Light in August

Posted by on Thursday, August 07, 2008

As virtually every reader will no doubt recall, it was only last month that the European Central Bank put up interest rates. So it would naturally appear to be premature to start looking for a policy easing, particularly with Eurozone harmonized CPI printing another fresh high- more than double the ECB's target.

To be sure, playing for an ECB policy easing has been one the "widowmaker" trades of 2008, perhaps taking a back seat only to "BOE easing" trades. Yet Macro Man cannot help but wonder if a tiny light might appear at the end of the tunnel in today's press conference.

For clearly the activity data has been poor, much worse than expected. It's all well and good for IG Metall to demand this or that, but if Germany's economy has hit the wall to the degree suggested by the recent stats office leak (-1% q/q growth in Q2), then their bargaining power will be pretty small.

More importantly, Trichet and co. should connect the dots and see what's happened since the July meeting, where they hikes rates but spoke more dovishly than expected. Sure, the euro is a bit lower, which would be inflationary, all else being equal. But all else isn't equal. The oil price has come off more than 20%, which, if maintained, would significantly reduce the forward-looking inflation threat. (Part of this is likely also a function of the China slowdown theme highlighted in the previous post.)

Trichet is fond of saying how 320 million Europeans trust him and his colleagues to maintain stable prices. But the ECB would do well to put on their forecasting hats today and offer up a little light in August. Otherwise, they might find that each of those 320 million Europeans places a portrait of M. Trichet in their a place of honour, attached to a dartboard.


Anonymous said...

I have bought bunds over the last few days on the (rationalized) belief that if they hike rates again, people will expect the economy to tank (and buy bunds), and if they cut rates (not today, but in the near future), people will think that the outlook must have deteriorated a lot (and buy bunds).

The ECB doesn't seem to have the ability to say "we are going to sit on our hands until we see more data" like the Fed does. I just hope they keep talking. :)

spagetti said...

i suspect they always expected a payback for the strong q1 gdp numbers.

but recent eurozone data has been far worse than expected. maybe far worse than the ecb itself expected ? i hope so...

CV said...

Hey man!

You get back to the beach now! :)

"i suspect they always expected a payback for the strong q1 gdp numbers."

Undoubtedly True, but -1.0% for Germany would put them at 1% annualised in H01 which is quite poor. And then, we have further downside for Q3 I think.

Last aggregate number I heard was -0.5% for the entire zone. That would put the zone at 0.2% in H01 and thus 0.4% annualised.

And then we have not even talked about the downside to Spain and Italy.


Anonymous said...

In the opinion of MM and his readers, which is the most/least effective central bank-- ECB? BOE or the Fed? Thanks.

spagetti said...

anon 12:59

they have different mandates..

my least preferred one is the fed on a subjective basis... they r the most responsible for the current moral hazard problem in western societies (ok, that might sound a bit too prophetic)

Corey said...

all-in, long yen vs. usd.

"Cassandra" said...

There is a lot of navel-watching regarding CB policy considering real rates are already quite (understatement coming) low across the world.

Even when inflation moderates - which it will - as deleveraging and revulsion continues, it is a stretch to suggest that real rates will appear in any abusive or impediments to economic activity.

Surely any investment projects or capex decisions sensitive to such miniscule changes in rates, or the policy thereof, are projects that best remain on paper.

This is not to say that fincl mkt specs with a momentum orientation based upon the changes in the bias of official policy won't react as they have in the past, but I think its a stretch to extrapolate these actions to the real economy

shtove said...

As far as I recall, the day after Trichet announced the last hike the ECB issued a statement that this didn't mean hikes were expected during the remainder of the year.

Seemed at the time like Trichet got hauled in by council members. I wonder.

Anonymous said...


what is your rationale for long jpy/usd? $US has been very strong lately.

Anonymous said...

Least effective is Fed as the breadth of interpretation of its mandate by current and previous incumbents leaves it vulnerable to the markets. But you could also argue that the ECB & BoE are too effective against inflation (until recently at least) and need to take the broader picture into account more. Any views on BoJ, or further down under? I suppose that bringing EM CBs into the mix isn't really necessary as they are still establishing credibility but the NBPoland & CzechNB have done a decent job I think. Cheers, JL

Anonymous said...

"In the opinion of MM and his readers, which is the most/least effective central bank-- ECB? BOE or the Fed?"

Sorry, I want to cast my vote for the BOJ. They made a complete mess over there (with help from other government policies), and now (at the margin) set monetary policy for the world (at least for those willing to borrow in yen). While they don't quite deserve the same level of blame that the Fed does for the current situation (only because the Fed exists in the largest economy with the world's reserve currency), it seems like a much closer call to me than most people realize.

CV said...


Anybody looking at the EUR/USD -- 1.5171 (!) That was quick :).

The good old buck seems to be staging something of a comeback here. Impressions anyone?

@ JL ... my feeling is that the BOJ is in near perpetual holding position. Morgan Stanley is fiddling with a 25 basis point cut on Q1 09 but I really think the chances are remote unless the whole edifice breaks into deflation.

Clearly, if this happens it will be ZIRP all over again. I reckon at least ..


spagetti said...

"The good old buck seems to be staging something of a comeback here. Impressions anyone?

so much for decoupling, eh ?

I think the preception is beginning to take hold that the ROW is as much in trouble as the US, hence even if the EURUSD move seems large, i think the public at large is just now going to jump on the bandwagon. probably many of those analyst who tend to extrapolate recent moves, along with CNBC and the likes will now declare a dollar bull which will probably take us further.
not to mention that with numbers like Italy's Yoy GDP at 0.0% the public perception of a Europe in recession could also make this EURUSD move more than just noise

i bought back my eurusd shorts yday at 1.5360 but sold it again this morning..

there is one caveat though that maybe oil corrects its recent downmove a bit, and then eurusd could be saved.

Anonymous said...

With regards to the central banks -

The ECB has done a pretty decent job of their mandate in protecting the value of money. Not brilliant but ok.They have credibility in their fulling of their mandate.

The BOJ has managed an economy of retirees pretty decently. Growth is not the answer or the wholly grail. The Japanese households are wealthy and have retired, on average. They need zero inflation or deflation to maintain their standards of living, not growth.

The Fed have managed to allow the US to accumulate 100% of World GDP in debt. They owe one years income to every man, woman, child, corporation and government on earth. That is not only the most indebted any nation has ever been in history as a % of world GDP, but probably the worse central banking error in world economic history too.

The pursuit of growth at all costs is total economic lunacy... debt is not wealth, debt is the inverse of wealth.

normal being said...

Central Banks:

Switzerland, EZB, Sweden

Bad in the 80ies, acceptable now:


Dangerous ideological fanatics:

In a complex system needless chaotic moves create turbulences (like CO2 does in the weather system).
Turbulence will ultimately hit you on the head like a brick, when you don't expect it anymore.

Anonymous said...

It appears as if MM was correct, as usual, about NZDJPY :-) It also seems as if BOJ is being nominated by MM readers for the CB booby prize. Meanwhile, the USD's recovery seems to be at odds with the economic realities in the US. Perhaps it is ever thus..

Corey said...

obviously picking a bottom in yen vs. usd would have been great, but i have to imagine buying yen at 110 to the dollar provides great value...ppp is around 100, and with the way the usd is undershooting by nearly 50% vs. euro and others, i can see yen near low '80s within six months (20% undershoot). you're seeing yen outperformance now against the crosses with the commodities coming down, and if the buck starts back the other way, you'll see leadership change to the asian currencies.

Anonymous said...

"all-in, long yen vs. usd."

Not a smart move, but thanks for your money (I am long USDJPY).

Anonymous said...

Japan is an interesting case. With a population due to shrink by a third by the middle of the century and the highest government debt in the history of the world, Japan is in at least as much trouble as the United States - at least in the long term. It seems the BOJ has tried to solve the problem by facilitating massive government borrowingvia low interest rates. Maybe this is the best policy for Japan, but it a major cause of all of the bubbles in the rest of the world. I suppose you could say that they have been "effective" - just not in a good way.

t said...

US Exchange stabilization fund apparently sold 10bn EUR recently - any views on whether this had an impact?

davews said...

Corey - I'm surprised to see that you are basing your JPYUSD trade on PPP. Isn't PPP the theoretical long run equilibrium?

Corey said...

when fundamentals meet the perfect storm against the USD, i expect the yen to perform the best simply because its undervalued (many billions have been spent defending the usd vs. the yen). i may have missed the large run in the euro vs. usd, but because i'm primarily a gold trader i logged huge gains from low $400s in 2005 to my peak sale at $1,017 on a Sunday night in mid-March. for the anon poster who said going all-in long yen at .009150 (IMM Sept) last Thursday was not a smart move, i hope they take profits very soon on anything over 110 yen to usd. at times over the next few months, i'll be leveraged 25-50:1 on this trade, and i'm approaching those upper levels now.

the PPP theory can work against you for a long time, but when it works for you thats where you get the overshoot - the euro has overshot about 40%-50% vs. usd based on ppp...and i expect the yen to get at least to the low 80s vs. only about a 20% overshoot. totally doable.

Anonymous said...

hi t said,

ESF data ...does it include the repo lines with ECB...maybe the dip in EUR reserves represents liquidation of the repo lines...


t said...

Anon- good thought but wouldn't that be the fed? The ESF is a treasury gig I believe.

Anonymous said...

let's take a poll

is corey a fade?

Anonymous said...

@ davews, yes PPP is theoretical LR equil, and there is some evidence that ERs are mean reverting to the PPP over 3 to 5 years. Ypu will prob find there is usually more focus on a REER or TWI which capture more info than a straightforward PPP (esp re costs), but both are useful guages of value. However, as you imply I would be wary of trading solely off them; having said that I am inclined toward JPY strengthening esp against crosses like NZD or GBP, so with any luck Mrs Watanabe may be feeling the sting over summers end. Cheers, JL

kihei said...

I'm also short USD/JPY from 109.22. Not looking for near as much as Corey though - just 108 to 106 or so. Based on overbought oscillators. Will average in if it keeps going up.

Corey said...

"is corey a fade"

LOL...sorry Macro-Man...didn't mean to bring the board to these levels. I hope some of my insights over the last year have brought a little fresh thinking to the board, especially with my accurate gold call last fall and my warnings on gold just a short few weeks ago. I'm a one-way, leveraged trader who's done very well focusing on big theme trades and sticking them out. Yes, I sometimes trade very short-term to capture quick gains, but to think I'm only engaging in dialog with traders who want to "fade" me makes me shake my head. I guess they are actually fading the BOJ, so their trading thought is a little misplace.

I'm currently watching gold very closely for another near-term bottom. Last time I picked up about $30 in a day...but this time is a little tricky...a huge bounce might put gold into a free-fall or send gold right back up to $900...either way, its why I'm focusing more on my Yen theme until it plays out.

Macro Man said...

Corey, I appreciate your posting, and I do indeed recall your prior calls on gold.

I'd like to remind other readers/commenters that while it's certainly vail to critique others' viewpoints, please try and confine those critiques to the substance of those viewpoints. (E.g., my own PPP estimate for USDJPY is roughly 110, which would argue against a short USDJPY position on that basis.)

A lot of those who read and post here are profesionals, so let's please try and maintain a civil, professional tone to the comments.


CV said...

So guys ... has the USD found a new level here?

@ Spaghetti (belated)

"so much for decoupling, eh ?"

Well, quite ... it will be interesting to see whether the USD can hold this level. As for de-coupling in general it was always going to be a problem since the main fault line of credit crisi s related slowdowns cut across external deficit nations.

So, unless surplus nations find some capacity of their own, growth has to come down in both blocks; that is pretty obvious I think.

Oh, and as per reference to the little dog fight here in this thread. I am looking at 108.75 ... who is fading who here? I sure don't know :)


Macro Trading Ideas said...

MM, we are waiting your comeback, and i think (hope..) that your first subject could be: from inflation to deflation????? In the last month this is the real story and you can see the huge movements in BEI. For example US breakeven 1year at the beginning of July at 4,3%, now: 0,53%!!!!!! So for the next few years we'll have a real low inflation environment, then back to "normal" due to a huge BEI curve steepening.
I think that markets are erring to the lowside, inflation doesn't fade suddenly... and now for a lot of reasons..
Is this the new poll: inflation or deflation???

spagetti said...

re fade

all of us who take risks develop this schadenfreude cum woodoo of 'fading' certain people.

we all fade magazine covers, our boss, our head of research. we also try to fade supermodels to discover that it was a mistake.

but to poison the atmosphere here is not worthy of a great blog and good quality discussions going on here.

re decoupling: its a bit of my cynical attitude towards some sell side research. or to be precise i nowadays check who wrote a certain piece not just where it came from.
so i tend to fade Jim O'Decouple but would never fade Jan Hatzius

also wouldnt fade Corey
i was short Yen crosses and now short USDJPY coz maybe the USD rally will have a correction for a few days/weeks (based on my charts, and the now trendy Demark stuff)
but i might be wrong, in which case u might want to fade me too

Corey said...

i have added a bit if sept swiss franc to my sept yen position in case the dollar can't hold this new "level". this 2-day market consolidation better reverse quickly for stocks or they might be in real trouble. also, i'm wondering if the small cap short trade will begin working again...i can't think of a worse scenario for small caps than a contracting economy / tight credit / deflation...

Anonymous said...

Dude, what am I going to do without my daily dose of Macro?
Morning coffee just don't taste the same.


Mencius Moldbug said...

What we're seeing here is the market slowly discovering that there's no such thing as "the dollar."

Every price is an exchange rate between two goods. It's mathematically impossible to be long or short USD. You are long or short USD/EUR, USD/JPY, USD/oil, USD/FCOJ, etc.

So when traders talk about being short USD, they are referring to a basket of goods (currencies, commodities, Honus Wagner cards, etc) whose prices they expect to rise against USD.

Everyone knows this, of course. But the fact that traders use the shorthand of "the dollar" creates a false correlation within the basket of goods that is the unspoken, traditional, and quite unanalyzed denominator of "the dollar."

When these correlations go south, mayhem ensues and goods are mispriced. So for example, there is no fundamental reason to think USD/oil, USD/EUR and USD/gold should correlate. Except that a vast number of traders who are "short the dollar" are correlating them.

So when the European financial miracle turns out to be a mirage of Spanish mortgage debt, and EUR goes south, oil and gold go south as well. The latter is especially hard hit, because its price is entirely dependent on financial speculation. Yet as good old Ambrose points out, the decline of a major paper currency toward the inevitable EuroZIRP is hardly bad news for monetary alternatives.

And, of course, US bank stocks go north. More wacky correlation. Solution: make sure you can stay liquid longer than the market can stay irrational.

The fundamental upward price driver for raw materials and precious metals is the hemorrhage of dollars and dollar equivalents from West to East, creating a Cantillon effect in the latter with its high marginal propensity to consume. As you'll see if you read bsetser, this bloodletting has barely slackened. And China in particular can easily buffer any drops in dollar flow by holding its peg, as it seems to be doing - or even crawling in the other direction.

Stopping the bleeding would take (a) a US recession of Depression magnitude unstanched by the Fed, or (b) a return of US industrial health. Don't hold your breath. Most important, though, if this latest gulp was the market smelling (a), stocks would not be going up.

corey deserves a lot of credit for calling this retrace. Every day I am more impressed with what good traders can do. For those of us who do not need to answer for quarterly results, though, I would avoid long-term bets on paper currencies versus either raw materials or precious metals.

Corey said...

btw, stopped out on all short dollar positions is beginning to look very interesting from the long side, and i'll pick back up on the short dollar theme very soon through either yen or swiss franc & now most likely a long gold position too...need new confirmation of a bottom. what a relentless sell-off in gold from 980 to 775.

Anonymous said...

It was another anonymous (not me) who suggested the poll.

I did sell a lot more yen futures at .009225 a couple of days ago.

Japan has the oldest population in the history of the world, the highest government debt in the history of the world, and near zero interest rates. Japan will lose a third of its population by the middle of the century (demographics almost as bad as Russia's), which will make it almost impossible to repay or even service the government debt.

The demographics also imply an economy with almost no potential for growth, and very poor investment opportunities. Japan will have to maintain (or even increase) its export bias to keep the economy from simply imploding.

The reform of the GPIF has created a structural outflow of capital from Japan. This combined with a reduction in the home bias will lead to a weaker Yen as a lot of the money in the Postal savings system seeks higher yields overseas.

Finally the trend (and the fact the the world, other than foreign central banks, remains underweight dollar assets) favors the dollar for now.

And Mencius, I agree no long term thinking in my mindset, but if I had to a Rip van Winkle, and had only the major currencies to chose from, I would certainly pick the dollar over the Euro, Yen, and Pound.

Seems too early to get into gold (still riding my short position from about 930 lower), but I do like it longer term (need to chase all of the ETFs and hedge funds away first).

Of course, I can change my mind about all of this tomorrow. :)

Anonymous said...

Over many years, I have found there is an "edge" in identifying and monitoring fades.

Corey said...

back in half of long IMM sept yen futures, thankfully at a better price than my stop out...i've recalculated downside to 8900, but upside to at least test of 10500 within two months, and possibly all the way to 12000...will build back full yen position on just about any yen strength. although i think gold has a near-term bottom in place, my analysis says gold will only go up b/c dollar is about to head south again. i'll actually look to short gold if it stalls in 850-900 range. good luck with all the fades guys!

normal being said...

@mencius moldbug

Interesting comment.
Read up on Cantillon effect. Agree.

"High marginal propensity to consume" in the East?
Do not agree. To the contrary. Until now nearly purely capital investment, including apartment blocks, which can be considered as productive (urbanisation, efficient workforce).
Can change though.

Regarding commodities: even in historic bull runs cyclical downturns for a year or so are possible.

Anonymous said...

Have read comments from beginning to end. Wow--- they informative and full of contention without being combative. You have attracted a top drawer readership, MM. Best--- Anon

Laeeth said...


As Mr Prop and I discussed in May, sometimes they do ring a bell at the top. (The series of Economist inflation covers in May - not to mention the food riots earlier in the year - did a rather fine job of identifying a general zone for exhaustion in the inflation theme).

Corey - you're absolutely right about PPP. GBPJPY is super obviously at the wrong level if you just compare the cost of a night out in Tokyo to London. Yet I do wonder if there might not be quite some downside to yen on crosses. Structurally rising interest rate differentials + pension reform/rebalancing of home biased porfolios might weight on the yen for quite some time (I have written about this elsewhere).

I wouldnt mind shorting USDJPY 125ish, or possibly a bit worse than that. But after a selling climax such as we saw in March, it would be foolish to jump back in too early.

Mencius - nice to see someone talking about Cantillon. A successful speculator as well as a great economist.

Mencius Moldbug said...


Thanks. BTW, by "consumption" I meant the word in its broad sense, ie, as it applies to demand for raw materials - rather than the narrow sense you read, of consumer goods. Thus capital investment (eg, buildings) is included.

Also, when you hear word that "growth in China is slowing" (yes, it's slowing - from, what, 10.4% to 10.1% per year), keep in mind that this "growth" number has already been adjusted for CPI inflation. When looking at Cantillon effects, what is more interesting is the dollar or dollar-equivalent "nominal" consumption. Ie, the actual amount of money being exchanged for goods. This number tends to grow roughly along with the Chinese money supply, ie, more like 20% than 10%. Hence the "commodity supercycle"! Which can, of course, overshoot itself.

Bear in mind as well that China in specific, and the BRICs in general, have a brake and throttle mechanism it can apply to its economy as the West slows - exchange rate controls. Over the past few years China has been leaning on the brake, by appreciating the yuan. They are now leaning off a bit, and they certainly have no shortage of throttle. So it would take a Western recession of pretty unprecedented terms to try the domestic thermostat levers out of the PRC's hands. And with nominal Western consumption declines in this range - eg, 5% - all kinds of helicopters would take to the air.

Ergo: as most people seem to be saying, the drop in the euro and other OECD economies does not represent an end to commodity price inflation. It is a shockwave whose medium-term result will be that the OECD non-dollar currencies decouple from the commodity basket, and move to the dollar basket. In retrospect this seems obvious. But doesn't everything?


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