Wednesday, November 13, 2013 - Cues for Yellen from Abe

Cues for Yellen from Abe

by Sinclair Noe

DOW + 70 = 15821
SPX + 14 = 1782
NAS + 45 = 3965
10 YR YLD - .07 = 2.70%
OIL + .84 = 93.88
GOLD + 16.10 = 1283.30
SILV - .09 = 20.71

Record high close for the Dow Jones Industrial Average. Record high close for the S&P 500 Index.

Janet Yellen starts her confirmation process tomorrow. Yesterday, a couple of Fed presidents, Dennis Lockhart of the Atlanta Fed, and and Minneapolis Fed President Narayana Kocherlakota both suggested that the current state of the economy still warrants aggressive monetary policy action.

Yellen is well known for her meticulous preparation, but it will be interesting to see how she handles questions from politicians looking for cheap shots and easy points. Political theatrics aside, Yellen is highly qualified with a very solid academic foundation, extensive policy experience, sound judgment over many years and the most effective researcher at the Fed. Her policy moves will likely be incremental and well communicated. Markets can look to a continuation of the Fed's current policy stance for now. When the time for taper comes, as it inevitably will, the central bank would partially compensate through more aggressive forward policy guidance.

None of that means much of a change and no guarantee the Fed can do much more than it is doing to help the economy break out of the doldrums of the past few years. Of course the Fed could do much more; adding $4 trillion to their balance sheet hasn't been enough to get the economy to escape velocity. There are all sorts of clever untried economic experiments that hold great promise, and then there are the tried economic experiments underway right now.

The S&P 500 has just hit a record high; it's up about 25% year to date. Very impressive, right? Ehh. The Nikkei 225 in Japan is up about 65% YTD. The yen has been devalued by about one-third. The Bank of Japan is printing more money than the Fed. Japanese companies have more cash and less debt than their American or European counterparts. Japanese manufacturing is making a comeback. And the third-largest economy in the world has rather suddenly switched from being a drag on global GDP to being one of the most potent players, and a significant net contributor to global growth. 

It's called Abenomics, after the Prime Minister Shinzo Abe, and the idea is kind of like the Fed's Quantitative Easing scheme, on steroids. And it looks like it's working, for now. Will it work in two years, five years, ten years? Who knows; but 20 years ago Japan tried to keep the yen strong, and avoid debt, and the Japanese economy was stuck and that went on for 20 years.

One of the consequences of the BoJ’s policy shift has been to weaken the yen and boost the dollar. In recent years, dollar strength has been associated with soft commodity prices and weak pricing power in the traded goods sector. That has hurt emerging markets with their high exposure to commodities and global supply chains.

In short, the initial impact of Abenomics has been to export deflation to the rest of the world. This can also be seen in the lower-than-expected inflation rates in the US and eurozone. These are the unintended consequences of the BoJ’s actions. You may not want to invest in Japan, but you do have to understand that it matters enormously whether Abenomics succeeds or fails.

Last week the ECB cut rates, and now they're indicating they still have room to move Euro interest rates even lower. And the latest edict from the Euro Commission tells the bigger Euro economies to help support the entire union: “By virtue of their size in the European economy, Germany and France have a special responsibility to contribute to the recovery in the rest of the euro area.” Over all, the European Union has shrunk its average budget deficit by around half since a peak of almost 7 percent of gross domestic product in 2009 and has “created room” for a reduced emphasis on austerity, according to a report issued by the commission. It's more of a warning than an edict, but it seems to indicate the Eurozone is growing weary of austerity.

Yellen's testimony isn't until tomorrow, but this afternoon we got a look at the text of her prepared opening remarks; an advance copy. Yellen says the Fed has has "more work to do" to help an economy and labor market that are still underperforming. Her prepared remarks also say: "I believe that supporting the recovery today is the surest path to returning to a more normal approach to monetary policy." Yellen said the economy and labor market were performing "far short" of their potential, while price pressures remained muted. "Inflation has been running below the Federal Reserve's goal of 2 percent and is expected to continue to do so for some time." 

Nothing radical from Yellen.

About 106,000 people in the U.S. signed up for private health insurance through Obamacare last month, and 396,261 for Medicaid plans, according to data today that puts the U.S. government well behind its enrollment goals. While the government had an early target of about 800,000 sign-ups in private plans for the first two months, it has scaled back expectations as delays and software flaws plagued the online federal exchange. Only 26,794 sign-ups for private plans were through the federal marketplace serving 36 states.

While enrollment in private plans barely broke the 100,000 mark, state and federal exchanges received 846,000 applications in October, covering 1.5 million people, suggesting a large population in the pipeline if the government can get the website fixed. About 275,000 people who tried and failed to sign up for health plans are being asked this week to return to the website as the software flaws that initially shut them out are being corrected. Additional people who weren’t able to complete applications on the insurance exchange will be solicited later. The enrollment numbers include people who have already paid their first month’s premium and those who have only selected a plan without paying for it.

Last week, the U.S. Department of Agriculture released its annual survey of rural America, which puts the divergence in stark relief. Non-metropolitan areas experienced their first recorded period of population loss, and a decline in the labor force participation rate pushed unemployment down slightly (though the jobless rate surpassed the urban unemployment rate earlier this year). In other words, the cities slickers are doing better economically than their country cousins.

The Department of Agriculture has a whole division devoted to rural issues, which is aimed at fixing the jobs problem through initiatives such as farming cooperatives and infrastructure development. But the long-term problem might be more structural in nature, as the USDA suggests in its finding that suburbanization is slowing down:

The housing mortgage crisis slowed suburban development and contributed to an historic shift within metro regions, with outlying metro counties now growing at a slower rate than central counties. Similarly, nonmetro counties adjacent to metro areas that had been growing rapidly from suburban development for decades declined in population for the first time as a group during 2010-12. This period may simply be an interruption in suburbanization or it could turn out to be the end of a major demographic regime.

Of course, not all cities have been enjoying a robust economic recovery; some are better than others, and some just stink.