Thursday, July 19, 2007

From Russia (and China, and Ben Bernanke) With Love

So yesterday's big event risk was, at the end of the day, pretty bland. US core CPI was modestly higher than expected, but no one cared as they were waiting for Bernanke. The Fed chair's testimony was, to Macro Man's reading, relatively balanced, offering something for just about everyone to use to justify their preconceived viewpoints.

Predictably, hawks focused on the failure to downgrade the 2007 inflation forecast and the observation that the headline PCE deflator is running at a pace that's much too high for comfort. Doves, meanwhile, anchored on the surprising modest downgrade to 2008 growth expectations. To Macro Man, the most interesting bits of the whole farrago dealt with issues away from the economic cycle. That BB devoted 1/5 of his testimony to discussing the Fed's brand new regulatory vigour on subprime smacks of horse-already-bolted ass-covering of the first order. And Barney Frank's grandstanding on income inequality (a valid and pressing political issue, but surely one outside of the remit of the testimony) only serve to increase Macro Man's conviction that protectionism is a legitimate and pressing threat, and one that will get an increasing amount of airplay over the next sixteen months.

Macro Man owes the Central Bank of Russia an apology. Comrades, I never should have doubted your commitment to revalue the rouble. After the Rosneft fiasco of a couple weeks ago, the RUB has surged back (and indeed, through) the reval level against the EUR + USD basket. Now, about that James Bond style foreign policy....
Plenty of news from China as well, with the stats bureau releasing a torrent of statistics last night. Most significantly, GDP growth surged 11.9% y/y, the highest reading since 1995. Although China does not release quarterly expenditure-based breakdowns, ancillary data suggests that consumption, investment, and of course net exports all contributed to the strong reading. Retail sales growth of 16% y/y is impressive, though in comparison to per capita income growth of 18%, it's less so. Indeed, despite the strong growth of nominal and real incomes (and the paltry return on bank deposits), Chinese consumers continue to build savings.Slightly more troubling was the news that CPI rose 4.4% y/y, substantially higher than the forecast of 3.6% and the highest since September 2004. Macro Man is always amused by commentaries on Chinese inflation. Many of the same people who note the regime's desire to minimize social unrest by creating 10-15 million jobs per annum cheerfully dismiss the impact of sharply rising food prices (8.3% y/y in May.)

Now, Macro Man is au courant with the strong rise in Chinese labour productivity, but as far as he is aware that has not yet extended to workers being able to function for extended periods of time without victuals. Moreover, a "let them eat cake" response towards food price inflation has not historically been conducive to socio-political stability. And lest we think that food price inflation in China is a localized phenomenon attributable to temporary distortions, consider the remarkable correlation of food inflation in China and the US over the last few years, despite the obvious differences in their food consumption baskets.

Finally, an interesting survey out of Japan, where 44% of the firms surveyed by Reuters expect the MOF to intervene if USD/JPY rises further. Of those expecting intervention, more than half expect it to occur at or below 128. As Macro Man has noted previously, things seem to be changing in Japan. While there is likely still money to be made from shorting the yen, Macro Man (in what's becoming a theme) would expect the risk adjusted return to be less attractive in the future than it's been in the recent past.






15 comments:

RN said...

Great post.

Anonymous said...

Macro man - Do you expect China's food price and ultimately inflation to rise in near future? If so, is PBoC going to raise interest rates and reduce the growth rate?

Macro Man said...

Yes, I think food prices and headline inflation will continue to rise; yes, I expect PBOC to raise statuatory lending and deposit rates; no, I don't think it will have a terribly meaningful impact upon economic growth, just as prior policy "tightenings" haven't derailed the Middle Kingdom juggernaut.

Anonymous said...

It is not possible to overstate the importance of regional variation in Chinese economic growth and the CCP's paranoia about maintaining its grip on power. These two factors mean that China will err on the side of dovishness because inflation is primarily an urban problem while most of the social unrest is occuring in the countryside. They will seek to contain corruption and promote growth in the hinterland.

Macro Man said...

I'd concur. On that subject, it's interesting to note that investment growth in the western provinces is now exceeding that in the coastal provinecs...so some resources ARE being reallocated. It's another reason not to discount the significance of food price ifnlation as well, given that those regions most prone to unrest are also those most vulnerable to food price rises.

Anonymous said...

Dear MM,

Its interesting to know about RUB reval. Is this one of the reasons for $USD weakness ?

Its a bit intriguing to see how these things play out. RUB, CNY, INR has let it go up at a point... but not all of them at the same point. Looks like a calculated move by these countries ?

Dale said...

Macro-man,

Thanks for the information about Japan. I have been waiting patiently for my yen position to increase in value...

Macro Man said...

Anonymous, I don't believe there is any policy coordination amongst the countries you mentioned.

Russia pegs the rouble against a fairly transparent basket of EUR and USD...and occasionally changes the composition of the basket and/or the roubles's level against the basket.

India manages a "dirty float", where the exchange rate can move, but generally not too far without the central bank coming in to stop the party.

China claims it pegs to a basket, but a number of people including me have run the data and the basket doesn't really exist. So in reality China has what you could call a "filthy float"...the exchange rate moves, but within very tight ranges and with extraordinarily heavy intervention by the CB.

Now, against the $, th currencies of Russia and India have soared in the last twelve months despite the former having a massive current account surplus and the latter having a tasty current account deficit. The common denominator is inflation, with currency strength being seen by the CBs as an effective tool to combat unwelcome inflation.

Which is why I focus so much on Chinese inflation. Ultimately, high and rising inflation is the most likely trigger for PBOC to quit intervening to such a ludicrous degree and allow the RMB to move closer to its fair value, wherever that may be.

Putting it another way, if the rural poor are getting squeezed by food price inflation, one possible solution to rectify the loss of purchasing power is to make the RMB worth more in international goods markets.

Macro Man said...

Dale, good luck with that yen position. You're either braver or have much deeper pockets than me, for sure.

"Cassandra" said...

Barney Frank is probably the sharpest wit, and the least self-serving (and I mean it in the sense of BOTH his parochial interest as well as that of the Dem party) perhaps in both House and Senate. Others may be more effective in a Machiavellian sense, and better at representing their parishioners (ooops, I mean constituents) but, I have maximium respect for his ability to digest and distill the most complex of issues and deflate hyper-self-interested views in pursuit of something that more universally approaches the "Public Interest".

Macro Man said...

Hey, welcome back. Whatever merits/demerits Barney Frank may possess, I think it was wholly inappropriate

a) to hijack the proceedings before BB even had the opportunity to say his piece, and

b) to focus on an issue (income distribution) that comes under the remit of elected officials and the executive branch, not monetary policy. Nothing Ben Bernanke does with interest rates is going to solve the problem of income inequality.

Now, we can probably blame Alan Greenspan for point b above; he is the one who set himself up as the authority on everything and stuck his nose in policy arenas where it didn't belong. Unfortunately, BB now has to live with that legacy.

Point a is all down to Frank, though.

Anonymous said...

macroman -- i am not quite sure why rising food prices would hurt the rural poor (presumably food producers who export in some sense to urban china) rather than the urban poor (generally rural migrants). help me out!

bsetser

prophets said...

perhaps input costs are burdensome on rural farmers? I've read that the Chinese gov't controls pricing on many items such as Gas/Oil. Any thoughts on whether or not the CPI is still understated slightly? Revaluing the RMB would obviously improve the cost of raw material (inputs).

Charles said...

Last Anonymous,

It makes sense, but doesn't work that way in real life. Food price increases typically reach the producers very diluted and tomato farmers have to buy their pork at the store.

Macro Man said...

A couple of thoughts, Brad. The rural poor tend to be MUCH poorer than the urban poor, and with less social safety net support. There is a prettt strong correlation between urbanization and public health, regardless of national income, for example.

Consumption and production baskets are differnt as well. An apple farmer (apparently China has a massive apple industry- who knew?), for example, isn't likely to subsist on the products of his crop. And as Charles notes, the pecuniary rewards of higher agricultural prices rarely accrue to the small quasi-subsistence farmer who is the producer.

Finally, consider that is the rural poor who are affected by things like the massive Yangtze flood and the associated torrent of plague-bearing rats, a distinctly unpleasant situation.