Robots Aren’t Destroying Enough Jobs – Greg Ip WSJ

Economic predictions of massive job losses to automation are missing indicators that show just the opposite

Greg Ip

Updated May 10, 2017 1:51 p.m. ET

From Silicon Valley to Davos, pundits have been warning that millions of individuals will be thrown out of work by the rapid advance of automation and artificial intelligence. As economic forecasts go, this idea of a robot apocalypse is certainly chilling. It’s also baffling and misguided.

Baffling because it’s starkly at odds with the evidence, and misguided because it completely misses the problem: robots aren’t destroying enough jobs. Too many sectors, such as health care or personal services, are so resistant to automation that they are holding back the entire country’s standard of living.

“Robot” is shorthand for any device or algorithm that does what humans once did, from mechanical combines and thermostats to dishwashers and airfare search sites. In the long run these advancements are good. By enabling society to produce more with the same workers, automation is a major driver of rising standards of living.

The doomsayers say this time is different, that technological change is so profound and so fast that millions of workers will end up on the dole or consigned to menial, minimum-wage mobs.

The pessimism would be more plausible if the evidence weren’t moving in exactly the opposite direction. The U.S. has many problems, but job creation isn’t one of them. In April, nonfarm private employment rose for the 86th straight month, the longest such streak on record.

Monthly job creation has averaged 185,000 this year, more than double what the U.S. can sustain given its demographics. This has driven unemployment down to 4.4%, a 10-year low and below most estimates of “full employment.” Growing labor shortages have boosted the typical worker’s annual wage gain to more than 3% now from 2% in 2012, according to the Federal Reserve Bank of Atlanta.

If automation were rapidly displacing workers, the productivity of the remaining workers ought to be growing rapidly. Instead, growth in productivity—worker output per hour—has been dismal in almost every sector, including manufacturing.

In a compelling study released this week, the Information Technology and Innovation Foundation demonstrates that the supposed gale of technology-driven job destruction is a myth.

Rob Atkinson, president of the industry-supported think tank, and researcher John Wu examined government data back to 1850 to measure jobs lost in slow-growing occupations and jobs created in fast-growing occupations, their proxy for job creation and destruction driven by technology and other forces. By this measure, churn relative to total employment is the lowest on record.

How can this be? An era that includes the shock of trade with China and the financial crisis ought to have rapidly shuffled workers throughout the employment deck. But we’ve forgotten how convulsive the past was. The authors note how in the 1800s and 1900s, agriculture, at the time the largest employer, was radically transformed by the end of slavery, the opening of the West, mechanization, and consolidation of small family-owned farms. In the 1960s, the expansion of office work created 885,000 janitor jobs, rising health-care consumption created 700,000 nursing aides and the baby boom led to the hiring of 600,000 more high-school teachers.

Technology is still destroying jobs—just more slowly. In part that’s because American consumption is gravitating toward goods and services whose production isn’t easily automated. William Baumol, an economist who died last week at the age of 95, long ago observed that societies would devote a growing share of their income to consumption in sectors where productivity was stagnant. Think of a Mozart string quartet. Four musicians must still be paid to perform it, implying a two-century productivity growth rate of zero. As the share of output grew in stagnant sectors, overall productivity growth would slow.

Dietrich Vollrath, an economist specializing in growth at the University of Houston, estimates “Baumol’s cost disease” has stripped half a percentage point off U.S. productivity growth since the 1980s.

“Robots can replace a lot fewer things that go into GDP than we think,” he says. Medical breakthroughs have mostly gone toward new and more expensive treatments, not to making existing treatments less expensive. Children may sit in front of better screens than they did in the 1950s, but working parents won’t leave their children in the care of a robot, so child-care workers doubled to almost 2 million between 1990 and 2010, according to the ITIF study.

Since 2007, low productivity sectors such as education, health care, social assistance, leisure and hospitality have added nearly 7 million jobs. Meantime, information and finance, where value added per worker is five to 10 times higher, have cut or barely added jobs.

This calls for a change in priorities. Instead of worrying about robots destroying jobs, business leaders need to figure out how to use them more, especially in low-productivity sectors. Someday robots may replace truck drivers, but it’s much more urgent to make existing drivers, who are in short supply, more efficient. Clean energy advocates boast about how many people work in solar power when they should be trying to reduce the labor, and thus cost, involved.

The alternative is a tightening labor market that forces companies to pay ever higher wages that must be passed on as inflation, which usually ends with recession.

That is a more imminent threat than an army of androids.

Write to Greg Ip at greg.ip@wsj.com

Appeared in the May. 11, 2017, print edition as ‘Robots Aren’t Killing Our Jobs Fast Enough.’

Financing more buyers: Harry Triguboff cites tougher Chinese capital controls – AFR

“The Chinese government is making it hard for them”: Developer Harry Triguboff says Australian banks should finance foreign apartment buyers. Ben Rushton

by Michael Bleby

Harry Triguboff, the country’s richest person, says he is financing about $200 million of the $1.4 billion worth of apartment sales he expects to make this year, as his mostly Chinese buyers struggle with tougher currency controls to get money into Australia.

Mr Triguboff, founder and owner of developer Meriton Group, said financing apartments was something he started doing recently.

“Two years ago I didn’t lend anything,” Mr Triguboff said in an interview with The Australian Financial Review.

“Now, [I’m lending] maybe $200 million. It might go up to $400 [million]. But then they will start paying back. This is the worst time. What’s happening is I don’t have old customers, so nobody’s paying me back. So I’m building it up. In another year, they’ll start paying me back.”

Despite saying he was “unfortunately” lending to his customers, it is something Mr Triguboff, who topped the BRW Rich List for the first time last year with an estimated fortune worth $10.62 billion, can afford. Meriton’s balance sheet is strong enough to extend finance to its customers.

Apartment prices are also weakening, he said.

“Now, if anything, it’s going down a bit,” Mr Triguboff said. “It went up in the beginning of the year. Now it’s gone down.”

Apartment values weakened across the east coast last month, figures from CoreLogic showed. Sydney and Melbourne apartment prices fell 1.2 and 0.9 per cent respectively, while Brisbane suffered the biggest decline, a 1.9 per cent fall. Meriton develops in NSW and Queensland but not in Victoria.

The increasing reluctance of Australian banks to lend to foreign buyers was part of the problem, but the greater reason the Meriton boss had started lending directly to his customers was the Chinese government’s moves to restrict buyers from taking money out of the country, he said.

“The Chinese government is making it hard for them. That is the biggest problem.”

It was proving a problem for Chinese customers, who regarded Australian property investment as a way of securing wealth outside of China, and had never previously encountered problems with sending money out, he said.

“What happened before is that the Chinese buyer knew he could get money out of China,” Mr Triguboff said.

“So he never borrowed here. And then it became harder over there. So he said ‘I will borrow here’. And we decided ‘We can’t give it [credit] to him because he jacks up the prices’. So he’s caught. I hope that we will lend money to them because they are very good borrowers. You show me a man that buys a unit – you don’t talk about a man that buys for $400 million – I mean a man who buys for half a million. He will pay, no question. So the banks should be allowed to lend to them.

“Then they said ‘We don’t understand their financials’. But that’s bullshit – the fact is, they all pay. Show me one who didn’t pay. We should allow them.”

The Fed’s Expected Rate Increase Signals Return to More Normal World – Greg Ip

3-12-17 4:18 PM EDT | Email Article

By Greg Ip

A few months ago, virtually no one expected the Federal Reserve to raise interest rates this week. Now, almost everyone does.

The reason for the shift? The world is looking more normal. And in a normal world, interest rates need to rise. As yet, the path of increases still looks leisurely. Yet a normal world also implies a greater risk that the Fed will respond to good news by stepping up the pace of increases or starting to shrink its large bond portfolio.

In recent years, little seemed normal, and the Fed’s behaviour was decidedly asymmetric: bad news delayed rate increases, but good news didn’t speed them up. Central bank officials began both 2015 and 2016 projecting three to four quarter-percentage point rate increases, and in both years delivered just one, in December.

When the Fed began 2017 projecting three rate increases, many investors assumed it would, once again, drag its feet. Two weeks ago officials put them right with a series of public comments that were the equivalent of slapping the market in the face and screaming, “Wake up!”

Two key factors explain why the increases didn’t materialize as planned over the past two years.

The first was a significant rethink of some fundamental features of the economy. Officials long thought unemployment could comfortably sit between 5.2% and 5.5% without generating inflation. Then actual unemployment fell below that level in mid-2015 and stayed there with no sign of inflation and little of wages picking up. The Fed responded by revising down its estimate of the “natural rate” of unemployment to between 4.7% and 5%.

This meant officials thought the economy still had unused slack even as unemployment fell, weakening the case for higher rates. Now, with unemployment at the lower end of their new estimate of the natural unemployment rate and expected inflation perking up, there is less case for waiting.

Officials also thought two years ago they had to get started raising their benchmark federal-funds rate from near zero because they had a way to go to reach the 3.75% rate appropriate for containing inflation over the long run. As officials turned pessimistic on the economy’s growth prospects, they cut their estimate of where rates are heading in the long run to 3%. That added a cushion in which to delay rate increases. However, two years later that cushion for delay is almost gone.

The second factor which had held back the Fed was a series of shocks: a collapse in the price of oil, starting in 2014; a bout of turmoil surrounding the stability of China’s currency; and a vote in Britain to leave the European Union.

Those events didn’t change where the Fed thought growth and inflation would end up. But officials set rates not just according to their forecast but to what will happen if they’re wrong. Cheap oil, China turmoil and Brexit all raised the threat that growth, inflation or both could slide toward zero and the Fed had precious little ammunition with which to respond. By contrast, they had all the rate ammo they needed if growth and inflation took off. So they chose to err on the side of raising rates too slowly than too quickly.

They are no longer content with that trade-off. As oil prices stabilized and then rose, so did expected inflation. Mr. Trump’s victory has raised the prospect of lower taxes, more spending on military and infrastructure, and a lower regulatory burden on business. Officials haven’t seen enough evidence to mark up their forecasts much. But as Bill Dudley, president of the Federal Reserve Bank of New York said last month, “We do know that fiscal policy is going to move in a more stimulative direction. So … the risks to the outlook are now starting to tilt to the upside.”

This shift in tone is difficult to explain solely with data. Things that once worried them, such as politics, no longer seem to. A year ago, fears the British would vote to leave the EU prompted officials to delay rate increases. Today, betting markets put a higher probability (30% to 40%) that Marine Le Pen, leader of the anti-euro National Front will become president of France in May than they did on Britain voting to leave the EU a year ago. A National Front victory could lead to the breakup of the euro or even the EU, a far more disruptive event than Brexit. Yet no Fed official has expressed concern yet.

Officials seem buoyed by the same confidence that has washed over the market. In her speech on March 3 laying the groundwork for this week’s move, Fed Chairwoman Janet Yellen used words such as “strength,” “growth” and “confidence” more than any other Fed speech since 2010, according to Bianco Research, a financial research firm.

So far, Fed officials still seem content with three rate increases for the year. The acceleration in job creation has been met by rising labor-force participation, evidence of more slack and less inflationary pressure than the low unemployment rate implies. Oil prices have recently dropped, which could weigh on both inflation and business investment.

Still, now that Fed officials have put equal weight on upside and downside risks, the clear message for investors is that any good news they celebrate in coming months comes with an asterisk: it raises the odds of tighter money.

Write to Greg Ip at greg.ip@wsj.com

IMF urges RBA to slash rates to avoid low-growth trap – The Australian

The Australian
12:00AM February 13, 2017
DAVID UREN

Economics Editor

Canberra

The IMF has urged the Reserve Bank to slash rates in a much more pessimistic analysis of the outlook than presented in the bank’s latest forecast, arguing the economy is at risk of getting caught in a Japanese-style low inflation and low growth trap.

The fund presents extraordinary modelling showing the Reserve Bank should halve its policy rate over the next six months to 0.75 per cent, which it says is the effective “lower bound” for nominal rates in Australia.

“A prudent risk management strategy in the current situation would aim to avoid ‘dark corners’, where the economy could get stuck in a low inflation and low-growth trap. Put differently, a ‘low for longer’ strategy would be best suited to minimise those risks,” the IMF says in a staff paper prepared for the fund’s formal annual review of the Australian economy.

The IMF stance is in sharp contrast to the Reserve Bank’s Philip Lowe who declared last week that with the global economy picking up speed, “the days of further monetary easing are behind us, and that’s good”.

Lowe said his central forecast was for the Australian economy to sustain growth of about 3 per cent over the next few years, “which by the standards of other countries is pretty good”.

However, the fund says the Reserve Bank’s current cash rate is much less stimulatory than it appears, arguing that the “equilibrium interest rate” — the rate at which economic activity is neither being stimulated nor restrained — has halved from 2 percentage points above inflation to just 1 percentage point since the onset of the global financial crisis.

The fund says the persistence of Australia’s underperformance in the face of the Reserve Bank’s rate cuts is evidence of the fall in equilibrium interest rates. The IMF estimates that the economy’s production is falling short of its potential, with an output “gap” equivalent to 1.3 per cent of GDP.

Although the “equilibrium” interest rate cannot be measured directly, the IMF used three different modelling techniques to estimate it. “All three methods point to large drops in the real equilibrium interest rate (EIR) in Australia to levels near 1 per cent. This implies that monetary stimulus in the economy would be less than widely thought.”

The IMF says equilibrium interest rates have fallen around the world since the global financial crisis.

“For open economies with high capital mobility, such as Australia, the domestic rate will be strongly driven by global interest rates, that is, the EIRs in other major economies,” it says.

National differences would be due to country-specific factors such as a nation’s “risk premium”.

“In the Australian case, the country risk premium is likely to depend in part on its net foreign liabilities and related perceptions of repayment risks,” it said.

The result has been inflation falling persistently below the Reserve Bank’s target, with inflation measures for both tradeable and non-tradeable goods and services dropping below the target level for the first time ever.

“These facts highlight the new challenges that the current episodes pose for monetary policy in Australia,” the IMF said.

“Once low inflation becomes entrenched, it could be very difficult to correct, leading to economic costs that can be considerable, such as those incurred for example, in Japan and the euro area.”

“With an EIR of around 1 per cent, the RBA faces relatively greater risks of reaching the effective lower bound of about 1 per cent than it would if the EIR were higher.

“Hence, it could face a situation where there is little room for a monetary policy response to negative shocks with the conventional cash rate tool, and it will be important to explore the scope for unconventional measures.”

The IMF paper says an “optimal” monetary policy should make more effective use of “conventional policy instruments” (particularly rate cuts) and making better use of communication. It says the Reserve Bank should give clearer guidance about the future course of its cash rate.

It says the bank should stand ready to use “unconventional” measures, such as asset purchases, directly funding bank credit and negative interest rates.

Since taking over as governor in September, Lowe has highlighted his concern about the risk of lower rates to financial stability, with household indebtedness rising to record levels.

However, the IMF says this should be dealt with by the banking regulator, the Australian Prudential Regulation Authority.

“Concerns about risks to financial stability from low interest rates can be addressed through banking supervision and prudential policies, with a view to curbing excessive leverage by financial intermediaries, firms, and households,” it says.

The fund’s modelling is based on the economy as it stood at the end of last year, with inflation at 1.3 per cent, the economy falling short of potential by 1.3 per cent of GDP and the cash rate at 1.5 per cent, with financial markets predicting at that time that it would drop to 1.3 per cent over the following year.

With the standard reaction of an inflation targeting central bank based on both the current output gap and expected inflation a year away, the cash rate would be lowered modestly and then increased gradually.

There would be a small depreciation in the Australian dollar and a gradual closing of the output gap, but the IMF says the recovery would be slow.

“Under this scenario, inflation stays below the RBA’s 2 to 3 per cent inflation target range for several years,” it says.

“The optimal monetary policy strategy is to respond with a ‘low for longer’ policy leading to a faster return of inflation to target and output to potential.”

This strategy would be based on minimising economic loss, with equal weighting given to underperformance of the economy and to inflation.

“Such a forward-looking policy strategy would put a premium on avoiding ‘dark corners’ in which the economy gets stuck in a bad equilibrium and becomes resistant to conventional policy instruments.

“The policy rate would be cut significantly over a few quarters, falling to 0.75 per cent before it increases gradually.

“As a result, the output gap closes much faster and inflation returns inside the 2-3 per cent target range shortly over the next few quarters.

“With interest rates lower for longer, the Australian dollar depreciates by an additional 6 per cent.”

If Australia is confronted with an external shock, such as a downturn in China, the government should also respond, supporting the economy with fiscal stimulus.

With its conviction that an end to the drawn-out recovery from the global financial crisis is at hand, the Reserve Bank is likely to reject outright the IMF’s prescriptions, and particularly its suggestion that the bank jettison its established way of setting rates according to the expected course of inflation.

Most in the market agree that economic momentum is building and there is little case for further cuts. However, there are a number of economists who think the Reserve Bank still has rates set too high and will have to lower further as labour force, inflation and growth figures fall short of its forecasts.

Economist’s views on the RBA February policy decision.

Bill Evans

RBA keeps rates on hold, commentary slightly more upbeat than in December.

3:32PM, 07 Feb 2017

As expected the Reserve Bank Board decided to hold the overnight cash rate unchanged at 1.5%.

The commentary in the Governor’s statement was a little more upbeat than had been the case in December. In particular the global view has been lifted from global growth “lower than average” to “growth above trend in a number of developed economies.”

Another aspect of the importance of global growth has been the ongoing strength in commodity prices. This statement notes that the terms of trade have risen and this will boost national incomes.

The Bank confirms its forecast in November that growth in 2017 and 2018 will be around 3%. In fact the 2018 forecast is 3.5% and given the more recent official forecasts we saw from the Government in the December Mid Year Economic and Fiscal Outlook that 2018 number is likely to be shaved a little to 3.25%. Nevertheless 3% is considered to be above the Bank’s assessment of trend (2.75%) and therefore implies a gradually strengthening labour market.

The statement directly addresses the reported contraction in the economy in the September quarter attributing it to “temporary factors” with the RBA expecting a return to reasonable growth in the December quarter. In that regard while consumption is expected to remain moderate, non mining investment is anticipated to show “some pick up”.

Specific commentary on the labour market is largely unchanged with conditions described as mixed although the Bank notes that leading indicators are pointing to continued expansion.

Commentary on the housing market is also largely in line with the December statement with the market described as strengthening overall and prices rising briskly in some cities. In fact in December the statement pointed out that turnover had been lower and this comment is absent in this statement. There is also some emphasis on the tightening in lending conditions from the banks that will give the RBA some comfort with respect to any financial stability risks.

Commentary around inflation remains confident pointing out that the most recent inflation report was in line with expectations and both headline and underlying inflation were expected to rise above 2% over the Bank’s forecast period.

Conclusion
This statement clearly sets out the Bank’s current policy approach. That is, to hold rates steady in anticipation of a gradual lift in growth and inflation while imbalances in the housing market remain contained. We expect this thinking will be sustained throughout 2017 being supported by a rising terms of trade, a peaking construction cycle and a gradually falling unemployment rate with rates remaining on hold. Our central view for 2018 would be a similar policy stance despite clear preferences in the market for the beginning of a tightening cycle. Westpac’s view on growth in 2018 is that is it will slow down to a below trend 2.5% with housing construction contracting, the terms of trade falling, and ongoing moderation in consumer spending and business investment. This pitches the risks to the “on hold” call in 2018 to the downside in clear contrast to current market views.

CBA

The decision: On hold and neutral bias reaffirmed.

The RBA’s decision to leave the cash rate unchanged today came as no surprise. Market pricing had implied very little chance of policy easing in February despite inflation continuing to run below target. Concerns around the further build‑up of debt in the household sector and strong dwelling price growth have reduced the odds of another rate cut despite inflation remaining below the target band. In addition, domestic income is receiving a boost from firmer commodity prices.

The Governor’s Statement today was the first commentary out of the RBA on the economy since mid‑December. And it was the first opportunity the Bank has had to opine on the QIII GDP shocker (0.5% contraction). The Governor appears unperturbed by the fall, noting that growth was weaker than expected because of “temporary factors.” And, “a return to reasonable growth is expected in the December quarter.”

The Governor sounds relatively upbeat on the domestic economy in general. The RBA’s central forecast is for, “economic growth to be around 3 per cent over the next couple of years.” In addition, Lowe suggested that, “some further pick‑up in non‑mining business investment is also expected.” In our view, that’s a bullish statement given we are yet to observe a meaningful lift in private non‑mining investment. The last RBA comment on the capex outlook was “subdued.” So today’s comment is a significant upgrade to what has been a weak part of the economy story.

The Governor sounds sanguine on the labour market. Lowe pointed out that although the unemployment rate has recently moved a little higher, full time jobs, “turned positive in late 2016.” He also noted that, “the forward‑looking indicators point to continued expansion in employment.” We agree and point out yesterday’s solid 4.0% rise in job ads over January as evidence.

On inflation, the Governor expects headline inflation to return to within the target band in 2017. But the lift in underlying inflation is expected to be, “a bit more gradual.”

The Governor stuck to the recent script on the housing market, noting that, “in some markets (i.e. Sydney and Melbourne), conditions have strengthened further and prices are rising briskly. In other markets, prices are declining.” He added that there has been stronger demand by investors. This is consistent with the lending data.

The outlook

The RBA has left policy on hold since August 2016 despite the last two quarterly inflation reads printing below target. Put another way, the RBA has not cut rates since Dr Lowe become Governor despite core inflation continuing to run sub‑2.0%. Therefore we conclude that the RBA, under new Governor Lowe, is willing to

tolerate inflation below the target band if it reduced the risk of financial imbalances and the further build of up debt in the household sector. Dr Lowe, in his capacity as Governor, has made remarks around this on more than one occasion.

We think that the RBA faces a tough job in returning inflation to target. And we don’t expect core inflation to get back to within the target band until 2018. But in our view, the hurdle for another rate cut is higher than it was last year. With the Fed tightening further in 2017, firmer commodity prices, public infrastructure spending lifting and continued strength in the housing market, we see the RBA content to leave rates on hold despite inflation undershooting the target.

The risk, however, sits with easing over the next six months because we don’t see enough strength in the labour market to push inflation materially higher. Any loss of momentum in the labour market, coupled with some cooling in the housing market, could see policy easing come back on the table.

Market attention now quickly turns to Thursday night when the Governor will deliver a speech at an economic forum dinner. And on Friday the RBA will publish its February Statement on Monetary Policy (SMP). In our view, the RBA is likely to downgrade its near term growth forecasts. But the bigger picture through the RBA’s lens is unlikely to be changed. The RBA is expected to leave its inflation forecasts unchanged. And they will also extend their forecast horizon to June 2019. The expected downward adjustment to the Bank’s near term growth profile supports market pricing that the risk lies with another cut over the next six months.

Deutsche Bank

AUSTRALIA VIEW: Deutsche Bank economists says the RBA’s policy stance remains neutral in today’s statement but they continue to look for a cut this year. “This is primarily because we see few reasons why core inflation in Australia will lift in coming quarters given the AUD TWI (trade-weighted index) is higher than a year ago and also given that wages growth continues to either make new lows or run near record low levels,” they wrote in a note. They maintain the risk around their May timing for a cut is that it ‘slips’ into August.

Citigroup

AUSTRALIA VIEW: Citigroup economists think the RBA’s views in the cash rate statement on recent activity data is more positive than them. Their own view is that headwinds such as slower building approvals and retail sales growth point to ongoing sub-trend spending growth more broadly. They also point to RBA noting that full-time employment turned more positive late in 2016 but they are highlighting the recent increase in labour force participation that has added spare capacity to the labour market and which risks lifting the unemployment rate and keeping wages growth subdued for longer. Citi economists think the earliest timing for “live” RBA meeting won’t be until May, and while their central case remains for no change in cash rate this year, they also retain view that market is under-pricing risk of easing.

Market Insights – OSTC Fx

Four drivers of currency volatility in 2017

While 2016 was defined by unpredictability and the resulting volatility in the FX markets, there is much more to come in 2017 – and inactivity is as risky as change for small businesses grappling with the fallout from economic and political change.

We’re looking at four key issues and strategies crucial to your business’ success in 2017.

The inauguration of Donald Trump

Donald Trump becoming US President is the first major event likely to cause uncertainty in currency markets. Companies will be trying to second guess how his promises and pledges made during the election will translate into real economic policy.

While he has promised to reform tax laws, cut regulation and protect American jobs – expected to be at the expense of free trade – many fear his policies could also lead to higher inflation, higher interest rates and strengthening of the dollar.

But Paul Langley, managing director of OSTC^FX warns that, as the result of the US election itself proved, speculation is futile and it is better to plan for every scenario.

“Last year, many companies changed their positions on forwards contracts because they thought they knew what the result would be. That meant we saw billions of pounds gambled on an election that proved utterly unpredictable,” said Langley.

“For the many small UK firms trading in dollars, his economic policies and their implications pose real questions to importers and exporters alike. I recommend adopting a robust hedging strategy now.”

Triggering Article 50

More turbulence is also expected when Article 50, the legal mechanism by which the UK starts the process of leaving the European Union (EU), is finally triggered.

The effect this will have on the currency markets is harder to foresee. The fact that a UK High Court has ruled that Article 50 cannot be triggered without parliamentary approval has raised hopes of a so-called ‘soft’ Brexit, which may retain access to the single market.

On this basis, some believe the pound will recover against the euro in 2017, something that would be favoured by businesses importing from the Eurozone but not exporters.

Langley suggests more turbulence is likely and recommends that SMEs hedge their bets.

“SMEs might be inclined to play it safe this time, after the 8-10 percent fall in sterling following the Brexit vote,” said Langley.

More European elections

After the political fallout of the Brexit vote and Trump winning the US election, few would try to predict the outcome of elections in 2017.

Around 40 percent of EU countries will head to the polls in 2017, leaving room for many more surprises.

“The French election in May, and the German vote which starts in August, have the most potential for disruption. With discontent in both countries, there is likely to be more volatility in the euro market,” said Langley.

The National Congress of the Communist Party of China

The National Congress of the Communist Party of China only meets every four to five years and often sets the tone for economic direction. With the next meeting in the autumn, this has the potential to also cause significant turbulence in the currency markets, especially if US-China relations are further strained by this point.

If recent meetings of the Central Economic Work Conference are anything to go by, preventing the growth of asset bubbles and other financial risks are at the top of China’s to-do list for 2017. That could mean continuing reforms of the state-owned enterprises and property market that have bolstered China’s growth.

“Locking in rates for certainty in your supply chain has never looked so appealing. But for a more nuanced approach, hedging your position prior to key flashpoints could be a sensible way to benefit from longer-term trends without risking the kind of sudden shifts that made 2016 such a challenging environment for companies engaging in cross-border transfers,” concluded Langley.

Send Paul Langley a message.

Red Flag For Markets: Pension Funds To Sell “Near Record” Amount Of Stocks In The Next Few Days – Zero hedge

by Tyler Durden

Dec 22, 2016 3:41 PM

One of the recurring comments about the “Trumpflation” rally, which has sent US stock markets to constant record highs and pushed the Dow Jones just shy of 20,000 has been that there is virtually nobody selling. According to a poll released today by Reuters, which surveyed 45 fund managers and CIOs around the globe, investors’ equity holdings rose to six-month highs in December on bets that buying at all time highs would mean selling even higher.

“Be ready to buy dips,” Trevor Greetham, head of multi-asset at Royal London Asset Management, told Reuters however that has proven difficult in the past two months as there have been largely no dips to buy. As Carl Icahn lamented earlier on CNBC, “nobody is selling.”

However, according to a new analysis from Credit Suisse, a “seller” may emerge, and a very determined one at that.

In a report by the Swiss Bank’s Victor Lin, pension funds that rebalance monthly and quarterly would need to sell $38 billion of U.S. equities in coming days to rebalance to prior asset allocation levels.

While regular readers are well aware, there has been a massive capital shift out of global bonds and into stocks in the 4th quarter, leading ironically to a mirror image result: while the value of global stocks has risen by $3 trillion since the US election according to Deutsche Bank, the value of debt has declined by an identical amount.

But while Mark-To- Market values of key asset holdings in pension portfolios have shifted violently, pensions have specific quotas to adhere to, which in this case means selling winners and buying losers to return to their mandated allocation percentages.

As a result, according to Lin’s analysis, the “estimated rotation out of domestic U.S. equities would be one of the largest on record” with relatively large outperformance versus other asset classes both on a monthly and quarterly basis. Additionally, Lin estimates selling of $864 million in developed market international stocks.

While the exodus from US and International stocks would be substantial, the offset to this would be an aggressively buying of more than $6.3 billion in emerging market equities. Another offset would be the purchase of that “other” formerly beloved asset class: bonds, where pensions could end up buying approximately $22 billion.

There is more bad news: the Credit Suisse analysts believes the selling in U.S. equities could increase to nearly $58 billion (and bond buying to over $35 billion) should equity-bond relative performance continue to widen before year-end.

Assuming his analysis is correct, the question is how will this exaggerated selling take place in the five remaining trading days of 2016 during what is already extremely thin and illiquid tape, where most traders are now gone on holiday, and in which HFTs are just salivating at the thought of frontrunning major block orders: remember, HFT works both on the way up and, in some very rare occasions, on the way down.

We expect an answer in the next several days; should Lin be right one can cancel that Dow 20,000 hat order, if only for the balance of this year.

Hedge Funds’ Biggest Bear Shift Since 2012 Shows Aussie Frailty – Bloomberg

2016-11-29 02:29:38.457 GMT

By Garfield Reynolds

(Bloomberg) — Australia’s yield advantage over the U.S.

has all but evaporated, and that’s enough for hedge funds to start bailing on the local currency at the fastest pace in four years.

Leveraged investors cut bets on gains in Aussie dollar by

25,257 contracts in the week to Nov. 22, the steepest such shift since 2012, the latest data from the Commodity Futures Trading Commission show. And with the Federal Reserve seen raising interest rates at least twice within a year while Australia’s central bank stands pat, Credit Agricole SA says sell the world’s fifth-most traded currency as it’s poised to drop about

6 percent to 70 U.S. cents.

Although that’s more bearish than most views, the analyst consensus still sees moderate declines coming. And while the Aussie is receiving support from a recent surge in major export commodities including iron ore and coal, the outlook for the currency is clouded by prospects for a sovereign credit-rating downgrade and concerns Donald Trump’s protectionist campaign- trail rhetoric will translate into real-life limits on free trade.

The Australian dollar’s “yield appeal is under pressure and we expect this pressure to continue in the coming months, David Forrester, a foreign-exchange strategist at Credit Agricole’s corporate and investment-banking unit in Hong Kong, wrote in a note to clients. “While President-elect Trump’s fiscal stimulus plans could get bogged down in Congress, his protectionist agenda may have more of a chance of being realized, which would be bad news for small, open economies, especially those, such as Australia, with close ties to China.”

The Australian dollar was at 74.88 U.S. cents as of 1:29 p.m. in Sydney on Tuesday, down from a six-month high of 77.78 on Nov. 8. The following charts highlight the key drivers for the currency as it struggles to snap out of its first three-year losing streak since the early 1990s.

CHART 1: The yield premium that Australia’s benchmark 10- year bond offers over equivalent U.S. debt has narrowed to less than 40 basis points from 275 back in 2010, when the South Pacific currency was climbing toward the record-high of almost

$1.11 reached in 2011.

bloomberg-1

CHART 2: The gap between the number of contracts held by leveraged investors betting that the Aussie dollar will gain and those wagering on declines has shrunk from 53,800 to 18,880 in the space of just two weeks as markets priced in a more hawkish Fed.

bloomberg-2

CHART 3: While the rally in commodities has provided support for the Aussie, the recent gains in iron ore and coal prices have outstripped the appreciation of the currency on a trade-weighted basis.

bloomberg-3

CHART 4: Bloomberg’s survey of currency forecasters shows that analysts still see room for further weakness, although the Aussie’s resilience in recent months prompted them to dial back their bearishness a little.

bloomberg-4

Australia’s fiscal story is ‘starting to break down’, says S&P – AFR

Treasurer Scott Morrison is using the UK example to push parliament into supporting his company tax cuts. Alex Ellinghausen

by Jacob Greber

Treasurer Scott Morrison appears to have been given until May to address an expected deterioration in the budget deficit – either through spending cuts or tax hikes – with one ratings agency warning the budget must be returned to surplus by 2020-21.

S&P Global Ratings director Craig Michaels told The Australian Financial Review that he doesn’t expect the government to use next month’s mid-year update to close likely shortfalls in the budget caused by weak wages growth.

However it was not yet clear whether the agency would put out a reassessment of the AAA credit rating in the immediate aftermath of the December 19 mid-year economic and fiscal outlook. Mr Morrison emphasised on Monday that MYEFO would not be a mini-budget.

Patience is growing thin at the agency over constant delays in budget repair. Mr Michaels pointed out that the current forecast for a return to surplus would be eight years after Labor first predicted a balanced budget for 2012-13 and more than a decade since the federal government’s books first slipped into deficit after the global financial crisis.

“If the government does meet its current target of a 2020-21 surplus that would still be consistent with the rating,” he told a conference in parliament house in Canberra hosted by Industry Super Australia.

“But if there’s more slippage beyond that then that probably wouldn’t be.”

There is growing concern within the Turnbull government that the coming budget update will see the headline deficit widen compared to the May budget. Deloitte Access Economics forecast this week that the blowout will be about $24 billion over four years, to a total of $108 billion.

S&P’s remarks imply there will almost certainly be a need for parliament to pass additional repair measures above and beyond the ones that are already slated, including fresh curbs on high-end superannuation concessions and the so-called omnibus bill of welfare savings worth just over $6.3 billion over four years.

“Unless revenue picks up in a surprising and sustained way to solve the budget problem, if you like, we would need to see further policy measures on the fiscal side to offset that if we are to maintain the AAA rating,” Mr Michaels said.

While the government’s debt levels are low by global standards and even relative to other top-rated AAA nations, Mr Michaels pointed out that overall externally sourced private debt – much of it invested in housing via the banking system – is among the highest in the world.

A slide presented by S&P to the conference, based on calculations by McKinsey, shows combined consumer, bank and government debt reached around 250 per cent of gross domestic product in mid 2014, a figure that has almost certainly risen since then given the ongoing property boom and rising government borrowing.

“[The government’s balance sheet] is quite strong, but the economy’s balance sheet is very weak,” Mr Michaels said.

“What it means is that Australia’s economic prospects are beholden to the ongoing willingness of foreign investors to roll over that debt and to continue to fund what is a structural current account deficit.

“Those things are fine provided foreign investors remain comfortable and confident in the Australian growth story.”

Even though S&P regards a sudden collapse or withdrawal of foreign lending in Australia as a “low probability scenario” thanks to underlying strengths, including bipartisan support for balanced budgets, it is growing less comfortable.

“That fiscal story is what’s starting to break down a little bit now, potentially,” Mr Michaels said.

The drum beat of warnings from S&P escalates the political stakes for the government as it pushes hard to win support for its plan to cut the 30 per cent company tax rate. Labor staunchly opposes the move because it would cut $50 billion from government revenue when the budget can least afford it.

Mr Morrison argues that the cuts would help fix a national “earnings problem” that is eating into profits and wages growth. On Tuesday, the Treasurer used a pledge by British Prime Minister Theresa May to cut the UK tax rate even further to put pressure on parliament to support his plans so Australian can remain competitive.

Mr Michaels indicated that the potential fall in revenue from company tax cuts is already built into Treasury’s 10-year budget projections, which cap tax as a proportion of GDP at 23.9 from 2021-22. That implies the government would deliver tax cuts at some point, he said.

Hopes have been raised in recent months that resurgent commodity prices will go some way to fixing the budget. Mr Michaels said that may be an “upside risk” but that the agency wasn’t convinced of a “structural lift up in prices at this point”.

“Beyond that, nominal growth could well be lower than what the budget assumes, and the wages data and CPI data that’s come in more recently could potentially be consistent with that.”

Mr Morrison insisted on Sunday that he would not take the “reckless” option of assuming coal prices would remain elevated, and that recent improvement in commodity prices “doesn’t mitigate” lower wages growth and profits, which are hurting revenues.

Offsetting the gloom, Reserve Bank of Australia assistant governor Christopher Kent said in Sydney late Tuesday that the terms of trade may have lastingly turned from a “substantial headwind” for the economy to a “slight tail breeze.”

“One notable aspect of our latest forecasts was the upward revision to the outlook for Australia’s terms of trade,” he said.

“Prices of bulk commodities have risen this year and contributed to a rise in the terms of trade of about 6 per cent in the June and September quarters. That’s the first rise in the terms of trade in some time.

“Our forecasts are for the terms of trade to remain above the low point reached earlier this year, and about 25 per cent above the average of the early 2000s before the boom.

“While our forecasts are uncertain and subject to various risks, the upward revision represents a marked change from the pattern of the past five years. If our forecasts are right, the terms of trade will shift from the substantial headwind of recent years to a slight tail breeze providing some support to the growth of nominal demand.”

BlackRock Says Australia Could Lose AAA as Early as Next Month – Bloomberg

By Narayanan Somasundaram and Ruth Liew

Poorer outlook at mid-year budget update could act as catalyst
S&P has already placed sovereign rating on negative outlook

(Bloomberg) —

Australia could be stripped of its top credit score by S&P Global Ratings as early as next month if the government’s interim budget review shows further deterioration, according to BlackRock Inc.

The mid-year economic and fiscal outlook, which for the past three years has been delivered in December, could be a “catalyst” for the country to lose its AAA rating, said Stephen Miller, the Sydney-based head of Australian fixed income at the world’s largest money manager. Australia is currently the highest yielding issuer among 10 nations with top ratings from the three major assessors, and a downgrade could lessen the appeal of Aussie debt for international investors who hold the majority of the country’s sovereign notes.

The Australian government has struggled to rein in its fiscal shortfall as lower commodity prices have crimped revenues and parliament has stymied savings measures. The budget has been in deficit since 2008 and isn’t forecast to return to surplus until at least 2021, according to the fiscal plan released in May. An election in July failed to break the legislative gridlock, prompting S&P to shift its outlook to negative and warn of a possible rating cut.

“Australian governments have been serial under-deliverers,” said Miller, who has been investing in bonds for more than two decades. “If we persist with that, we might see the patience of the rating agencies tested to breaking point. There have been some positive developments in the last six months, but I think they’ve been few and far between.”

The allure of the nation’s securities for overseas buyers is already starting to wane, with growth in foreign holdings failing to keep pace with a debt pile that’s projected to reach almost A$500 billion ($383 billion) by the end of June. Government data indicate the proportion of federal securities held by non-resident investors in the second quarter fell to just 59 percent, the least since 2009, while bond auction figures show the average level of bidding at regular sales is the weakest in 14 years.

The government has been forced to revise its estimates on the budget repeatedly and the timeline for a return to surplus keeps getting postponed. Back in 2013, then Treasurer Joe Hockey predicted that there would be a surplus of A$6.59 billion in the current fiscal year; in this year’s May budget that was projected to have turned into a A$37.1 billion deficit.

S&P said in July that there was a one-in-three chance that it would lower Australia’s credit rating within two years if lawmakers failed to agree proposals to balance the budget by the early 2020s. It said “more forceful fiscal policy decisions” would be required and that the federal election — which saw Prime Minister Malcolm Turnbull’s Liberal-National coalition reelected with a razor-thin majority — had dented the government’s prospects for reining in the budget shortfall.

Moody’s Investors Service currently has a stable outlook on its Aaa rating for Australia and said in August that it expected the nation’s credit profile would “remain resilient” to risks. Fitch Ratings said after the July vote that the situation was still consistent with a stable AAA score, “but political gridlock that leads to a sustained widening of the deficit would put downward pressure on the rating, particularly if the economic environment deteriorates.”

S&P moved “pretty quickly out of the box” after the election, according to Miller. If the mid-year update fails to impress, “we might see an S&P action pretty soon after that,” he said.

For a story on BlackRock’s Stephen Miller, click here.

The warning from S&P seems to have had some effect on parliament, with Turnbull in September convincing the main opposition Labor Party to back a package of laws that will result in A$6.3 billion of savings. Scott Morrison, who succeeded Hockey as Treasurer last year, in August warned the budget must be returned to the black to insulate against future shocks.

A resurgence in commodity prices, albeit from the lowest levels in more than a decade, could also help the nation’s public finances. For the first time in six years, the price of Australian exports has risen for three straight quarters, boosting national income and tax revenue.

The Reserve Bank of Australia on Friday said it sees a better short-term outlook for key trading partner China and a resource-price windfall for the economy. “The outlook for commodity prices, particularly coal prices, is more positive than previously thought,” the central bank said, while adding that the current spot prices are unlikely to be sustained.

This year’s tripling in the price of metallurgical coal and a 50 percent surge in iron ore are helping boost Australia’s terms of trade, which haven’t recorded an annual increase since 2011.

BlackRock’s Miller said that while the rebound in coal and iron ore held out the prospect of increased government revenue, he doubted that it would be sufficient, or that it would come soon enough. With regard to the country’s AAA credit score “we’re sailing very close to the wind,” he said.

Level 33

+61 422 953 972

news