Regular readers may recall my recent discussion, and rebuttal of the concept of a ‘Bretton Woods 3′ (BW3) claim of a global shift to supplant the US dollar with a New World Order of commodity- and supply-chain backed alternative currencies. (Here is this link for those who missed it.)
To reiterate, the report concluded: BW3 won’t work if it means a shift to the Russian RUB, Chinese CNY, or a new New World Order FX asset. However, we *are* entering global mercantilism in which control of commodities and supply chains, and military power to do so, will be crucial. This will cause expensive problems for markets who think the world looks otherwise. Such a backdrop will benefit the US dollar, but will roil other assets. So far, that critique is ‘working’.
Stocks slumped again yesterday, even suddenly toothless FAANGs. Tesla went down three Twitters. The Nasdaq overall is now down 20% year-to-date (y-t-d). That’s dramatic enough maybe Netflix would like to make a film that nobody will watch about it.
Bond yields collapsed again, with a bull steepening of the US curve. That was despite a prominent market call that the Fed will keep hiking to the 5-6% level, causing a deep US recession in the process – which doesn’t match the action at least. 12 months ago if you had called 0.5-0.6% for Fed Funds you would still have had some market credibility, because inflation was “transitory”. The market is also pricing in more than a 50% chance that by H2 2023 the Fed will be cutting rates — “because markets”. Yet meanwhile:
Malaysia is about to hike its minimum wage by 35%. Yes, it’s from a low level. Yes, it’s needed for social stability. No, that’s not how supply-side inflation will be brought under control, there or anywhere else.
Japan just flagged another supplementary budget with cash handouts to poorer families again aimed at combating high inflation, which for its public means 1.2% y/y headline and -0.7% excluding fresh food and energy(!) That extra deficit spending is via de facto printed money from the BOJ, which is also pegging 10-year JGB yields at 0.25% with unlimited bond purchases for yield curve control (YCC), while the country runs a due to high commodity prices, and while it also expects the exchange rate to not collapse.
China, while caging its people in over Covid is itself caged in on its policy options. It is now going to build more airports and infrastructure for those citizens who probably won’t be able to go anywhere until the end of the year at best. That may boost GDP artificially, but it will also push up global commodity prices and inflation even further.
Commodities saw the World Bank say the Ukraine war will cause “the biggest price shock in 50 years.” With the UN food prices index at the highest since records began 60 years ago, the World Bank sees wheat increasing 43%, barley 33%, soybeans 20%, edible oils 30%, and chicken 42%: yet Indonesia’s palm oil export ban is ‘only’ 40% of its total, so some ‘relief’. In energy, oil was back over $100; Germany’s Economy Minister implied Berlin might back a Russian oil embargo after all; the US is seeing a squeeze in diesel far more extreme than in general oil prices; and . Poland is prepared: other EU members aren’t.
In FX, the US dollar rules. The DXY dollar index is up 6.9% y-t-d at 102.3. Forget about the risk-off JPY rally yesterday, and 130 or 135 as psychological levels: if YCC and the FOMC –and commodities– don’t stop, JPY’s fall doesn’t either. EUR slumped to 1.0644 and -6.4% y-t-d. It can go far lower. CNY is 6.56 and CNH 6.59. Even Bloomberg is talking about 7, when I used to be the only one doing it. Yet this morning’s CNY fixing was a meaningless 8 pips weaker after the 681 pip hack-and-slash yesterday: somebody wants CNY going down at pace, not the market’s, as usual.
In the economy, we saw what this all means in US housing: prices soar (+20% y/y) and sales collapse (new homes -8.2% m/m). Demand destruction? Yes. So, prices fall back? How, when the supply side keeps pushing inputs higher, and the tendency in many places is to stimulate? It looks more like the risk of stagflation than an imminent return to ‘new normal’ deflation, even if it is a mixed picture in terms of specific national responses.
The geopolitical backdrop will also drive risk off *and* inflation higher. Indeed, yesterday:
The market brushed aside (misreported) headlines about the threat of nuclear war(!) from Russian Foreign Minister Sergei Lavrov and the US Secretary of Defence. I would love to say it’s because of their deep knowledge of grand strategy, but it was due to their focus on the likes of Twitter and FAANGs, which of course matter *so much* more.
The UK said it had no problem if heavy weaponry it supplies to Ukraine is used to hit targets inside Russia; and Russia implied it has no problem reciprocating in kind — though whether that means attacks on Ukraine or the UK was left hanging.
Sweden and Finland moved even closer to near-term joint NATO entry.
A series of likely false-flag attacks in Russian-breakaway Transnistria prompted Moscow to threaten intervention there, causing serious concern in Moldova and the EU.
The broader Balkans continued to smoulder worryingly.
Australian PM Morrison declared a Chinese military base in the Solomon Islands would be a ‘red line’, with the US refusing to rule out the use of military force if this were to ever occur.
An ex-Iranian MP stated the obvious –to everyone outside circles on Twitter and DC– that Iran intended to build a nuclear weapon. (“” and the objective was pursued by “.”). That is as the US recognizes a new nuclear deal is unlikely; and the White House fears Iran may rush for a nuke ‘within weeks’. Of course, the latter statement could be trying to force DC to accept further concessions to Tehran: but even if that does happen, it will be reversed by Congress in 2023 anyway.
The EU, following the US lead, tried to rapidly build economic and security bridges to India.
More concern over the looming catastrophe from Chinese lockdowns on global supply chains.
Meanwhile, aside from pointing fingers over who dropped the ball on China, the Solomon Islands, and defence, Australia today saw the last CPI print before their upcoming election: CPI rose 2.1% q/q vs. 1.7% expected, and 5.1% y/y vs. 4.6%. There were the usual other versions of CPI, and one of them (the weighted median yada-yada) was a tick lower than expected q/q. But does this all really mean anything for the RBA? To answer that question, allow me to share trolling Twitter wisdom from the ‘Reserve Bank of Property’:
Under militaristic mercantilism, Australia has everything it needs to be a winner – except people in charge who understand that reality: they still live in a Bretton Woods 2 world of global harmony, endless property speculation, and cheap prawns on the barbie. That strategy is no longer working, for Aussies – or for broader markets.
By contrast, ‘Why Bretton Woods 3 Won’t Work’ *is* working. However, the turning point may be as we head towards H2 2023, with the Eurodollar curve pricing for cuts then. If central banks are going to cut rates, “because markets”, and think more monetary stimulus and asset bubbles is how you fight a geoeconomic mercantilist war with re-arming opponents trying to control commodities and supply chains, then it may be time to reassess.
If central banks do that AND governments stimulate, even as they are forced to run trade deficits with the New World Order, then even more so. Look at JPY today and imagine it was a US enemy, not ally.
Yet if central banks and governments line up monetary and fiscal policy *with* geoeconomics (i.e., friend-shoring, tariffs, capital controls, industrial policy, etc.) then what we see now is just the beginning. That *will* work, in a geopolitical sense — just not for many markets.