Following yesterday’s live blog on FT Alphaville, here are some quick final reflections on the Bernanke press conference:
1. It was a success. After a hesitant start, the Fed chairman spoke calmly and authoritatively, explaining the Fed’s exit strategy much more clearly than the FOMC statement had managed to do. In fact, in the absence of the press conference, there would have been considerable uncertainty about what the statement actually meant.
In preparation for Chairman Bernanke’s press conference on Wednesday, my friends at FT Alphaville asked me to respond to a series of questions on US monetary policy – first predicting what the Fed chairman will say, and then commenting on what he should say. During the press conference itself, I will be participating in a live blog session over at Alphaville.
The past week has seen new highs for the year in many major equity markets, including the US. However, oil prices have continued to climb in ominous fashion, and there have been some weaker signals from the initial economic activity indicators which have appeared for the month of April. In the US, for example, the important Philadelphia Fed index fell sharply, housing data continued to bump along the bottom, and initial unemployment claims were disappointing. Next Thursday will see the publication of the US GDP figures for 2011 Q1, which are likely to report quarterly annualised growth at only around 1.5 per cent, sharply down from the previous quarter. So why has the US economy slowed, and should we be worried about it?
Standard & Poor’s surprised markets today with a warning that the AAA rating of US debt is now on “negative watch”, implying that there is a one-in-three chance that the US might lose its triple-A status in the next two years. Although there was nothing new in the underlying data cited by S&P, their judgment has clearly been impacted by the sharp political differences which have recently emerged in Washington about how to cut the deficit.
Both political parties agree that a large fiscal consolidation plan is needed, but they have widely different points of view on how the savings should be found. This has caused S&P to express scepticism about whether Washington can reach agreement on a deficit reduction plan and then stick to it over a series of difficult years.
The newly published IMF World Economic Outlook for April 2011 is a particularly excellent document, even by the exalted standards of that publication. Since the credit crunch, the IMF has been given increased responsibilities for monitoring the world economy and for cajoling policy makers in the right direction, especially on issues which spill over from one economy to another. And they have improved the depth of their analysis to meet this task.
In the WEO, the IMF warns policy makers not about the dangers of economic pessimism in slowing the pace of the recovery, but instead cautions them about the dangers of too much optimism. Optimism, that is, about the capacity of the world economy to maintain its recent rate of growth.
This week, the continuing strength of global equities in the face of several shocks to the world economy became more impressive, or more puzzling, depending on your point of view. Oil prices rose to a level which will be a serious problem for the uspwing, should it persist. (See this earlier blog.) The ECB became the first of the major central banks to tighten monetary policy. Portugal finally accepted the inevitable. And yet global equities continued to rise.
Furthermore, emerging markets significantly outperformed their developed market counterparts, reversing part of their under-performance in the first few weeks of the year. Several investment banks have now tipped the emerging markets as the right place to be if the developed economies slow under the weight of rising oil prices later in the year. But I am far from convinced about this.
The ECB decision to raise its policy rate by 0.25 per cent to 1.25 per cent is a seminal moment for the global economy. Not only is this the first of the leading central banks to raise rates, it is the first time for decades that Europe has initiated a rate rising cycle ahead of its counterparts at the Fed. I believe that it is wrong to view this as an isolated occurrence: economic fundamentals are far more supportive of rate rises in the eurozone than they are in the US, and that will remain the case for some time to come. And the ECB is deliberately sending a very strong message to member states that they have not gone far enough to fix the sovereign debt problem. Although the markets have already to some extent anticipated the front-loading of ECB rates, relative to those set by the Fed, they may not yet have moved far enough in that direction.
Global equities and other risk assets ended last week near to their high water marks for the year. Once again, markets have reacted favourably to the most important indicators for global activity, all of which have been published in the past week.
There have been some signs that higher oil prices have dampened consumer spending in the US, and the global industrial sector has given further evidence of reaching its peak growth rate. But so far any slowdown has been very minor, and not enough to persuade markets that this is anything more than a temporary correction.
In my regular weekly round-up this week, I will comment on the implications of recent data for the major economies.
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Gavyn Davies is a macroeconomist who is now chairman of Fulcrum Asset Management and co-founder of Prisma Capital Partners. He was the head of the global economics department at Goldman Sachs from 1987-2001, and was chairman of the BBC from 2001-2004.
He has also served as an economic policy adviser in No 10 Downing Street, an external adviser to the British Treasury, and as a visiting professor at the London School of Economics.
Gavyn Davies is an active investor and may have financial interests and holdings in any of the topics about which he writes. The views expressed are solely those of Mr Davies and in no way reflect the views of Prisma Capital Partners LP, Fulcrum Asset Management LLP, their respective affiliates or representatives. This material is not intended to provide, and should not be relied upon for, investment advice or recommendations. Readers are urged to seek professional advice before making any investments.
