Fed needs to wake up and admit the economy is overheating
US central bank risks having to slam on the brakes if it persists with gradualism
Jason Cummins
In Newton’s First Law, an object in motion stays in motion until a force acts upon it. Under new leadership, the Federal Reserve’s monetary policy strategy appears to be following the same logic. In his June press conference, chairman Jay Powell said the Fed would raise interest rates until “we get a sense that the economy is reacting badly”.
The latest numbers suggest the US economy is doing anything but reacting badly. The unemployment rate declined to 3.75 per cent, a 48-year low and three-quarters of a percentage point below the Fed’s median estimate of its long-run sustainable rate. Consumer prices rose 2.3 per cent in May from a year earlier. Excluding volatile food and energy categories, core personal consumption expenditures inflation moved up to 2 per cent, matching the Fed’s target for the first time in more than six years.
Despite downside risks from trade tension, these trends look set to continue. Monetary policy is still expansionary on top of the sizeable fiscal expansion that will build in the coming years. The labour market is poised to get tighter and put continued upward pressure on inflation.
With its latest increase in the federal funds rate to a range of 1.75 per cent to 2 per cent, the Fed has finally brought real interest rates to approximately zero. With further gradual increases every quarter, interest rates would end the year at the lower end of Fed policymakers’ range of neutral — ie, the rate that neither stimulates nor slows economic activity. Given the gradual pace outlined in the Fed’s Summary of Economic Projections, monetary policy would eventually become modestly restrictive sometime in 2019 or later.
Mission accomplished? Economic theory and history suggest otherwise. With long and variable lags between monetary policy and its effect on economic activity, theory teaches that interest rates need to be restrictive before the economy overheats. The likelihood is the Fed will enable an even hotter economy and then really have to cool it down. With markets discounting an even more gradual path of rate rises, the central bank risks a sharp financial snap back when it has to slam on the brakes.
International financial markets are responding to the prospect of tighter US monetary policy by bidding up the value of the US dollar against other currencies. In the past, this has been a key catalyst for international financial crises.
With the Fed raising rates and the People’s Bank of China cutting reserve requirements in June, the renminbi slid more than 3 per cent against the US dollar, its largest ever monthly drop for the tightly managed currency. Continued depreciation risks a replay of the destabilising capital outflows seen in 2015 when US and Chinese monetary policies also diverged. At that time, a mild financial panic that played out into early 2016 stoked fears of global recession.
Elsewhere in emerging markets, central banks are under pressure to respond to a stronger US dollar by defending their currencies with rate rises. The most vulnerable economies like Argentina and Turkey already demonstrated acute strain with sharp depreciations in their currencies and capital outflows.
It’s not just the most mismanaged economies that are vulnerable. Indonesia surprised the market by raising rates 50 basis points last month. Mexico is raising rates to defend its currency and some observers think the next move in Brazil will have to be a hike as well. In these countries, equity markets are down on the year and the appreciation in the US currency is making it harder for domestic borrowers to pay back more expensive dollar-denominated debt.
Back home, the Fed has largely shrugged off the international consequences of its actions. Gradualism seems to pose manageable risks because inflation only recently hit 2 per cent and probably will remain contained in the near-term given how flat the Phillips curve appears to be.
Unfortunately, history teaches that the Fed has never successfully managed a soft landing with the current set of macroeconomic conditions. In every case when the Fed tightened policy by enough to raise the unemployment rate by more than four-tenths of a percentage point, it caused a recession.
However, Powell said at his last press conference that it’s “very possible” the long-run sustainable unemployment rate is lower than 4.5 per cent. There is surely uncertainty about the unobservable variables that guide policy. But, if there’s uncertainty, why conduct policy as if the true value is 75 basis points or more below your official estimate?
A high-pressure economy feels great during the party. But the recessionary hangover can be brutal. A better strategy would be more forward-looking. Recognise the economy is overheating rather than hoping that it’s not, announce that policy will need to be more restrictive sooner than expected, and get on with it. Policymakers would have to endure some pain in the short run as they realign market expectations to a more hawkish rate path. But that’s better than the gradualism that virtually guarantees a larger, more painful realignment later on.
Jason Cummins is chief US economist at Brevan Howard
FED NEEDS TO WAKE UP AND ADMIT THE ECONOMY IS OVERHEATING / THE FINANCIAL TIMES
HAS ONE TWEET REVERSED GOLD´S 3-MONTH DOWNTREND?/ KITCO GOLD
Has One Tweet Reversed Gold’s 3-Month Downtrend?
(Kitco News) - While one tweet has helped to reverse gold’s near-term fortunes, some analysts have said that more work needs to be done to end the yellow metal’s three-month downtrend.
Although gold is ending is second week in negative territory, the market is well off its one-year lows as the U.S. dollar bulls reacted to comments from President Donald Trump. Gold’s bounce started Thursday afternoon after Trump said, in an interview with CNBC, that he was “not thrilled” with rising interest rates as they are hurting economic growth.
August gold futures have managed to hold on to its gains heading into the weekend, last trading at $1,229.20 an ounce, down almost 1% from last week.
The President doubled down on his comments Friday morning in a tweet questioning why the U.S. is raising interest rates as debt is growing and coming due. He also called out China and the European Union for manipulating their currencies, taking away the U.S.’s competitive edge.
China, the European Union and others have been manipulating their currencies and interest rates lower, while the U.S. is raising rates while the dollars gets stronger and stronger with each passing day - taking away our big competitive edge. As usual, not a level playing field…
Donald Trump
....The United States should not be penalized because we are doing so well. Tightening now hurts all that we have done. The U.S. should be allowed to recapture what was lost due to illegal currency manipulation and BAD Trade Deals. Debt coming due & we are raising rates - Really?
Donald Trump
“I think we could see some short-term short squeeze through next week as investors digest all the geopolitical risk in the marketplace,” said Phillip Streible, senior market analyst at RJO Futures. “But I don’t know if this completely saved the gold market. Trump’s comments are not going to stop the Fed from raising interest rates.”
Streible added technical momentum indicators are still bearish for gold and that the downward trend is still fairly strong.
However, for investors who are interested in testing the gold waters at current levels, he likes the idea of buying October $1,250 calls.
Colin Hamilton, managing director of commodity research at BMO Capital Markets, is not paying attention to Trump’s latest comments. In an email comment to Kitco News, he said that the U.S. central bank “seems pretty committed to two more rate hikes this year.”
For gold, Hamilton said that while physical demand is expected to pick up with prices hovering near a one-year low, the market needs a weaker U.S. dollar to attract major asset managers.
Trump Did Not Reveal Anything New
Neil Mellor, senior currency strategist at BNY Mellon, said that he doesn’t see the President’s tweets shifting the strong bullish U.S. dollar sentiment in the marketplace.
“We already know that he doesn’t like a strong U.S. dollar. Nothing he said was new for the market,” he said.
Mellor said that the price action he currently sees is more an indication of investors taking profits, rather than a reversal of futures.
“Gold has seen some major selling this week. At the same time, the U.S. dollar has made some big gains so investors are taking some profits off the table ahead of the week,” he said. “Next week, I think we will see fresh buying in the U.S. dollar.”
Mellor also said that he doesn’t think that Trump’s tweets will stop the U.S. central bank from raising interest rates. He also said that China has no choice but to continue to devalue its currency to support its economy.
“China is trying to deleverage the biggest credit bubble in history,” he said. “A weaker yuan is the only option for the government right now.”
At the same time, Mellor added that European economic growth would support any hawkish comments from Mario Draghi, president of the European Central Bank, next week.
“I think we are going to see some fresh euro selling and that will continue to support the U.S. dollar and hurt gold,” he said.
Gold Is Still The Best Safe-Haven Asset
But not everyone is negative on gold in the near term. Eugen Weinberg, head of commodity research at Commerzbank said that the market reaction to Trump’s central-bank comments is proof that investors should not completely ignore gold.
“We can see how much market reaction there was to just one tweet,” he said. “Investors will start looking at gold again because they will want to focus on security and stability.”
While investors having been swept up in the euphoria of near-record equity valuations, Weinberg said that cracks are starting to show in the global economy and he expects safe-haven demand to grow in the coming months.
George Milling-Stanley, head of gold investments at State Street Global Advisors, said in a recent interview with Kitco News that he expects recession fears to eventually push gold prices higher through the rest of the year.
“I can’t understand why people’s perception of risk seems to have ratcheted down quite significantly in the last few months,” he said. “Circumstances have not improved to the extent to where I would personally want to be taking on more risks. If anything, the circumstances have deteriorated with the continued rise in equities.”
Levels To Watch
Although gold is seeing a healthy jump off its recent one-year low, Weinberg said that more work needs to be before the metal attracts more buying momentum. He said that gold needs to push above $1,250 an ounce before investors feel confident that the current downtrend has finished.
Streible added that he is also watching $1,250 an ounce in the near term.
Chris Beauchamp, market analyst at IG, said that gold prices have to push above $1,265 an ounce before the trend of lower highs is broken.
The Final Say
The economic calendar next week is fairly sparse with little major data to be released. The markets will receive some important housing sales data and preliminary manufacturing data.
The big economic reports come at the end of the week with the release of U.S. durable-goods numbers published Thursday and then the first reading of second quarter U.S. gross domestic product Friday. Economists are expecting that the U.S. economy grew 4% in the second quarter.
In his testimony before Congress this week, Fed Chair Jerome Powell presented a fairly optimistic view on the U.S. economy.
“The FOMC believes that--for now--the best way forward is to keep gradually raising the Federal funds rate,” he said.
With little economic data on tap next week, commodity analysts will also keep an eye on more rhetoric on global trade. According to reports, Trump has said that he is “ready to go” to launch $500 million in tariffs on imported Chinese goods.
“Increasing trade wars raises the risk of slower economic growth so we could see more movement into gold,” said Weinberg.
THINKING ABOUT THE TRUMP-PUTIN MEETING / GEOPOLITICAL FUTURES
Thinking About the Trump-Putin Meeting
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CHINA FIGHTS THE TRADE WAR AT HOME / GEOPOLITICAL FUTURES
China Fights the Trade War at Home
Beijing is preparing the public for the coming storm.
By Phillip Orchard The first round of U.S. tariffs and Chinese counter-tariffs came into effect on Friday. All told, they will directly affect some $68 billion in goods. On July 15, the U.S. is expected to impose more tariffs targeting $16 billion in Chinese goods, with proportional Chinese retaliatory measures to follow. Things are likely to escalate from there. Whether or not this spat should be defined as a full-blown trade war, both sides are now firing with live ammunition, and neither side will escape unscathed. |
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THE DOLLAR WILL EVENTUALLY PAY THE PRICE FOR U.S. DEFICITS / THE WALL STREET JOURNAL
The Dollar Will Eventually Pay the Price for U.S. Deficits
In the long run, the dollar should be weaker. But when will the long run arrive?
By Richard Barley
DOLLAR POWER
Second-quarter performance of U.S. dollar against selected currencies
Source: FactSet
The U.S. dollar’s startling rally has upended markets around the world. Burgeoning U.S. deficits due to tax cuts and higher spending should mean a weaker dollar in the long run, as investors demand a discount to buy U.S. assets. But when will the long run arrive?
The dollar’s second-quarter rise was as sharp as it was unexpected. It rose 5.5% against the euro and racked up double-digit percentage gains against emerging-market currencies like the Brazilian real and South African rand. The rout reached China late in June, with the yuan falling 4% in just a couple of weeks.
The greenback rose as U.S. growth barreled along while the rest of the world proved less buoyant than hoped. Additional fuel for the move has come from concerns about an escalating trade war—the U.S. and China imposed tariffs on each other’s exports Friday—and political stresses in Europe and some developing countries.
CORPORATE COST
Total return on ICE BofAML U.S. investment-grade corporate bond index
Source: FactSet
For now, the rush of better U.S. growth has proved stronger than the fear of the consequences of wider U.S. budget and current-account deficits that have to be financed. The gain has been taken before the potential pain.
That could persist for a while yet. There have been tentative signs of stabilization in economic data outside the U.S., but the idea of synchronized global growth has taken a hammering.
Trade-war fears are still concentrated outside the U.S. and the Federal Reserve is alone in methodically raising interest rates.

An exchange bureau advertisement in Cairo on Wednesday. Photo: mohamed abd el ghany/Reuters
At the same time, longer-term concerns haven’t gone away. For signs of when then might become a problem for the dollar, investors should pay attention to the U.S. corporate-bond market, thinks Morgan Stanley . Low interest rates globally have led foreign investors to pile in, chasing higher returns. For instance, Japan’s holdings of U.S. corporate debt have risen by more than 50% to nearly $250 billion since the start of 2016, according to U.S. Treasury data.
However, corporate bonds have turned into a losing trade, hit by both higher Treasury yields and wider credit spreads. If foreign investors start to pull back, pushing up borrowing costs further, that could weigh on prospects for U.S. growth—and on the dollar.
With the rest of the world facing challenges, the dollar’s strength can continue for now. But the bill for the higher growth the U.S. is currently enjoying can’t be put off forever. Eventually, the dollar will have to pay the price.
AMERICA THE LOSER / PROJECT SYNDICATE
America the Loser
J. Bradford DeLong
BERKELEY – The Washington Post’s Catherine Rampell recently recalled that when US President Donald Trump held a session for Harley-Davidson executives and union representatives at the White House in February 2017, he thanked them “for building things in America.” Trump went on to predict that the iconic American motorcycle company would expand under his watch. “I know your business is now doing very well,” he observed, “and there’s a lot of spirit right now in the country that you weren’t having so much in the last number of months that you have right now.”
What a difference a year makes. Harley-Davidson recently announced that it would move some of its operations to jurisdictions not subject to the European Union’s retaliatory measures adopted in response to Trump’s tariffs on imported steel and aluminum. Trump then took to Twitter to say that he was, “Surprised that Harley-Davidson, of all companies, would be the first to wave the White Flag.” He then made a promise that he cannot keep: “… ultimately they will not pay tariffs selling into the EU.”
Then, in a later tweet, Trump falsely stated that, “Early this year Harley-Davidson said they would move much of their plant operations in Kansas City to Thailand,” and that “they were just using Tariffs/Trade War as an excuse.” In fact, when the company announced the closure of its plant in Kansas City, Missouri, it said that it would move those operations to York, Pennsylvania. At any rate, Trump’s point is nonsensical. If companies are acting in anticipation of his own announcement that he is launching a trade war, then his trade war is not just an excuse.
In yet another tweet, Trump turned to threats, warning that, “Harley must know that they won’t be able to sell back into U.S. without paying a big tax!” But, again, this is nonsensical: the entire point of Harley-Davidson shifting some of its production to countries not subject to EU tariffs is to sell tariff-free motorcycles to Europeans.
In a final tweet, Trump decreed that, “A Harley-Davidson should never be built in another country – never!” He then went on to promise the destruction of the company, and thus the jobs of its workers: “If they move, watch, it will be the beginning of the end – they surrendered, they quit! The Aura will be gone and they will be taxed like never before!”
Needless to say, none of this is normal. Trump’s statements are dripping with contempt for the rule of law. And none of them rises to the level of anything that could be called trade policy, let alone governance. It is as if we have returned to the days of Henry VIII, an impulsive, deranged monarch who was surrounded by a gaggle of plutocrats, lickspittles, and flatterers, all trying to advance their careers while keeping the ship of state afloat.
Trump is clearly incapable of executing the duties of his office in good faith. The US House of Representatives and Senate should have impeached him and removed him from office already – for violations of the US Constitution’s emoluments clause, if nothing else. Barring that, Vice President Mike Pence should have long ago invoked the 25th Amendment, which provides for the removal of a president whom a majority of the cabinet has deemed “unable to discharge the powers and duties of his office.”
And yet, neither Speaker of the House Paul Ryan nor Senate Majority Leader Mitch McConnell nor Pence has dared to do anything about Trump’s assault on American democracy. Republicans are paralyzed by the fear that if they turn on Trump, who is now supported by roughly 90% of their party’s base, they will all suffer at the polls in the midterm congressional election this November.
It is nice to think that the election will fix everything. But, at a minimum, the Democratic Party needs a six-percentage-point edge to retake the House of Representatives, owing to Republican gerrymandering of congressional districts. Democrats also have to overcome a gerrymandering effect in the Senate. Right now, the 49 senators who caucus with the Democrats represent 181 million people, whereas the 51 who caucus with the Republicans represent just 142 million people.1
Moreover, the US is notorious for its low voter turnout during midterm elections, which tends to hurt Democratic candidates’ prospects. And Trump and congressional Republicans have been presiding over a relatively strong economy, which they inherited from former President Barack Obama, but are happy to claim as their own.
Finally, one must not discount the fear factor. Countless Americans routinely fall victim to social- and cable-media advertising campaigns that play to their worst instincts. You can rest assured that in this election cycle, as in the past, elderly white voters will be fed a steady diet of bombast about the threat posed by immigrants, people of color, Muslims, and other Trump-voter bugaboos (that is, when they aren’t being sold fake diabetes cures and overpriced gold funds).
Regardless of what happens this November, it is already clear that the American century ended on November 8, 2016. On that day, the United States ceased to be the world’s leading superpower – the flawed but ultimately well-meaning guarantor of peace, prosperity, and human rights around the world. America’s days of Kindlebergian hegemony are now behind it. The credibility that has been lost to the Trumpists – abetted by Russia and the US Electoral College – can never be regained.
J. Bradford DeLong is Professor of Economics at the University of California at Berkeley and a research associate at the National Bureau of Economic Research. He was Deputy Assistant US Treasury Secretary during the Clinton Administration, where he was heavily involved in budget and trade negotiations. His role in designing the bailout of Mexico during the 1994 peso crisis placed him at the forefront of Latin America’s transformation into a region of open economies, and cemented his stature as a leading voice in economic-policy debates.
Bienvenida
Les doy cordialmente la bienvenida a este Blog informativo con artículos, análisis y comentarios de publicaciones especializadas y especialmente seleccionadas, principalmente sobre temas económicos, financieros y políticos de actualidad, que esperamos y deseamos, sean de su máximo interés, utilidad y conveniencia.
Pensamos que solo comprendiendo cabalmente el presente, es que podemos proyectarnos acertadamente hacia el futuro.
Gonzalo Raffo de Lavalle
Friedrich Nietzsche
Quien conoce su ignorancia revela la mas profunda sabiduría. Quien ignora su ignorancia vive en la mas profunda ilusión.
Lao Tse
“There are decades when nothing happens and there are weeks when decades happen.”
Vladimir Ilyich Lenin
You only find out who is swimming naked when the tide goes out.
Warren Buffett
No soy alguien que sabe, sino alguien que busca.
FOZ
Only Gold is money. Everything else is debt.
J.P. Morgan
Las grandes almas tienen voluntades; las débiles tan solo deseos.
Proverbio Chino
Quien no lo ha dado todo no ha dado nada.
Helenio Herrera
History repeats itself, first as tragedy, second as farce.
Karl Marx
If you know the other and know yourself, you need not fear the result of a hundred battles.
Sun Tzu
Paulo Coelho

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- THINKING ABOUT THE TRUMP-PUTIN MEETING / GEOPOLITI...
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