Economic Themes at the Start of 2011
from the BBH Currency Strategy Team
1. The US economy appeared to accelerate in Q4, maybe toward double the 1.7% annualized pace seen in Q2 10. Home sales and prices remain weak, but outside that important sector, the recovery seems to be broadening. The Chicago PMI at the end of last week bodes well for the national survey to be released today. Also this week the Dec auto sales will be reported and they are expected to be the best of 2011 at around 12.3 mln unit pace and capping the best three month performance since late 2008. This coupled with the chain store sales data point to another robust retail sales report. The data highlight of the week, though, is the US jobs report. Recall that the Nov jobs report disappointed and that disappointment was concentrated in the retail space. At the time, we suspected a seasonal adjustment fluke. The Dec report should be payback and the early consensus is for private sector jobs to rise 3-times faster than the 50k increase in Nov.
2. The European debt crisis remains an important market force. It is more important currently than particular economic data, in part because of tax hikes and government spending cuts that are to be implemented in the new year. In addition, the market is aware of the divergent performances in the region, with Germany the main engine. Still, today’s manufacturing PMI of 57.1 was a bit better than the 56.8 flash reading. Within Europe the main concerns are threefold: 1) Moody’s and S&P have Portugal, Ireland, Spain and Greece on review for possible downgrades; 2) there is large supply of sovereign and bank bonds that will be sold this year, with more than 80 bln euro this month, including issuance by the European Financial Stability Facility (EFSF) and the European Stabilization Mechanism (ESM). That supply includes bills today by France, but the market may be more sensitive to the Portugal bill auction on Wed and the German and French bonds sales Wed and Thurs respectively; 3) reports out at the end of last week suggest Greece is seeking private sector loan extension after apparently winning preliminary support from IMF and EU to extend the maturity last year’s aid package.
3. China’s economic growth appears to be moderating. The official Dec manufacturing ISM eased to 53.9 from 55.2 in November and compares with consensus expectations of around 55.5. The results were in line with the private measure released last week. The moderation was widespread including output, new orders and employment. New export orders bucked the general trend and ticked up to 53.5 from 53.2. Just as important, if not more so, input prices eased (to 66.7 from 73.5). China did raise rates over the holiday period and the yuan. In very thin trading both last Friday and today, the dollar slipped through CNY6.60 for the first time since 1994, but has failed to close below there. If the economic moderation is picked up in the next batch of data, near middle of the month, it may take some pressure off the PBOC to tighten near-term and may take some pressure off the currency.
4. Several developing countries continue to wrestle with capital inflows. Last week, Taiwan adopted additional measures to curb inflows even as it raised rates for the third time in 2010 (12.5 bp to 1.625%). It increased reserve requirements on some local currency deposits by foreign investors to as much as 90%. The central bank will also not pay interest on reserves held for foreigners and will step up curbs on foreign exchange derivatives. It also restricted offshore funds from investing more than 30% of the foreign portfolio into local government and money products. Indonesia also tightened the rules on foreign exchange holdings of banks and overseas borrowings to try to manage capital inflows. The central bank reintroduced 30% cap on lenders’ short-term overseas borrowings. Most of Indonesia’s rules, like the 5% reserve banks must put aside for foreign exchange holdings, from 1% currently goes into effect in March. The reserve on fx holdings is to increase to 8% in June.