | 489.2 | 64.4 |
| E+I as % of GDP | 15.1% | 19.8% | 47.1% | 41.5% | |
| Exports as a % of GDP | 8.1% | 7.8% | 25.1% | 19.9% | |
These are facts that those in Washington seem to ignore; China is as lightly exposed to export 'pressure' as the US. That is not to say they won't feel pressure, only that it will be similar to the pressure the US will feel. Neither has an advantage. But countries like New Zealand do have a big disadvantage, Australia even more so. (And because Australia is so much more firmly aligned with the US politically, and aligned to China on trade, China is likely to put much more pressure on them. But in the end, both New Zealand and Australia are acceptable collateral damage in both Beijing and Washington.)
This exposure helps explain why trade ructions have resulted in the sharp markdown of bond yields. The threats are so much greater for us, so the drive for safety over yield that much stronger.
What will it mean for savers and borrowers?
Of course, those impacts will come in the future so no-one knows for certain. That means that what follows can really only be classed as a 'guess', so you should treat it as such and make your own judgment.
But is is hard to see New Zealand interest rates flattening out at current levels, let alone rising. Much will depend on the tone of the Wednesday RBNZ commentary. More will depend on the trade war responses.
And banks may be facing subdued economic conditions in Spring as the real estate season kicks off, and to achieve lending targets they may feel the need to be extra competitive on 'special' home loan rates. Savers will pay until rates offered them reach close to zero. After that, bank margins will come under severe pressure, and that may limit what borrowers are offered.
All this will last until international bond investors feel less fearful in the long run. And given the cavalier attitude to rising sovereign debt in the US, Japan, China and Europe, it is possible to envisage a quick turn higher for yields. But that will only happen if those economies start growing again. And that may be wishful thinking.
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46 Comments
Well, lots of debt is sloshing around the globe. Money is created out of debt. You can't pay off the debt without contracting the money supply (taking money out of circulation) ..
Only option left; print money to pay the interest .. keep rates so low they don't reflect real risk. This is a total Ponzi scheme as THIS System CANNOT be tapered. "Quantitative Tightening" was given up on before it even got off the ground.
Gold, Silver, Bitcoin - buy them now! Houses aren't getting more expensive, your dollars are just worth less.
The USA was hollowed out from 2000 to 2008, they lost millions of jobs in the mid-west. US corporations were encouraged to move to China and CEO's made a killing at the cost of US workers and economy, they went for the short term gains because they came with bonuses.
I have heard figures as high as 8 million jobs lost. It was the cause of the blue collar meth epidemic.
https://dailycaller.com/2017/02/01/millions-of-us-jobs-lost-to-trade-wi…
I don't think the Chinese government is going to allow Western Corporate greed to run amok. They are never going to play the Western game with Western rules.
https://www.newsweek.com/how-americas-biggest-companies-made-china-grea…
From 2000 to 2008 too many American workers refused to acknowldge that change was coming and that retraining was necessary. They held on to unsustainable 'benefits' until reality set it. Then when they inevitably got hurt, they held on to unrealistic expectations. Yes, the drugs became the 'solution', creating a toxic demand. All stems from hubris. Now they blame 'others' and 'outsiders'. The 1960-2000 conditions were the aberation. They just suckered themselves into a belief that they were special in some way. Reality never actually cared what they thought. If it wasn't 'corporates' that exposed the unsustainability, it would hve been something else. At least they didn't build a tariff wall around themselves to protect themselves from change. Change might be harsh, but change is needed. The earlier you start, the less the pain. The Soviets did the tariff wall/isolation thing, and that turned out way worse.
The American tragedy is that their [high school and early college/job training] education system served them poorly for change. and then the internet came along just in time to build self-justification echo chambers. So now we have millions of voters who no longer can recognise reality.
(By the way, I was living there during the early years of this hubris. I was there 13+ years in all. I know many people saw it coming. But those warnings did not 'sell' politically. You ignore reality at your peril.)
Inevitability argument eh. From 1945 - 75 world return to labour v capital rose and consumer had a ball.
Then capital decided economy had to dominate society and finance and to dominate economy. Politicians went along.
"The Empire of Democracy" covers this well.
So, since 1975 we have the benefits of globalisation and its costs.
Nationalism is making a comeback. "Realism" is a rational argument and justification. Emotion as basis for politics unfortunately swinging to Right.
Exactly:
Banks do not have pre-existing funds in the form of legal tender to lend, except in miniscule amounts relative to the size of their loan portfolios.1 In other words, banks create demand deposits out of nothing, and it therefore remains a nothing. The malpractice continues because public accountants as auditors sanctify the aforementioned practice by “certifying” the banks’ financial statements, provoking credit expansion, moral hazard, asset bubbles, liquidity-stressed financial markets, bank runs, and eventually global financial crises. Link (PDF)
Every culture/society believes that whatever brief continuity they experience is the new normal.
Every time there is a major shock to the current system people rush to exceptionalist narratives but if you take a step back and look at culture/society over a much longer time scale, it's the same stuff happening on repeat. The human element is fairly predictable.
There is minority scapegoating, trade wars (or just wars), demagogues, inflation/deflation cycles etc every time there is any experience of material hardship or change. Whether it's antiquity, plague riddled medieval Europe or modern times, we say and do the same things.
David, the trouble is that people invest in their communities, wives teach at local schools, grandparents live down the road, friends you went to school with, fishing and hunting friends etc. Generations of a shared existence.
In that decade there was a closing down auction in the manufacturing industry every day. One company manager rang the FBI to tell them that the Chinese were here to relocate the company, they said nothing to do with us, he went on to explain that the company made the leading edge for the F18 amongst others. the Govt had no idea it was free for all.
James Kynge does a good job of describing it in his book, 'China rules the world" Those workers had no where to go.
They just suckered themselves into a belief that they were special in some way.
To be fair they were always told by the leadership and the culture that they were special. However they were certainly sucked in. What should have happened way back then was some public meetings where the leadership and captains of industry stood on a stage and theatrically tore up the "social contract" and declared that the worker's jobs and all the IP would be shipped to the godless communists, their enemies, for a few pennies. You know, full disclosure.
America or rather specifically, Trump doesn't want to see China become the number 1 economy in the world. Personally I was quite surprised that China was still number 2. America had it all in the 1960's for decades and they simply abused and wasted it. A blind man could see change coming but the USA refused to adapt, for example they kept producing cars that were dinosaurs and they still are for the few they still make. America used China for short term gains and get rich quick for the few, now everyone has to pay the price.
David I wish to make a number of observations as I too have spent decades in American factories prior to coming to NZ a second time 30 years after my first business venture in 1973-I call the difference Auckland "BC era" versus Auckland "AD era".
Firstly I think your 1960 starting date should be the 1920's. By 1927 the former British Colony was producing 40% of Global GNP. American workers were enjoying prosperity. Henry Ford was the richest man in the world. Albeit the 1930's humbled the working class, but the 1940's war effort resurrected the working class. Henry Ford converted a car factory to producing B-24 bombers that flew out of Detroit at the rate of 1 every 60 minutes for years. That "can do spirit" of the American worker never sunseted-and still hasn't. Unlike other democracies the Communist/Socialist workers movements never took control of Union Labour in the USA and productivity as a result was exceptionally different in the USA. What changed was throughout the 1970's and into the end of the century control of American Fortune 500 powerhouse manufacturers passed from founding families who sponsored and protected their communities and workers-NCR in Toledo, OH, Kodak in Rochester, NY, etc etc. Their pride was pushed aside by the Financialization of these Corporations by Wall Street Bankers due to a tsunami of money from workers "Kiwisavers" (401k & IRA) that began 40 years earlier in the US than NZ.
By the mid 90's US$20 Billion per month was flowing from workers paychecks to Wall Street to buy Fortune 500 Stock. With control of the home town corporations resting in New York the pressure was on to drive profit first. GE led the way because they had been in China the longest setting up hydro-electric turbines decades ago. Chairman Jack Walsh was deemed a wizard for increasing profits 15% a quarter for years-(cost cutting) all the while he was shutting down American factories and shipping the maker machines to China. Labour at fully loaded US$25 hr in '98 was replaced with Chinese workers at US 50 cents per hour. The American worker had no defense against that and the Free Trade mantra was all anyone heard from Press, Politicians, and even your social friends at barbecues when you tried telling them what one was seeing inside the factories. John Mauldin a year or so ago proclaimed that the only reason China forged the "Free Trade" WTO deal they did with the Clinton Administration is because fearful of Impeachment he withdrew the Commerce Department from Trade Negotiations and sent in Madeline Albrecht from the State Dept to "get the deal done"--and she did. And the rest was history until Trump bellowed in and upset the cart. As for American workers being "retrained" in advance of the looming change that sounds a lot like Helen Clark's "Knowledge Economy"-which 20 years on is led by Milk, Cattle, Sheep, Logs, and Wine-with a bit of "knowledge" thrown in at the top as frosting on the cake. No Western Democracy had cracked the riddle of taking kids from families that rejected the pursuit of education when their parents were in school and somehow managed to wean their children from that parental influence and make them 'all that they can be". Instead from the Far North to Hawkes Bay and right through Manakau City the same problems persist as in the Rust Belt and Appalachia. In those places the voters have exerted their power and have demanded the US Government exert their power to stop what has now been categorically proven to be anything but "FREE TRADE". This morning Jim Cramer on CNBC said to watch out for this sign that China is cracking a bit-and that will be if the ChinesePLA begins arresting and executing the fentanyl smugglers. That will be the "canary in the mine shaft" he reckons. We shall see.
David, the collapse of the govt yield curve is also matched remarkably in timing with the imposition of the FBB.
My view is that the knock on effects of this legislation are the secondary cause of the drop as the market prices the deep impact that will be felt as the construction sector slows down.
Certainly I agree that the US China trade war, slow down in Europe etc mist have had some effect but lets look at our real economy. Agricultural goods are still bein bought, so are logs. Tourism hasn't fallen off a cliff ... And none are expected to significantly declined. And yet long term govt yields have collapsed.
What else other than the FBB could explain the speed and the timing of the move ?
Cowpat, love the outdoors, thanks for asking.
Albert Edwards needs to get out more if he going to comment on the NZ curve. The Auckland Real Estate boom been the pillar supporting the expansion of population growth and the biggest driver of wealth creation the country has ever seen ~ bar no other event.
Now that pillar is slowly crumbling. Add into the mix tigher HEM limits already in place and the intention of RBNZ to (sensibly) impose borrowing limits based on multiples of annual earnings and the intention to increase Tier one capital to 16% it's a one way train for the property market.
This is going to have profound effects on not only construction but as this trickles through everything is going to be affected. Car sales, domestic tourism, restaurant dining etc etc.
NZ inc up until 15 years ago was an agricultural community. Then it had tourism. Then we had a tidal wave of marginal buyers bidding up everything in site. Now the tide has turned. And that's what the NZ curve is pricing in on top of a global slow down.
Yes you could argue the US/China trade conflict has caused a dip in 10 year+ govt yields similar in size to the moves in the NZ equivalent but normally such a trade conflict would affect the US a lot more than NZ ~ not basis point for basis point change in the curve.
The rates curve of an economy based on agriculture with an ever growing global population shouldn't be as volatile as other curves. It should be way more boring and stable. So yep ~ FBB is the catalyst for the size of the decline even though I would have suggested some falls anyway. And this was the point I was making ~ if the long end has gone down 140bps then I'm guessing at least 40bps is due to the long term effects of the FBB.
If you have an alternative view l would welcome your thoughts. Reasoned discussion only ever helps your own understanding and forges the strongest argument.
Glitzy, this is from Fred. Pictures paint a thousand words .
https://fred.stlouisfed.org/series/IRLTLT01NZQ156N
Cowpat, I'm not sure I understand the point you are making. I understand the magnitude if the falls in various government yield curves, I follow them too. In fact they have been really profitable to trade this past year. But isn't the question to what degree the FBB is exacerbating the curve collapse in NZ ?
Interest rates will rise as inflation hits 5% next year, due to food price rises in China and USA.
Please see my remarks on Auckland housing market and prices, on LinkedIn.
Deflationary dive seeing now, will be followed by "surprise" inflationary surge next year.
World bout of stagnation coming.
Yes, it is a rerun of 1973-80
Debt will be the end of all..
https://www.nzherald.co.nz/business/news/article.cfm?c_id=3&objectid=12…
Have we hit the 40 percent export target yet. ?
https://enz.govt.nz/assets/Uploads/Building-Export-Markets-Progress-Rep…
We're never going to hit any export targets with our overvalued $NZD/$USD; The TWI should have been lower over the last couple of years to give exporters some reserves, and to produce more needed inflation from the import of 'shiny toys' (new double-cab utes, SUV's, electronic gadgetry,etc). Among the most clamorous, but misguided, cheerleaders of a higher $NZD have been the BNZ economists pontificating from their Wellington ivory towers where they are insulated from the real world by civil servants on exorbitant recession-proof salaries.
Here’s the thing - Trump is trying to import inflation (through higher prices on imported Chinese goods) which takes care of US debt. At the same time he’s declared a currency war on the rest of the world. He resents China and Europe cheapening the yuan and the euro against the dollar in order to help their exports and hurt The US. As a consequence Australia and NZ are part of the collateral damage.
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