No interest rate or policy change, then, from the Bank of England.
But you can’t fault the chutzpah of the “Old Lady”.
Having earlier forecast an imaginary economic crisis if Britain voted for Brexit, the Bank is now claiming credit for stopping such an event. Brilliant!
In the real world, i.e. away from central bank-speak, yesterday’s UK August retail sales fell by 0.2% month-on-month but beat consensus forecasts.
That’s a “strong result following the 1.9% month-to-month jump in July”, says Samuel Tombs at Pantheon Macroeconomics, and it “suggests that the confidence shock from the Brexit vote has worn off quickly for consumers”.
To be honest, I’ve been pressing the ‘Don’t Panic’ button on our economy since the referendum. As Ben would say if he weren’t currently savouring the delights of Baltimore, it’s still early days. But most of the latest surveys are telling the same tale. While there was an initial knock to confidence in the UK, there’s since been a recovery in most subsequent data.
Indeed, the latest post-referendum official figures showed that Britain’s construction sector also held up better than expected in July. It was good to see that infrastructure investment saw a solid rise, even though this was offset by a decline in housing and private commercial building.
Brexit is a red herring
And that brings me round to today’s main theme. The Brexit vote isn’t the real problem for Britain. That’s a worldwide issue: global growth is going nowhere fast.
Currency wars – where a country lowers its exchange rate to make its exports cheaper – are one way to boost growth. My colleague Jim Rickards at Strategic Intelligence is one of the global gurus on this. But remember, the currency market is a zero-sum game where there must be a riser for every faller. So for the planet overall, creating a more competitive exchange rate just can’t happen.
I explained the global growth backdrop on Tuesday so won’t go over the same ground again. But to recap very briefly: quantitative easing (QE) hasn’t fired up either economic expansion or consumer price index (CPI) inflation. So a subtle shift appears to be taking place in central bank-speak. Fiscal strategy – a euphemism for state spending on the never-never – is set to be the new order of the day.
Indeed, ahead of the G20 summit in China last weekend, US Treasury Secretary Jacob Lew even boasted that the US had won the case for “growth rather than austerity”, leading to a change in policy by many G20 governments.
What state stimulus packages mean for you
So what does this potential state stimulus boost mean in practice for both economies and financial markets – and also for your investments?
As we’ve said many times in Strategic Intelligence, there’s a crying need for extra infrastructure investment, in particular in the US and the UK. Meanwhile in Europe, European Commission president Jean-Claude Juncker has just proposed doubling the size of the Commission’s European investment fund to €630bn by 2022 to help projects from airports to broadband networks.
The problem is paying for it.
Or is it? As I also noted on Tuesday, the world is drowning in debt. Yet you wouldn’t realise it from current long-term sovereign bond yields. They’re at record low levels and in several cases are now in negative territory. To paraphrase 1960’s Prime Minster Harold Macmillan, state borrowers have never had it so good.
Sure, the overall amount of public debt is gi-normous and growing. But most governments have made substantial cuts in their annual budget deficits. This has further lessened concern about many countries’ ability to service their debts.
In fact, as Andrew Kenningham at Capital Economics recently pointed out, the austerity era actually ended some time ago.
“Official forecasts published in April suggested that advanced economies in aggregate would loosen policy slightly this year and that only the UK and to a lesser extent Japan would reduce their deficits much in the coming year. In fact, the UK’s new Chancellor of the Exchequer Philip Hammond has indicated that he may re-set fiscal policy in the Autumn Statement and we expect this to result in a slower pace of fiscal tightening”.
“Japan’s government has postponed its sales tax hike and unveiled a large fiscal “stimulus” in response to weak growth and inflation data [while] the euro-zone’s commitment to austerity has waned. Budget deficits in the southern economies have narrowed substantially, reducing the urgency for further cuts. And the European Commission has, with Germany’s blessing, taken a lenient attitude towards excessive deficits in Italy and Spain”.
How new QE could work
I reckon that for their future QE policy, central banks could directly buy sovereign debt from governments that spend the money on new infrastructure. In the medium term, this might lift long bond yields slightly, i.e. prices would fall, to reflect the overall build-up of borrowing. But because those bonds wouldn’t reach the market, the lack of extra supply would curb downside risks.
Of course, the eventual performance of sovereign debt might be a different matter.
Take 10-year gilts (i.e. where you lend money to the Treasury and get it back in a decade’s time). You currently get less than 1% a year for doing this. In my book that’s hardly value for money – at any time.
If CPI inflation starts to take off, long-term yields could eventually surge. That would hammer bond values. For governments, this may be a great time to borrow – but it’s also why I wouldn’t want be on the other side of the trade as a sovereign bond investor.
What about equities?
Some sectors would benefit big from major fiscal stimulus packages. The problem is that at current elevated levels, mainstream equity indices aren’t looking cheap. So it could be dangerous to plunge your hard-earned cash into today’s market. Better chances may appear over time for patient investors. Strategic Intelligence subscribers will be the first to know my thoughts on this score.
So there you have it. Actually, that’s not quite all. There’s one other investment area that provides great insurance against uncertainty and also a hedge against CPI inflation. And we run a dedicated service that specialises in the sector. You can find all about it by clicking here.