August 5, 2022: Indefensible Neutral Rate Doctrine

August 5, 2022: Indefensible Neutral Rate Doctrine
Doug Noland Posted on August 6, 2022

Bloomberg’s David Westin (Wall Street Week, July 29, 2022): “What do you economists do when you put together these neutral rates?”

Larry Summers: “I think Jay Powell said things that, to be blunt, were analytically indefensible. He claimed twice in his press conference that the Fed was now at the neutral interest rate – calling it 2.5%. It’s elementary that the level of the neutral interest rate depends upon the inflation rate. We’ve got on the most quoted measure a 9.1% inflation measure – if you extrapolate it off core it’s four or five percent inflation. There is no conceivable way that a 2.5% interest rate in an economy inflating like this is anywhere near neutral. And if you think it is neutral, you are misjudging the posture of policy in a fundamental way. So, I was very sorry to hear him say that and, frankly, surprised. He said back in 2018 that the Fed was approaching the neutral interest rate at a time when the inflation rate was 1.9%. How he could be saying the same thing today, when the inflation rate is where it is, is inexplicable to me, and it’s the same kind of, to be blunt, wishful thinking that got us into the problems we have now with the use of the term ‘transitory.’ So, I hope the rigor of the economic analysis at the Federal Reserve is going to step up.”

Powell provides an easy target these days. But when it comes to the “neutral rate” discussion, the entire economic community is implicated. The concept has never been on sound footing. As far as I’m concerned, the concept of calibrating monetary policy based upon some nebulous “neutral rate” is Indefensible. Analytical quicksand.

But let’s start with Powell’s assertion. While I believe interest rates will need to go significantly higher to crush powerful inflationary forces and inflation psychology (all bets are off in the event of a market accident), at least within the context of the Fed’s current framework, his claim of near neutrality was defensible.

The Fed’s current operating doctrine is to regulate system financial conditions chiefly through the financial markets (in stark contrast to the traditional model of regulating system Credit through adjusting bank lending conditions). In the contemporary Fed view, the primary monetary policy transmission mechanism works through market expectations for the path of short-term policy rates. Higher market yields, lower asset prices, and general risk aversion are expected to tighten financial conditions, reducing both economic demand and upward pricing pressures.

Monetary policy, of course, works with a lag. Powell referred to “financial conditions” 17 times during his May 4th press conference. The Fed’s view has been that it will not be necessary to raise rates aggressively to the point where key inflation measures are back to the 2% target level. Federal Reserve officials will instead closely monitor for a significant tightening of financial conditions that would precede waning growth and abating pricing pressures. A few aggressive rate hikes and tough inflation talk will quickly spur tighter market conditions, ensuring a downward inflation trajectory over the coming months and years. Or so they hope.

In this context, Powell’s “right in the range of what we think is neutral” was defensible. As of June 16th, the S&P500 was down 22.5% y-t-d. Treasuries (TLT ETF) had lost 24.0%, investment-grade corporate bonds (LQD) 16.7%, and high-yield bonds (HYG) 13.5%. High-yield CDS had doubled in 2022 to 588 bps, the high since May 2020. The corporate debt market was essentially closed for issuance in mid-June (the junk bond market remaining shuttered through July). Benchmark MBS yields had surged 285 bps y-t-d to 4.92% (high since 2009), with 30-year fixed mortgage rates up 270 bps to an almost 14-year high 5.81%. Housing markets had slowed notably.

Commodities prices reversed sharply lower in June, with the Bloomberg Commodities Index sinking 20% in four weeks from June highs. The Treasury five-year inflation expectations “breakeven rate” reversed sharply lower. The market began pricing in a rate cut in 2023.

Everything was pointing to the type of significant tightening of financial conditions that would be consistent with downshifting economic activity and waning pricing pressures. Officials were communicating confidence that Fed doctrine was working effectively. Still, there was a major issue: global “Risk Off” de-risking/deleveraging was attaining powerful momentum.

EM currencies and bond markets, in particular, were under intense pressure, instability that only gathered steam in July’s first half. The dollar index surged 5% in two weeks to trade above 109 on July 14th for the first time in almost two decades. Between June 28th and July 14th, the Chilean peso dropped 12.2%, the Russian ruble 8.8%, the Polish zloty 8.0%, the Colombian peso 7.9%, and the South African rand 7.6%. Yields were spiking higher, as EM bond markets began to dislocate. EM CDS surged 63 bps in 12 sessions, peaking at 395 bps on July 14th. Up over 200 bps y-t-d, EM CDS traded to the high since pandemic crisis April 2020. So-called “frontier” EM markets were completely unraveling (i.e. Sri Lanka, Pakistan, Ghana, Egypt, Ethiopia, Kenya, Iraq…).

Meanwhile, China’s crisis took a turn for the worse. During the week of July 11 to 15, the Bloomberg China Real Estate Developers Index sank 10%, with Country Garden collapsing 27%. Country Garden bond yields surged 11.5 percentage points to a record 41.0%. China’s CSI 300 Bank Index sank 7.7%, the largest weekly loss since 2018. Chinese bank and sovereign CDS spiked higher, as fears mounted that China’s developer crisis was rapidly turning systemic.

European periphery bond markets were absolutely coming unglued in mid-June. Italian (4.17%) and Greek (4.69%) yields spiked to near-decade highs. And while ECB discussions of a “anti-fragmentation tool” took pressure off periphery bond markets, European CDS prices continued to spike, reaching multiyear highs on July 14th. The euro on that day traded below 1.00 (vs. $) for the first time in almost 20 years. As Crisis Dynamics accelerated, European bank CDS (i.e. Credit Suisse, Societe Generale, Deutsche Bank…) spiked to multiyear highs.

In short, de-risking/deleveraging had turned systemic. Global financial conditions were tightening dramatically. Contagion was intensifying, with Crisis Dynamics at the Periphery gravitating to the Core. After trading above 3.6% in late April, the five-year Treasury “breakeven rate” (inflation expectations) was down over 100 bps to 2.5% by mid-July.

From the perspective of rapidly tightening global market financial conditions, it was defensible for the Fed to assume that the policy rate had reached the vicinity of “neutral.” But this designation requires a key qualification: neutral specifically in the context of a “Risk Off” market backdrop.

But markets then did something they’ve grown accustomed to doing: at the brink of dislocation, they recoiled and mounted a decent rally. The ECB moved forward with its “anti-fragmentation” program, stabilizing periphery bond markets and financial markets more generally. The Bank of Japan refused to budge from either ultra-loose monetary policy or its bond yield ceiling. Beijing moved forward with a series of pronouncements to support its real estate markets and economy. And, at the Fed, there were ample hints of a dovish pivot.

After trading to 3.48% on June 14th, 10-year Treasury yields were all the way down to 2.58% by August 1st. A short squeeze and unwind of hedges surely contributed to sinking yields, a bond rally that helped spur a major equities market short squeeze. From June 16th lows to the August 5th close, the Goldman Sachs Most Short Index rallied 37%.

Meanwhile, myriad risk indicators signaled a significant shift in market conditions. High Yield CDS ended this week at 464 bps, down 123 bps from June 16th highs. Junk spreads to Treasuries ended the week at near two-month lows. Investment-grade CDS closed Friday at 80 bps, down 20 bps from July highs to a two-month low. Bank CDS also ended the week at two-month lows. A Thursday Bloomberg article: “Junk Bond Market Roars to Life With New Debt After Rally.” Thursday’s junk issuance ($2bn) exceeded all of July. And Friday: “US Companies Are Lining Up to Sell Bonds Again as Yields Fall.” At $56 billion, this week’s investment-grade issuance was the strongest since March. The bottom line: financial conditions have loosened meaningfully.

De-risking/deleveraging destroys liquidity. Both the unwind of levered positions and hedging-related selling/shorting burn through liquidity, with self-reinforcing panic selling spurring illiquidity and market dislocation. “Risk Off” is tantamount to much tighter financial conditions.

In contrast, short squeezes are a boon in terms of market liquidity. Derivative trading plays a key role. Sellers of derivatives protection – after selling into market weakness to dynamically hedge their exposures – become aggressive buyers in a rallying marketplace. On the margin, speculative and derivatives trading are the marginal sources of marketplace liquidity. “Risk On” leveraged speculation creates liquidity and fuels looser conditions, while “Risk Off” destroys liquidity and tightens financial conditions.

Reliance on some “neutral rate” to calibrate monetary policy is deeply flawed doctrine. The Fed’s assumptive 2.5% neutral rate may have seemed reasonable during the recent “Risk Off” backdrop. In the current squeeze rally environment, however, it is Indefensible – or, in the words of Mohamed El-Erian, “comical.” To be sure, Fed talk of reaching the neutral rate only stokes risk embracement and resulting loose conditions, thus countering previous tightening measures.

Friday’s much stronger-than-expected (528k added) July payrolls data underscores another Fed dilemma. Bubble markets are more fragile these days than the underlying economy. Over 900,000 jobs were created during the past two months. According to Tuesday’s “JOLTS” report, there remain 10.7 million job openings. It’s also worth noting Friday’s much stronger-than-expected June Consumer Credit data. At $40 billion, the increase in Consumer Credit was second only to March’s $47 billion splurge.

August 2 – MarketWatch (Andrew Keshner): “Americans added $312 billion in debt during the second quarter — an increase that New York Fed researchers called ‘pretty sizable.’ In a sign of the continuing toll from decades-high inflation, Americans loaded an extra $46 billion on their credit cards during the second quarter and their balances saw the sharpest increase in more than 20 years, according to the Federal Reserve Bank of New York. Credit card debts grew 5.5% from the first to second quarter and 13% year-over- year. The annualized increase was the sharpest cumulative increase in more than two decades…”

This year began with the strongest growth in household borrowings since 2006 (Q1 8.3% annualized). An inflationary economic backdrop develops powerful self-sustaining momentum, where rising prices spur strong Credit growth – the requisite monetary fuel for even higher prices. For good reason, outspoken analysts such as Summers and El-Erian rebuke the Fed for not having the appropriate analytical framework, resolve and singular focus to do what is necessary to wring inflation out of the system.

Ten-year Treasury yields traded this week as low as 2.51%. Treasuries refuse to price in either persistently high inflation or a sustained Fed tightening cycle. Yield curve inversion gained further momentum this week, with the 2-year/10-year Treasury spread ending Friday trading at negative 40 bps. This was the largest inversion since the piercing of the “tech” Bubble in early 2000.

There was a lot of boisterous recession talk when the curve first inverted back in early-April. Recent job growth acceleration has challenged conventional yield curve analysis. Instead of recession, low 10-year yields and the inverted curve are discounting the likelihood of an unfolding global market accident.

Ominously, 10-year Treasurys have not been intimidated by hot inflation, a hot jobs market, or a Fed pressured to impose more aggressive tightening measures. Yields are instead consistent with the unfolding synchronized bursting of scores of global Bubbles. Could the situation in China be more alarming? Country Garden yields surpassed 50% this week, as the historic developer meltdown runs unabated. Vanke CDS surged another 255 to 747 bps – up from 300 bps in June and 100 bps in September.

August 5 – Wall Street Journal (Wenxin Fan and Joyu Wang): “China touted its military exercises around Taiwan as proof of its ability to blockade the self-ruled island in the event of a war, as the operations in response to a visit by U.S. House Speaker Nancy Pelosi entered a second day. Chinese warplanes and warships carried out maneuvers off Taiwan’s coast on Friday morning, Taiwan’s Ministry of National Defense said. During the operation, China’s military crossed the median line in the Taiwan Strait, a notional boundary that Taipei says demarcates areas of de facto control, the ministry said.”

I can’t accept that collapsing Chinese Bubbles and such a belligerent approach with Taiwan are coincidental.

August 5 – Wall Street Journal (Peter Landers and Chieko Tsuneoka): “China’s firing of missiles near Japan has left little doubt that Tokyo would be pulled into any potential war over Taiwan—and would be part of the U.S.-led alliance likely to defend the island. China’s military launched five missiles that landed inside Japan’s exclusive economic zone on Thursday, Tokyo’s Defense Ministry said… U.S. Secretary of State Antony Blinken, on a visit to Cambodia, cited those launches in calling China’s moves a ‘significant escalation,’ and he said the moves against Japan were ‘understandably causing them, and all of us, grave concern.’ The… inclusion of targets near Japan sent an unmistakable message, said Masahisa Sato, who heads the ruling Liberal Democratic Party’s foreign-affairs committee. ‘If you’re talking about surrounding Taiwan or imposing a blockade, of course in that case it means you’re bringing Japan into it as well,’ said Mr. Sato, a former army officer.”

Fed policy, the markets, the U.S. and Russia, China and the U.S., China and Japan, Russia and Europe. The whole world seems on a collision course. Little wonder Treasuries are readily dismissing inflation and Fed tightening, apparently content to count down the months until rate cuts and the restart of QE.

For the Week:

The S&P500 increased 0.4% (down 13.0% y-t-d), while the Dow was little changed (down 9.7%). The Utilities added 0.9% (up 3.3%). The Banks were about unchanged (down 17.9%), while the Broker/Dealers surged 4.1% (down 7.3%). The Transports were little changed (down 11.4%). The S&P 400 Midcaps slipped 0.3% (down 11.9%), and the small cap Russell 2000 rose 1.9% (down 14.4%). The Nasdaq100 gained 2.0% (down 19.1%). The Semiconductors jumped 2.9% (down 22.6%). The Biotechs surged 6.5% (down 7.6%). While bullion gained $10, the HUI gold index declined 1.3% (down 20.9%).

Three-month Treasury bill rates ended the week at 2.4225%. Two-year government yields surged 34 bps to 3.23% (up 249bps y-t-d). Five-year T-note yields jumped 28 bps to 2.96% (up 169bps). Ten-year Treasury yields rose 18 bps to 2.83% (up 132bps). Long bond yields gained six bps to 3.07% (up 117bps). Benchmark Fannie Mae MBS yields surged 32 bps to 4.14% (up 207bps).

Greek 10-year yields jumped 10 bps to 3.05% (up 173bps). Spain’s 10-year yields rose 11 bps to 2.03% (up 147bps). German bund yields jumped 14 bps to 0.96% (up 113bps). French yields gained 11 bps to 1.49% (up 130bps). The French to German 10-year bond spread narrowed three to 53 bps. U.K. 10-year gilt yields surged 19 bps to 2.05% (up 108bps). U.K.’s FTSE equities index added 0.2% (up 0.7% y-t-d).

Japan’s Nikkei Equities Index gained 1.3% (down 2.1% y-t-d). Japanese 10-year “JGB” yields declined two bps to 0.17% (up 10bps y-t-d). France’s CAC40 increased 0.4% (down %). The German DAX equities index gained 0.7% (down 14.5%). Spain’s IBEX 35 equities index was little changed (down 6.3%). Italy’s FTSE MIB index increased 0.8% (down 17.4%). EM equities were mixed. Brazil’s Bovespa index jumped 3.2% (up 1.6%), while Mexico’s Bolsa index dropped 3.0% (down 12.3%). South Korea’s Kospi index advanced 1.6% (down 16.4%). India’s Sensex equities index gained 1.4% (up 0.2%). China’s Shanghai Exchange Index declined 0.8% (down 11.3%). Turkey’s Borsa Istanbul National 100 index jumped 6.1% (up 48.1%). Russia’s MICEX equities index sank 7.2% (down 45.8%).

Investment-grade bond funds posted inflows of $1.221 billion, and junk bond funds reported positive flows of $2.934 billion (from Lipper).

Federal Reserve Credit last week declined $18.3bn to $8.847 TN. Fed Credit is down $53.1bn from the June 22nd peak. Over the past 151 weeks, Fed Credit expanded $5.121 TN, or 137%. Fed Credit inflated $6.037 Trillion, or 215%, over the past 508 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt last week gained $8.1bn to $3.3 TN. “Custody holdings” were down $141bn, or 4.0%, y-o-y.

Total money market fund assets declined $14.2bn to $4.576 TN. Total money funds were up $75bn, or 1.7%, y-o-y.

Total Commercial Paper jumped $19.1bn to $1.169 TN. CP was up $31bn, or 2.7%, over the past year.

Freddie Mac 30-year fixed mortgage rates dropped 31 bps to a 17-week low 4.99% (up 222bps y-o-y). Fifteen-year rates sank 32 bps to 4.26% (up 216bps). Five-year hybrid ARM rates declined four bps to 4.25% (up 184bps). Bankrate’s survey of jumbo mortgage borrowing costs had 30-year fixed rates up 17 bps to 5.38% (up 241bps).

Currency Watch:

For the week, the U.S. Dollar Index gained 0.7% to 106.62 (up 11.4% y-t-d). For the week on the upside, the Brazilian real increased 0.2% and the South Korean won 0.1%. On the downside, the Japanese yen declined 1.3%, the Norwegian krone 1.2%, the Australian dollar 1.1%, the Canadian dollar 1.1%, the Swiss franc 1.0%, the South African rand 0.9%, the British pound 0.8%, the New Zealand dollar 0.8%, the Swedish krona 0.7%, the Mexican peso 0.2% and the Singapore dollar 0.1%. The Chinese (onshore) renminbi declined 0.26% versus the dollar (down 6.0% y-t-d).

Commodities Watch:

The Bloomberg Commodities Index dropped 3.3% (up 18.8% y-t-d). Spot Gold increased 0.5% to $1,776 (down 2.9%). Silver fell 2.3% to $19.90 (down 14.6%). WTI crude sank $9.61 to $89.01 (up 18%). Gasoline slumped 8.3% (up 28%), and Natural Gas declined 2.0% to $8.06 (up 116%). Copper slipped 0.6% (down 20%). Wheat sank 4.0% (up 1%), and Corn declined 1.6% (up 3%). Bitcoin declined $520, or 2.2%, this week to $23,260 (down 49.8%).

Market Instability Watch:

August 2 – Reuters (Gertrude Chavez-Dreyfuss): “The trillions of dollars in overnight cash tucked away daily at the Federal Reserve could turn into a major headache for banks that could squeeze their balance sheets and impair their ability to lend. The Fed’s reverse repurchase facility (RRP) has attracted a wide array of market participants, helping mop up excess liquidity in the financial system. Led by money market funds, volume at the reverse repo window has topped $2 trillion for 39 straight days. The Fed is paying a record reverse repo rate of 2.3% following its 75-bps interest rate hike last week. Barclays expects daily reverse repo levels to hit between $2.8 trillion and $3.0 trillion by the end of the year.”

August 1 – Reuters (Lucia Mutikani): “Credit Suisse Group AG shares slumped after the bank’s credit outlook was cut to negative by S&P Global Ratings and its senior debt was downgraded by Moody’s…, signaling that management changes announced last week are failing to shore up investor confidence… ‘We see increasing risks to the stability of the bank’s franchise, uncertainty around the reshuffling of top executives, and a lack of a clear strategy, and we think the group’s risk-adjusted and absolute profitability is likely to remain weak over the medium term,’ S&P said…”

Bursting Bubble and Mania Watch:

August 1 – Wall Street Journal (Laura Cooper): “Merger activity has slowed dramatically after a record year in 2021, and some deal makers are bracing for an even quieter second half. In the U.S., about $1 trillion of deals had been struck in 2022 through late July, according to Dealogic. That is the lowest in five years—excluding 2020, when deal making ground to a halt…—and a nearly 40% drop from the same period in 2021. Globally, some $2.4 trillion of deals were announced, representing a roughly 30% decrease. The total number of transactions also was down.”

July 31 – Financial Times (Richard Waters): “The venture capital world is in the grip of a silent crash. Unlike the stock market, there are no daily market indices to broadcast the pain, and no individual share prices for anxious tech employees to watch as their personal wealth evaporates. In fact, for many of the investors and entrepreneurs who have just lived through a historic boom in venture investing, it is even possible to pretend a crash isn’t happening at all. Loose rules that require only sporadic writedowns, the estimated value of private companies, have made it easy for many to turn the other way. Josh Wolfe, co-founder of Lux Capital, likens the response to ‘the classic five stages of grief’. ‘We’re probably somewhere between anger and bargaining,’ he says… Yet investors and company founders, Wolfe adds, are still resisting the full implications of a market downturn that will have a profound effect on the start-up economy.”

July 31 – Bloomberg (Jacqueline Poh): “The number of companies that have delayed or canceled financing plans has soared to at least 358 as the global economy continues to battle inflation and energy shortages. The deals, including initial public offerings, bonds, loans and acquisitions, amount to more than $254 billion. The Americas saw the highest number of transactions being postponed or shelved at 184, which was more than double the tally for other regions… The high Americas’ numbers were due to a slowdown in its equity market with 136 IPOs pulled since January, making up two-thirds of total listings shelved for the year globally.”

August 2 – Yahoo Finance (David Hollerith): “Hackers drained nearly $200 million from crypto bridge project Nomad in the latest crypto-related theft. In a matter of two hours on Monday evening, the total value of crypto assets held on Nomad dropped from $190.3 million to $11,815 as of early Tuesday…”

Ukraine War Watch:

August 4 – Reuters (Pavel Polityuk and Natalia Zinets): “Ukraine said… it had been forced to cede some territory in the east of the country in the face of a Russian offensive, and the head of the NATO military alliance said Moscow must not be allowed to win the war. Ukrainian President Volodymyr Zelenskiy this week described the pressure his armed forces were under in the Donbas region in eastern Ukraine as ‘Hell’. He spoke of fierce fighting around the town of Avdiivka and the fortified village of Pisky, where Kyiv has acknowledged its Russian foe’s ‘partial success’ in recent days.”

August 2 – Reuters (Michelle Nichols): “The conflict in Ukraine does not warrant Russia’s use of nuclear weapons, but Moscow could decide to use its nuclear arsenal in response to ‘direct aggression’ by NATO countries over the invasion, Russia said… at the United Nations. At a nuclear nonproliferation conference, Russian diplomat Alexander Trofimov rejected ‘utterly unfounded, detached from reality and unacceptable speculations that Russia allegedly threatens to use nuclear weapons, particularly in Ukraine.’”

U.S./Russia/China Watch:

August 2 – Reuters (Can Sezer and Orhan Coskun): “Russia… accused the United States of direct involvement in the Ukraine war… Russia said it was responding to comments by Vadym Skibitsky, Ukraine’s deputy head of military intelligence, about the way Kyiv had used U.S.-made and supplied High Mobility Artillery Rocket System (HIMARS) launchers based on what he called excellent satellite imagery and real-time information… Russia’s defence ministry, headed by a close ally of President Vladimir Putin, said the interview showed that Washington was entangled in the conflict despite repeated assertions that it was limiting its role to arms supplies because it did not want a direct confrontation with Moscow.”

August 3 – New York Times (Marc Santora and Steven Erlanger): “Hours before Russia began its invasion of Ukraine in late February, the Chinese Foreign Ministry issued a statement that was clear, stern and not really about Russia or Ukraine at all. ‘Taiwan is not Ukraine,’ Hua Chunying, the ministry’s spokeswoman, told reporters… ‘Taiwan has always been an inalienable part of China. This is an indisputable legal and historical fact.’ But with no end in sight to the bloody war in Ukraine and with tensions significantly rising in the Taiwan Strait, the two geopolitical challenges are intersecting in complex and unpredictable ways. Russia’s foreign minister, Sergey V. Lavrov, on Wednesday wasted no time in linking the two, saying that Speaker Nancy Pelosi’s visit this week to Taiwan was a ‘manifestation of the same course’ that the United States has taken in Ukraine. Even though it was Russia that invaded Ukraine, he blamed the West for the conflict.”

August 2 – Reuters: “Russia’s foreign ministry said on Tuesday the visit to Taiwan by U.S. House of Representatives Speaker Nancy Pelosi was a clear provocation. China has the right to take measures to protect its sovereignty, the ministry added… Moscow backed China earlier on Tuesday over the visit, warning Washington that the trip would put the United States on a collision course with Beijing.”

China/Taiwan/U.S. Watch:

August 4 – Associated Press (Matthew Lee): “U.S.-China relations are teetering on a precipice after House Speaker Nancy Pelosi’s visit to Taiwan. Pelosi received a rapturous welcome in Taipei and was applauded with strong bipartisan support in Washington, despite the Biden administration’s misgivings. But her trip has enraged Beijing and Chinese nationalists and will complicate already strained ties even after her departure. Already, China is preparing new shows of force in the Taiwan Strait to make clear that its claims are non-negotiable on the island it regards as a renegade province. And, as the U.S. presses ahead with demonstrations of support for Taiwan, arms sales and diplomatic lobbying, the escalating tensions have raised the risks of military confrontation, intentional or not.”

August 3 – Associated Press (Huizhong Wu): “After a trip that drew China’s wrath, a defiant Nancy Pelosi concluded her visit to Taiwan… with a pledge that the American commitment to democracy on the self-governing island and elsewhere ‘remains ironclad.’ Pelosi received a euphoric welcome as the first U.S. House speaker to visit in more than 25 years, and China swiftly responded by announcing multiple military exercises nearby… Before leaving, a calm but resolute Pelosi repeated previous remarks about the world facing ‘a choice between democracy and autocracy.’ ‘America’s determination to preserve democracy, here in Taiwan and around the world, remains ironclad,’ she said… during a meeting with Taiwanese President Tsai Ing-wen.”

August 3 – Financial Times (Kathrin Hille in Taipei and Demetri Sevastopulo): “Nancy Pelosi pledged an ‘ironclad’ US commitment to Taiwan during a historic visit to the country… The comments from the Speaker of the US House of Representatives, made during a meeting with Taiwan’s president Tsai Ing-wen, heartened Taiwanese people hoping for firmer support from Washington but are set to further raise tensions with China. ‘America made a bedrock promise to always stand with Taiwan and this visit is a reminder of that,’ Pelosi said at the presidential office in Taipei… ‘Today, our delegation came to Taiwan to make unequivocally clear we are not going to abandon Taiwan.’”

August 4 – Financial Times (Kathrin Hille and Demetri Sevastopulo): “China fired a series of ballistic missiles into waters close to ports in Taiwan and conducted other military drills on Thursday, in an attempt to punish the country for hosting a visit by US House Speaker Nancy Pelosi. Taiwan’s defence ministry said China fired 11 Dongfeng missiles between 1.56pm and 4pm towards waters north, north-east, south and east of Taiwan, in an ‘irrational action destroying regional peace’. The Dongfeng ballistic missiles are some of the People’s Liberation Army’s most potent weapons. They include the anti-ship intermediate range DF-21, which is viewed as a tool for deterring the US Navy and its aircraft carrier strike groups… Taipei also said four drones had flown over islets next to Kinmen, the Taiwan-controlled island just off the Chinese coastal city of Xiamen…”

August 5 – Reuters (Tony Munroe): “China is halting cooperation with the United States in a number of areas, including dialogue between senior-level military commanders and climate talks, in retaliation for House Speaker Nancy Pelosi’s visit to Taiwan… China’s foreign ministry also said that it was also suspending cooperation with Washington on prevention of cross-border crime and drug trafficking, andon repatriating illegal migrants, among eight specific measures… China also cancelled a planned bilateral meeting on a maritime military security mechanism. Beijing separately announced that it would personally sanction Pelosi and her immediate family in response to her ‘vicious’ and ‘provocative” actions.’”

August 4 – Reuters (Yimou Lee): “Taiwan’s defence ministry said on Friday the island’s military has dispatched aircraft and ships and deployed land-based missile systems to monitor the situation, as China conducts large-scale military drills in zones surrounding Taiwan. Multiple Chinese vessels and aircraft crossed the Taiwan Strait median line on Friday morning the defence ministry said, which described China’s military activities as highly provocative.”

August 4 – Reuters (Sarah Wu): “Taiwan will strengthen self-defence capabilities and closely coordinate with the United States and like-minded countries, foreign ministry spokeswoman Joanne Ou told a news conference…, when asked about China’s planned military drills. China announced targeted military drills in zones surrounding Taiwan lasting several days following the arrival of U.S. House of Representatives Speaker Nancy Pelosi in Taipei…”

August 2 – Reuters (Yew Lun Tian): “Chinese foreign minister Wang Yi said on Tuesday that those U.S. politicians who ‘play with fire’ on the Taiwan issue will ‘come to no good end’… He did not specify any U.S. politician. China has expressed opposition to a potential visit to Taiwan by U.S. House of Representatives Speaker Nancy Pelosi.”

Economic War/Iron Curtain Watch:

August 1 – Reuters (Natalia Zinets): “The first ship to carry Ukrainian grain through the Black Sea since Russia invaded Ukraine five months ago left the port of Odesa for Lebanon on Monday under a safe passage deal described as a glimmer of hope in a worsening global food crisis. The sailing was made possible after Turkey and the United Nations brokered a grain and fertiliser export agreement between Russia and Ukraine last month – a rare diplomatic breakthrough…”

August 4 – Wall Street Journal (Costas Paris): “China’s launch of military exercises around Taiwan is disrupting supply chains as shipping companies look to avoid the area, but the important waterway for cargo remains accessible to vessels, executives said. ‘Taiwan’s ports are open,’ said Soren Skou, chief executive of Danish container ship company A.P. Moller-Maersk. ‘We just have to move around the areas of the exercises.’ The four-day drill… is taking place in six zones delineated by the Chinese military. Several face the island’s biggest commercial ports and infringe on what Taiwan claims as its territorial waters.”

August 2 – Financial Times (Kathrin Hille and William Langley): “China has blocked imports from hundreds of Taiwanese food producers and temporarily suspended exports of natural sand to the country in what Taipei perceives as the opening shot in a campaign to punish it economically for a visit by US House Speaker Nancy Pelosi. Since Monday night, when US and Taiwanese officials confirmed that Pelosi would travel to Taiwan to meet President Tsai Ing-wen…, the China Customs Administration has suspended imports of more than 2,000 of about 3,200 food products from Taiwan. Beijing has a long history of punishing other countries for behaviour it dislikes by cutting them off from its market and has made extensive use of such levers against Taiwan. But analysts and government officials said the move was a huge expansion of such economic warfare.”

August 4 – Financial Times (William Langley, Chan Ho-him and Thomas Hale): “China’s missile launches into Taiwan’s coastal waters this week have underlined the risks to global supply chains from any sustained escalation of tensions between Beijing and Taipei. The military exercises in response to a visit by US House Speaker Nancy Pelosi to Taiwan resembled a rehearsal for a blockade of the export-dependent island, over which Beijing claims sovereignty, with some cargo ships forced to adjust course and airlines cancelling flights… The Strait is the primary shipping route between China and Japan, the world’s second- and third-biggest economies, respectively, and Europe. It also serves as a trading route for technology powerhouse South Korea, carrying manufactured goods from the factories of Asia to many of the world’s consumers.”

August 3 – Bloomberg: “China warned airlines operating in Asia to avoid flying in areas around Taiwan where it is conducting military exercises in response to US House Speaker Nancy Pelosi’s visit to the island. An official notice sent late on Tuesday Hong Kong time designated six areas of airspace as ‘danger zones,’ according to carriers who received the message and Jang Chang Seog, a Korean transport ministry official. Flights will be restricted from 12 p.m. Aug. 4, to 12 p.m. Aug. 7.”

Inflation Watch:

August 1 – Reuters (Elizabeth Dilts Marshall): “As high inflation forces Americans to spend more on gas and bills, young and low-income consumers are starting to feel financial pressure. Generation Z consumers and those with low credit scores are falling behind on credit card and auto loan bills and accumulating credit card debt at a pace not seen since before the pandemic. For instance, credit card balances for people ages 25 and younger rose by 30% in the second quarter from a year earlier, compared with an increase of just 11% among the broader population, according to… VantageScore. Balances for non-prime borrowers, or people with credit scores below 660, rose by nearly 25% over the same period.”

Biden Administration Watch:

August 5 – Associated Press (Alan Fram): “Senate Democrats have agreed to eleventh-hour changes to their marquee economic legislation, they announced late Thursday, clearing the major impediment to pushing one of President Joe Biden’s paramount election-year priorities through the chamber in coming days. Sen. Kyrsten Sinema, D-Ariz., a centrist seen as the pivotal vote in the 50-50 chamber, said… she had agreed to revamping some of the measure’s tax and energy provisions and was ready to ‘move forward’ on the bill. Senate Majority Leader Chuck Schumer, D-N.Y., said he believed his party’s energy, environment, health and tax compromise ‘will receive the support of the entire’ Democratic membership of the chamber. His party needs unanimity and Vice President Kamala Harris’ tie-breaking vote to move the measure through the Senate over certain solid opposition from Republicans…”

August 3 – Reuters (Joyce Lee): “Export restrictions being considered by Washington to halt China’s advances in semiconductor manufacturing could come at a substantial cost, experts say, potentially disrupting fragile global chip supply chains – and hurting U.S. businesses. Reuters reported… that the United States is considering limiting shipments of American chipmaking equipment to memory chip producers in China that make advanced semiconductors used in everything from smartphones to data centres. The curbs would stop chipmakers like South Korean giants Samsung Electronics and SK Hynix from shipping new technology tools to factories they operate in China, preventing them from upgrading plants that serve customers around the world.”

Federal Reserve Watch:

August 2 – Bloomberg (Matthew Boesler and Catarina Saraiva): “Federal Reserve officials effectively pushed back against a narrative in financial markets over the past week that policy makers are envisioning a pivot away from tightening amid evidence of a turn in the economy. Four Fed district-bank presidents highlighted in remarks… that there was no sign yet of inflation easing. San Francisco Fed President Mary Daly said ‘we are still resolute and completely united’ in the objective of getting inflation down around the 2% inflation target. Remarks from Daly, Cleveland’s Loretta Mester and Chicago’s Charles Evans helped trigger a surge in Treasury yields Tuesday as traders reconsidered how much more the central bank will raise interest rates and whether it could move to cut them in early 2023. Yields had tumbled after Chair Jerome Powell said July 27 ‘it likely will become appropriate to slow the pace of increases’ as the Fed’s stance tightens further. Mester told the Washington Post… she wants to see ‘very compelling evidence’ that month-to-month price increases are moderating before she can say the US central bank’s tightening cycle is accomplishing its goal of curbing inflation.”

August 3 – Bloomberg (Steve Matthews, Catarina Saraiva, and Matthew Boesler): “Federal Reserve leaders pledged the central bank would continue an aggressive fight to cool an inflation rate that’s at a four-decade high, even if higher rates cause the risk of recession. Fed Bank St. Louis President James Bullard said he favors a strategy of ‘front-loading’ big interest-rate hikes, and he wants to end the year at 3.75% to 4%, while his Richmond and Minneapolis counterparts — Thomas Barkin and Neel Kashkari — said the central bank was committed to lowering inflation and a recession could happen.”

August 2 – New York Times (Jeanna Smialek): “Federal Reserve officials… made clear that they expected to continue raising rates to try to choke off the most rapid inflation in decades, putting them at odds with investors who had become more sanguine about the outlook for interest rate moves. Stocks prices rose following the Fed’s meeting last week, as investors celebrated what some interpreted as a pivot: Jerome H. Powell, the Fed chair, said the central bank would begin making rate decisions on a meeting-by-meeting basis, which Wall Street took as a signal that its rate moves might soon slow down. But a chorus of Fed officials has since made clear that a lurch away from rate increases is not yet in the cards.”

August 3 – Reuters (Lindsay Dunsmuir and Dan Burns): “Federal Reserve officials voiced their determination again… to rein in high inflation, although one noted a half-percentage-point hike in the U.S. central bank’s key interest rate next month might be enough to march toward that goal. ‘I start from the idea that 50 (bps) would be a reasonable thing to do in September because I believe I’m seeing evidence in my contact conversations, and in the observations of the world I see, that there are some bright spots for me,’ San Francisco Fed President Mary Daly said…”

August 2 – CNBC (Jeff Cox): “The Federal Reserve still has a lot of work to do before it gets inflation under control, and that means higher interest rates, San Francisco Fed President Mary Daly said… ‘People are still struggling with the higher prices they’re paying and the rising prices,’ Daly said… ‘The number of people who can’t afford this week what they paid for with ease six months ago just means our work is far from done.’”

August 3 – Reuters (Lindsay Dunsmuir and Dan Burns): “The Federal Reserve is committed to getting inflation under control and returning it to the U.S. central bank’s 2% target, Richmond Fed President Thomas Barkin said…, the latest in a litany of policymakers voicing determination to rein in price increases running at the highest pace in four decades. ‘We are committed to returning inflation to our 2% target and have made clear we will do what it takes,’ Barkin said…”

U.S. Bubble Watch:

August 5 – Associated Press (Paul Wiseman): “Defying anxiety about a possible recession and raging inflation, America’s employers added a stunning 528,000 jobs last month, restoring all the jobs lost in the coronavirus recession. Unemployment fell to 3.5%, lowest since the pandemic struck in early 2020. July’s job creation was up from 398,000 in June and the most since February. The red-hot jobs numbers… arrive amid a growing consensus that the U.S. economy is losing momentum. The U.S. economy shrank in the first two quarters of 2022 — an informal definition of recession. But most economists believe the strong jobs market has kept the economy from slipping into a downturn.”

August 2 – Reuters (Lucia Mutikani): “U.S. job openings fell by the most in just over two years in June as demand for workers eased in the retail and wholesale trade industries, but overall the labor market remains tight… Despite the larger-than-expected decrease in vacancies reported by the Labor Department in its Job Openings and Labor Turnover Survey, or JOLTS report…, the jobs market still favors workers. At least 4.2 million workers voluntarily quit their jobs in June and layoffs declined… Job openings, a measure of labor demand, were down 605,000 to 10.7 million on the last day of June, the fewest since September 2021… June’s decline was the largest since April 2020, when the economy was reeling from the first wave of the COVID-19 pandemic.”

August 4 – CNBC (Jeff Cox): “Initial claims for unemployment insurance totaled 260,000 last week, near the highest level since November amid a shift in the U.S. labor market. The total for the week ended July 30 was in line with the Dow Jones estimate but a gain of 6,000 from the previous week’s downwardly revised level…”

August 3 – CNBC (Lisa Rizzolo): “Mortgage applications inched up last week for the first time since June 24. Total mortgage demand increased 1.2% as the average 30-year fixed mortgage rate made the largest weekly drop since 2020. Applications to refinance a home rose 2%…, but the annual drop was still huge, down 82% since last year. Applications to purchase a home increased 1% and were down 16% from one year ago.”

August 2 – Bloomberg (Alex Tanzi): “US household debt increased by 2% to $16.2 trillion in the second quarter, with mortgages, auto loans and credit-card balances all seeing sizable increases, according to a report by the New York Federal Reserve Bank. The increase in borrowing, which equals to $312 billion over three months, reflected in part higher prices for homes and cars. Americans also are putting more on their credit cards to cover rising costs amid decades-high inflation. The main driver was mortgage debt, which accounted for two-thirds of the rise last quarter. And the 13% jump in credit-card debt year-over-year was the sharpest gain in more than 20 years…”

August 1 – CNBC (Diana Olick): “Rising mortgage rates and inflation in the wider economy caused housing demand to drop sharply in June, forcing home prices to cool down. Home prices are still higher than they were a year ago, but the gains slowed at the fastest pace on record in June, according to Black Knight… The annual rate of price appreciation fell two percentage points from 19.3% to 17.3%. Price gains are still strong because of an imbalance between supply and demand. The housing market has had a severe shortage for years. Strong demand during the coronavirus pandemic exacerbated it.”

August 1 – CNBC (Annie Nova): “The U.S. Department of Education is expected to lose close to $200 billion from federal student loans made over the last 25 years, due in part to pandemic-era relief pausing the bills for borrowers. Originally, the Education Department estimated these loans would generate around $114 billion in income; they will, however, actually cost the federal government $197 billion, according to the Government Accountability Office…”

Fixed-Income Bubble Watch:

August 4 – Bloomberg (Jill R. Shah and Gowri Gurumurthy): “The high-yield bond market is roaring back to life as borrowers seize on a recent rally to bring two new deals to investors. Morgan Stanley kicked off its offering of $1 billion of 7-year senior unsecured notes for Charter Communications Inc. on Thursday, while a group of banks including Bank of America Corp. and UBS Group AG began marketing a $475 million debt offering of senior secured notes due in 2027 for wealth management firm Advisor Group Holdings… Charter’s deal marks the first high-yield offering since Avient Corp.’s $725 million deal in late July and the first in August…”

China Watch:

August 2 – Bloomberg (Tania Chen): “China’s central bank drained cash from the banking system for a seventh straight day as market rates plummeted amid ample liquidity. The People’s Bank of China withdrew a net three billion yuan ($442 million) in open market operations on Tuesday, draining a total of 18 billion yuan since July 25. That’s the longest period of net withdrawals since February… Policymakers have sought to keep liquidity conditions in the banking system ample to support the economy battered by Covid outbreaks and a slowing property sector. However, the demand for loans has remained tepid, leaving a glut of cash that’s failing to trickle through into the financial system.”

August 2 – Reuters (Ellen Zhang and Ryan Woo): “China’s services activity grew at the fastest rate in 15 months in July as easing COVID curbs boosted consumer confidence, but foreign demand fell and companies cut staff for the seventh month in a row… The Caixin services purchasing managers’ index (PM) rose to 55.5 in July, the fastest growth since April 2021, rising further from the robust reading of 54.5 in June… A sub-index for new business soared to nine-month high, thanks to improved domestic demand, but new export business contracted for the seventh successive month, the Caixin survey showed.”

July 30 – Bloomberg: “China’s factory activity contracted unexpectedly in July after bouncing back from COVID-19 lockdowns the month before, as fresh virus flare-ups and a darkening global outlook weighed on demand… The official manufacturing purchasing managers’ Index (PMI) fell to 49.0 in July from 50.2 in June…, below the 50-point mark that separates contraction from growth and the lowest in three months.”

August 3 – Bloomberg: “In a country that only tolerates dissent in small doses—and relies on property as its economic growth engine—a mortgage boycott by hundreds of thousands of middle-class Chinese has become a five-alarm fire for authorities. It began with a 590-word letter penned by angry purchasers of the half-built Dynasty Mansion project, whose pleas for China Evergrande Group to complete homes they’d long been paying for had fallen on deaf ears. ‘All homebuyers with outstanding mortgage loans will stop paying,’ unless construction resumes before Oct. 20, they threatened. The ultimatum raced across social media platforms WeChat and Douyin, becoming a call to action for those caught out by China’s rapidly deflating property bubble. In days, the letter became a template for protests from Shanghai to Beijing, and Shenzhen to Zhengzhou, with homeowners cutting and pasting from it to draft their own boycott manifestos. Within four weeks, more than 320 projects in about 100 cities were facing similar protests, roiling markets and forcing authorities to corral banks and developers to defuse the unrest.”

July 31 – Bloomberg: “China’s banks face mortgage losses of $350 billion in a worst-case scenario as confidence plunges in the nation’s property market and authorities struggle to contain deepening turmoil. A spiraling crisis of stalled projects has dented the confidence of hundreds of thousands of homebuyers, triggering a mortgage boycott across more than 90 cities and warnings of broader systemic risks. The big question now is not if, but how much it will batter the nation’s $56 trillion banking system. In a worst-case scenario, S&P Global Ratings estimated that 2.4 trillion yuan ($356bn), or 6.4% of mortgages, are at risk while Deutsche Bank AG is warning that at least 7% of home loans are in danger.”

August 1 – Bloomberg (John Cheng and Dorothy Ma): “A worsening crisis in China’s real estate sector is dragging industry shares to the lowest in almost five months, with home sales slumping further and new setbacks spreading at the nation’s most indebted developer… The latest weakness in developer stocks followed fresh signs of trouble in China’s property sector and its broader economy. Combined contract sales by the country’s top 100 developers fell 39.7% on year in July…”

August 4 – Bloomberg (Wei Zhou): “Dollar bonds of a state-backed Chinese builder fell by record amounts Thursday, following several months of declines as repayment worries have circled even developers partially owned by the government. Some notes issued by Sino-Ocean Group Holding Ltd. dropped about 10 cents on the dollar…, putting most in deeply distressed territory at below 25 cents. The firm led weakness among other higher-rated builders, with bonds from China Vanke Co. and Country Garden… poised to notch their biggest declines in weeks.”

July 29 – Bloomberg: “China is considering a plan to seize undeveloped land from distressed real estate companies, using it to help finance the completion of stalled housing projects that have sparked mortgage boycotts across the country… The proposal, which is still under discussion and could change, would take advantage of Chinese laws allowing local governments to wrest back control of land sold to real estate companies if it remains undeveloped after two years, without compensation. That would give authorities more leeway to direct funds toward uncompleted homes, potentially to the detriment of creditors who would lose claims on some of developers’ most valuable assets.”

August 1 – Wall Street Journal (Rebecca Feng): “Embattled property developer China Evergrande Group said one of its units has been told to honor a $1.1 billion guarantee, revealing yet another large financial obligation that wasn’t previously disclosed. Evergrande… said one of its subsidiaries in China had provided counter guarantees to an unnamed entity by pledging its shares in Shengjing Bank Co., a regional lender based in the city of Shenyang…”

August 4 – Financial Times (Edward White and Cheng Leng): “To contain the fallout from the Asian financial crisis two decades ago, Beijing set up a group of bad banks and packed them with the country’s most toxic debts. But with deepening distress in China’s property sector threatening to spark wider economic turmoil, those bad banks are now struggling to help. The problem is that the balance sheets of China’s ‘Big Four’ asset management companies — China Cinda Asset Management, China Huarong Asset Management, China Great Wall Asset Management and China Orient Asset Management — have become so bloated that their capacity is restricted. The groups are ‘financial monsters’, said Chen Long, a partner at Beijing-based consultancy Plenum. ‘I would not count on them to play a big part’ in addressing the property crisis,’ he added. While the world’s most indebted developer China Evergrande has taken the spotlight in the country’s spiralling property crisis, stress at the bad banks reveals Beijing’s challenge to mobilise rescue options.”

August 3 – Bloomberg (Tom Hancock): “China has made nearly $26 billion in short and medium-term loans to Pakistan and Sri Lanka over the past five years as its overseas lending shifts from funding infrastructure toward providing emergency relief. Data showing the shift in China’s $900 billion Belt and Road Initiative to loans aimed at easing foreign currency shortages since 2018 was compiled by AidData… China has ‘pivoted in a significant way away from project lending and toward balance of payment lending, doing emergency rescue lending,’ said Brad Parks, AidData’s executive director. State-owned Chinese banks have lent $21.9 billion in short-term loans to Pakistan’s central bank since July 2018, while Sri Lanka received $3.8 billion of mostly medium-term lending since October 2018…”

Central Banker Watch:

August 4 – Reuters (William Schomberg and David Milliken): “The Bank of England raised interest rates by the most in 27 years on Thursday, despite warning that a long recession is on its way, as it rushed to smother a rise in inflation which is now set to top 13%. Reeling from a surge in energy prices caused by Russia’s invasion of Ukraine, the BoE’s Monetary Policy Committee voted 8-1 for a half percentage point rise in Bank Rate to 1.75% – its highest level since late 2008 – from 1.25%… MPC member Silvana Tenreyro cast a lone vote for a smaller 25-bps increase. The BoE warned that Britain was facing a recession with a peak-to-trough fall in output of 2.1%…”

August 1 – Bloomberg (Swati Pandey): “Australia’s central bank gave itself wriggle room to adjust the pace of interest-rate increases if the economic outlook deteriorates after delivering the sharpest policy tightening in a generation. ‘The board expects to take further steps in the process of normalizing monetary conditions over the months ahead, but it is not on a pre-set path,’ Governor Philip Lowe said after hiking by 50 bps for a third straight month to 1.85%. The ‘size and timing’ will be ‘guided by the incoming data.’”

Global Bubble and Instability Watch:

July 31 – Reuters (Wayne Cole): “Australian home prices slid for a third month in July and the pace quickened as Sydney suffered its worst decline in almost 40 years amid rising borrowing costs and a cost-of-living crisis. Figures from property consultant CoreLogic… showed prices nationally fell 1.3% in July from June when they dropped 0.6%. Prices were still 8.0% higher for the year… The pullback in Sydney gathered momentum as values fell 2.2% in the month, while Melbourne lost 1.5%. Annual growth in Sydney braked to just 1.6%, a long way from the heady days of 2021 when prices rose by a quarter.”

Europe Watch:

August 3 – Financial Times (Olaf Storbeck): “A serious shortage of natural gas supplies could trigger ‘a chain reaction with unforeseeable consequences’ for the German economy, said Commerzbank, one of the country’s biggest corporate lenders. The German bank warned… of a ‘severe recession’ in the country if Russia cuts off gas supplies, saying it could trigger an economic crisis similar ‘to the one that occurred after the financial crisis in 2009’. Commerzbank added that the rationing of gas would then ‘probably be inevitable’. Germany’s banks are particularly exposed to the huge increase in gas prices triggered by Russia’s move last month to sharply reduce supplies. Prior to Moscow’s invasion of Ukraine, Germany imported 55% of its natural gas from Russia…”

July 31 – Reuters (Miranda Murray and Rene Wagner): “German retailers ended the first half of 2022 with the sharpest year-on-year sales drop in nearly three decades, as inflation, the Ukraine war and the coronavirus pandemic take their toll… Retail sales in June decreased 8.8% in real terms compared with the same month last year, the biggest drop since the time series began in 1994…”

August 2 – Bloomberg (Jack Wittels and Kwaku Gyasz): “Water levels on the Rhine River are set to fall perilously close to the point at which it would effectively close, putting the trade of huge quantities of goods at risk as the continent seeks to stave off an economic crisis. The river at Kaub, Germany — a key waypoint for the shipment of commodities — is set to drop to 47 centimeters (18.5 inches) by the weekend. That would take it to within 7 centimeters of being all but impassable. Europe is already facing its worst energy-supply crunch in decades as Russia chokes off natural gas, stoking inflation. Now climate change is adding to the continent’s woes.”

EM Crisis Watch:

August 3 – Bloomberg (Michelle Jamrisko, Faseeh Mangi, and Anusha Ondaatjie): “Pakistan is scrambling for a bailout to avert a debt default as its currency plummets. Bangladesh has sought a preemptive loan from the International Monetary Fund. Sri Lanka has defaulted on its sovereign debt and its government has collapsed. Even India has seen the rupee plunge to all-time lows as its trade deficit balloons. Economic and political turbulence is rattling South Asia this summer, drawing chilling comparisons to the turmoil that engulfed neighbors to the east a quarter century ago… Back then, what seemed like an isolated event—Thailand’s July 1997 baht devaluation to cope with currency speculation—spread like a virus to Indonesia, Malaysia, and South Korea. Panic-stricken lenders demanded early repayments, and investors pulled out of stocks and bonds in emerging markets, including in Latin America and Russia, which defaulted on some of its debt in August 1998. A month later hedge fund Long-Term Capital Management, which had made highly leveraged bets on Russian and Asian securities, buckled.”

August 3 – Bloomberg (Subhadip Sircar): “Asia’s emerging economies are drawing on large foreign exchange reserves to help prop up their currencies rather than going all-out with interest-rate hikes. India, Thailand and Korea have seen their reserves drop by a combined $115 billion this year as they sold dollars to curb currency declines. While most central banks in Asia are also raising rates, economists see this aimed more at tamping down inflation than narrowing the rate differential with the Federal Reserve… ‘Emerging-markets Asia central banks are arguably less willing to indulge in competitive hikes,’ said Vishnu Varathan, head of economics and strategy at Mizuho Bank… ‘The build-up of FX reserves provides some scope for these central banks to exploit this as a means to backstop currencies and contain imported inflation.’”

August 3 – Bloomberg (Beril Akman): “Turkish inflation accelerated again and may be months away from peaking, soaring to levels unseen since 1998 as the central bank sticks with its ultra-loose monetary course. The upward march of consumer prices has already forced officials and economists to rewrite forecasts multiple times this year… Data… showed that annual inflation sped up to 79.6% last month from 78.6% in June… Istanbul, Turkey’s most populous city, saw price growth exceed 99% in July from a year earlier.”

August 3 – Reuters (Nimesh Vora): “India’s record high trade deficit in July signals a further deterioration in the country’s external balances, which is likely to keep the rupee under pressure, analysts said… Trade deficit in Asia’s third largest economy widened to an all-time high of $31 billion…, prompting concerns about the country’s ability to fund its current account deficit and hurting the outlook for the rupee.”

August 4 – Bloomberg (Patrick Gillespie and Scott Squires): “Argentina’s new Economy Minister Sergio Massa pledged to stop printing money that helps fuel runaway inflation, outlining his strategy to turn around the country’s deepening crisis. Massa rolled out his economic roadmap… after being sworn in by President Alberto Fernandez as the third such minister in a month… Massa inherits the enormous challenge of taming inflation that’s now over 60% and expected to reach 90% by the end of this year. Cut off from international capital markets, Fernandez’s government has relied on money printing to cover its chronic fiscal deficit. ‘Magic doesn’t exist,’ Massa bluntly told reporters… ‘We have to confront inflation with determination.’”

Social, Political, Environmental, Cybersecurity Instability Watch:

August 2 – Reuters (Kanishka Singh and Tyler Clifford): “Floods unleashed by torrential rains in eastern Kentucky have killed at least 37 people, including four children, Governor Andy Beshear said on Monday while warning that more dangerous weather is approaching the region.”

August 2 – Bloomberg (Pratik Parija and Vrishti Beniwal): “Rice could emerge as the next challenge for global food supply as a shortage of rain in parts of India, by far the world’s biggest exporter, has caused planting area to shrink to the smallest in about three years. The threat to India’s rice production comes at a time when countries are grappling with soaring food costs and rampant inflation. Total rice planted area has declined 13% so far this season due to a lack of rainfall in some areas… Traders are worried that a drop in rice production will complicate India’s inflation fight and trigger restrictions on exports. Such a move will have far-reaching implications for the billions of people that depend on the staple. India accounts for 40% of global rice trade…”

August 3 – Bloomberg (David Pan): “Riot Blockchain Inc. earned about $9.5 million in credits last month from shutting down its Bitcoin mining rigs at a Texas facility while the region weathered a historic heat wave. The amount will be credited against the company’s power usage. The value of the credit is equal to around 439 Bitcoin. Riot also mined 318 coins during the month…. The publicly traded miner has a 750-megawatt facility and is building another one-gigawatt site in the Lone Star State. The sites are two of the largest mining farms in the world… While the power crunch sent electricity prices soaring and made Bitcoin mining operations unprofitable, some large-scale miners such as Riot were able to sell electricity purchased earlier at a lower price back to the grid with a premium.”

Levered Speculation Watch:

August 2 – Financial Times (Laurence Fletcher): “Hedge funds are heading for one of their worst years of performance on record, leaving investors frustrated with how many managers have failed to offset sharp falls in equity and bond markets. Funds were down 5.6% on average in the first six months of 2022, according to HFR. While a narrower HFR daily index of performance shows them clawing back around 0.5 per cent last month, the industry is nevertheless on track for its second-worst year of returns since 1990… — beaten only by steep losses during the 2008 global financial crisis. Much of the pain has been concentrated in so-called long-short equity funds, which manage around $1.2tn in assets… They dropped 12% on average in the first half of the year… The group was expected to have gained only around 1% in July, according to an estimate by JPMorgan…, a much shallower rebound than the 7% rally last month for global equities. ‘Clearly, in long-short equity it’s been a complete disaster,’ said Scott Wilson, chief investment officer… at Washington University in St Louis, Missouri, adding that some funds had given up years of gains in this year’s sell-off.”

August 4 – Bloomberg (Hema Parmar): “Tiger Global Management’s hedge fund gained just 0.4% in July, narrowing its loss this year to 49.8%… The fund trailed broader markets, with the S&P 500 advancing 9.1% and the tech-heavy Nasdaq Composite Index surging 12%. Chase Coleman’s firm underestimated the impact of rising global inflation and entered 2022 with too much exposure, Tiger told investors…”

August 4 – Wall Street Journal (Luis Garcia and Ted Bunker): “Apollo Global Management Inc. reported its second-straight quarterly loss with a $2 billion deficit stemming largely from rising interest rates that drove down the value of assets held by the firm’s retirement services operations. Apollo’s net loss of $2.05 billion, or $3.53 a share, for the second quarter came as its Athene Holding Ltd. retirement services subsidiary bolstered Apollo’s total revenue…”

Geopolitical Watch:

August 4 – Associated Press (Jon Gambrell): “Iranian officials now speak openly about something long denied by Tehran as it enriches uranium at its closest-ever levels to weapons-grade material: The Islamic Republic is ready to build an atomic weapon at will. The remarks could be bluster to force more bargaining-table concessions from the U.S. without planning to seek the bomb. Or, as analysts warn, Iran could reach a point like North Korea did some 20 years ago where it decides having the ultimate weapon outweighs any further international sanctions.”

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