Research Dept. News
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Monthly Report, num. 367 - April 2013
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International review
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United States
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The United States: defying fiscal adjustment
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The United States expects a robust first quarter but growth will be moderate for 2013 as a whole.
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The US economy expects a robust first quarter in 2013 with a gross domestic product (GDP) that might rise to above 0.7% compared with the fourth quarter, at 2.7% in annualized terms. After the jug of cold water represented by the initial GDP estimate for the fourth quarter, this was revised upwards and the latest composition confirms the strength of private consumption and investment. Similarly, most indicators have posted surprising increases, confirming that the US is continuing to recover. However, such initial vigour does not guarantee this tone will continue throughout the year, the reason why our revision of our growth forecast for 2013 as a whole is modest, from 1.9% to 2.0%. The origin of these doubts concerning the world's first economy lies mainly in the burden represented by the slow recovery in employment, which is also the biggest risk, as well as in the deleveraging currently underway, which will continue to restrict consumption.
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The most positive figure from the start of the year is the upswing in private consumption, defying sequester uncertainties. The retail sales that reflect the underlying trend, without volatile cars or petrol, rose by 4.0% year-on-year in February. A good figure that, with a view to GDP for the first quarter, is also strengthened by the good performance by automobile sales. Similarly, households are starting to rid themselves of the fear of the sequester which, although this seems inevitable, coincides with the approval of the federal budget for the next six months, minimizing its impact as well as avoiding default, which would have been an even greater problem. The Conference Board Consumer Confidence index for February rose substantially from 58.4 to 69.6 points.
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Private consumption picks up and budget uncertainties are gradually being resolved.
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This good tone for consumption is not unrelated to February's employment figures, which provided an undeniable surprise by increasing, creating 236,000 net jobs and with an unemployment rate that fell by 0.2 percentage points to 7.7%, the lowest figure posted in four years. The rate of job creation in the last three months clearly exceeds the speed for 2012 as a whole, although it is still too soon to talk of any sustained revival in the labour market. The problem is that, for this upswing to continue, growth in the economy would have to be slightly higher than what is predicted. The fact is that the US labour market is still hampered by structural problems. In February, the low activity rate continued, the proportion of employees working out of the whole population aged over 16 remaining unchanged at 58.5%, a level that is 4.8 percentage points below the figure for December 2006 and which, should it continue, would end up reducing the production capacity of the US economy as well as long-term growth.
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Employment is higher than expected in February, with the unemployment rate falling to 7.7%.
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That is why the Fed confirmed, at the beginning of March, its intention to maintain its third round of quantitative easing while the unemployment rate does not fall below 6.5% and inflation remains under control. The employment target will probably not be achieved until the end of 2015, as the high contingent of discouraged and underemployed workers, working part-time for economic reasons, will absorb a considerable part of the jobs created over the next three years, thereby delaying the reduction in the unemployment rate. January's employment figures are a clear example of this. This delay is also self-perpetuating as those people who have been unemployed the longest tend to find it much more difficult to rejoin the labour market. February's figures show an increase in the proportion of long-term unemployed to 40.2% of the total, much higher than the figure of 26.0% in June 1983, which was the highest reached before the Great Recession.
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Production investment must maintain its vigour in spite of persistent corporate debt.
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The Fed's publication of its Flow of Funds for the fourth quarter supports the hypothesis of modest growth in 2013 in spite of the upswing in the first quarter. The proportion of household and non-financial company debt compared with GDP rose for the first time since March 2009, interrupting a deleveraging process that has not been completed, so that the current upswing in private consumption is likely to lose steam.
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This is less clear in the case of investment. While household deleveraging since March 2009 has gone from 97.2% to 80.9% of GDP, that achieved by non-financial firms has been minimal, from 83.4% to 80.1%, explaining part of the business caution shown over the last few months. However, corporate earnings close to historical highs and investment that has yet to recover its pre-crisis level are proof there is still room for improvement, so the investment component should maintain its tone in 2013. This support factor is reflected in the moderate improvement in the activity indices of the Institute for Supply Management (ISM) in February which, in manufacturing, rose from 53.1 to 54.2 points in line with GDP growth of 3.0%. Services also rose, accounting for 83.5% of all private jobs, going from 55.2 to 56.0 points, a level that corresponds to 2.5% growth.
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The recovery in construction will continue due to the reduction in the oversupply and better financial conditions.
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In the area of residential investment, construction will more than likely remain vigorous between 2013 and 2015. There is evident room for improvement. 15% annual growth throughout this three-year period would still leave new houses started at 8% below the average level for the period 2000-2005, prior to the real estate bubble. This room for improvement is supported by the trend in the formation of new households which should offset the stagnation of the recession; by the improved financial conditions, which the Fed's policy has at least something to do with; and by the reduction in oversupply, as shown by the decrease in the time required to sell a house, understood as the number of houses for sale divided by the number of houses sold per month. In January, 4.7 months were needed to sell a house, a typical figure for 2006, prior to the collapse of the real estate bubble and very far from the average of 13.8 months in the first half of 2010. With regard to prices, the gradual improvement continues with a Case-Shiller index that, in December, saw its eleventh consecutive rise, accumulating a 7.0% increase since January 2012.
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The CPI reaches 2.0% but will continue to moderate due to the low utilization of production capacity.
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In the area of prices, the 2.0% increase in February's consumer price index (CPI), 1.6% in January, came as a surprise and was due to rising oil prices which, given recent developments, should not continue. Nevertheless the core CPI, the general index without energy or food prices and which also increased by a similar 2.0%, indicates a panorama without inflationary tensions as prices are very likely to slow up in the short term, which is reaffirmed if we exclude owners' equivalent rent for housing. The US economy's level of activity is still clearly below its production potential, guaranteeing margin for the Federal Reserve, which would accept increases in the core CPI of up to 2.5% to continue with its policies of monetary expansion and low interest rates.
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The trade deficit increases due to a one-off rise in oil imports but exports fall.
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With regard to the foreign sector, the deficit in the balance of goods and services for January increased after December's good figures, reaching 44.45 billion dollars. 90% of this increase in the deficit was due to the oil imports bill, rising in spite of the increases in production, suggesting that this situation should not continue. The most negative aspect was, however, the slight reticence shown by exports after two months of growth, questioning whether the sector will contribute positively to growth in the first quarter.
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Japan
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Japan: timid exit of the recession
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Japan exits the recession but its growth is still weak.
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The country's moderate upward revision of its GDP figures turned the small quarter-on-quarter drop for the fourth quarter into an increase, also minimal, so Japan is no longer in recession in the technical sense of accumulating two quarters of negative growth. However, this exit of the recession does not mean that the economy is on the road to recovery. The growth we expect for the whole of 2013 is a lethargic 0.7%, thanks largely to the 10 trillion yen increase in spending approved by the new Prime Minister Shimzo Abe, which will be divided between aid for private consumption and the reconstruction work required after the tragedy of 2011.
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Abe has started up a programme of stimuli for the country to escape deflation and low growth, which has been called Abenomics, based on three pillars: monetary expansion, greater public spending and structural reforms. For the monetary pillar, Harukiko Kuroda, from the Asian Development Bank, was appointed governor of the Bank of Japan at the end of February. Above all, this monetary expansion aims to put an end to deflation or achieve GDP growth in current yen, which is the same thing. Nominal growth is essential in Japan to reduce the debt to GDP ratio in current terms. Since December 1997, Japan grew by 9.0% in real terms thanks to fiscal and monetary stimuli, which is a success given the environment of debt, deflation and an aged population. However, nominal GDP fell by 10.1%, perpetuating indebtedness.
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Abe's monetary expansion aims to end deflation and grow in current terms.
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The markets' reaction to these new policies has led to the yen weakening considerably which, since mid-November, has depreciated by 20% against the dollar, as well as to gains in the Nikkei stock market, up 44% over the same period. However, deflation and the trade deficit persist for the time being. The strategy of the Japanese authorities also has its risks. To begin with, its Asian neighbours might perceive the depreciation of Japan's currency as a threat to their competitiveness and react with their own depreciations. The increase in public spending is also a dangerous tactic insofar as, in Japan, debt from non-financial firms has been passed on to the public sector, which is already suffering from excessively high debt.
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The markets support monetary expansion, but long-term success will depend on structural reforms.
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Although Abenomics is likely to work in the short term, the final verdict will be provided by the programme's third pillar, structural reforms, whose aim is to regain the competitiveness of Japanese firms compared with their Asian rivals which, to their credit, have reduced their debt. This would help the private sector to take over from public stimuli.
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Currency war: much ado about nothing, at least for the time being
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On many occasions and for differing reasons, the global economic and financial crisis that began in 2007 has been compared with the Great Depression of the 1930s. For example, the prior formation of a credit bubble, problems with the banking sector and debate regarding optimum monetary and fiscal policies have justified reasonable parallels between both periods. Another area subjected to comparison is foreign exchange policy, in particular regarding a possible «currency war». We can certainly see some similarities but, fortunately, the dynamics over the last few years have not been as turbulent or harmful as they were almost a hundred years ago.
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The media success of the expression «currency war» can be put down to the fact that it is both ambiguous and grandiloquent. This term should be interpreted as a proliferation of actions taken by economic authorities in different countries aimed at devaluing or depreciating their own currency in order to boost exports, slow down imports and thereby combat economic weakness. «Competitive devaluations» or «beggar thy neighbour policies» are alternative terms. The means used to achieve this are wide-ranging and vary in their subtlety: from mere direct intervention in the currency markets to manipulate the exchange rate to establishing foreign exchange controls and even the design of monetary and fiscal policies.
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Judging whether a country is attacking others via its currency is not straightforward, especially when the tools used are subtle. The reasons and circumstances surrounding such actions are crucial in reaching a decision. When the main aim is to stimulate domestic demand and affecting the exchange rate is only a side effect, this does not seem to be an attack. Similarly, the same measure must be considered differently depending on whether it takes place within an environment where the currency is clearly over-valued or under-valued. On the other hand, whether protectionist measures are also present is of the utmost importance given the damage that «trade wars» can cause to all those concerned.
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The events of the 1930s deserve to be classified as a currency war.(1) The initial scenario contained two basic elements: the Great Depression and the Gold Standard, a system of fixed exchange rates in which each currency was anchored to gold. Hit hard by recession, the authorities of the United Kingdom decided to abandon this straitjacket towards the end of 1931, setting off a long chain of events with global effect. The Scandinavian countries embarked on the same path as the United Kingdom that very year. Initially, one of the reasons for modifying the exchange rate system was to allow more expansionary monetary policies to be adopted aimed at domestic demand, but another objective was also to depreciate the currency and improve exports. In fact, this became the main focus of action over time. A few years later, France and Germany also gave up the Gold Standard, while the United States maintained it but in a highly diluted form. Competitive devaluations became common practice. There were also capital controls, at times defensive but other times offensive in nature. Unfortunately, a trade war did not take long to break out and reached extremely harmful levels. All this took place within a climate of reproaches, accusations and a lack of coordination between countries that merely served to quash the expansionary effect of the widespread application of more expansionary monetary policies. In fact, neither did it help to calm a tense international political climate that would result in unprecedented military conflict.
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The situation of the last four years is much more reasonable. The threat of a currency war has occasionally raised its head but has, as yet, failed to materialize. Its most noticeable appearances have coincided with the announcement of «quantitative easing» programmes by the central banks of the main developed countries. In September 2010, the Brazilian Finance Minister, Guido Mantega, made the expression «currency war» popular in the press after hearing of the US Federal Reserve's QE2 plans. In the period between 2012 and 2013, agitation has become more intense in line with the ambitious monetary and fiscal policies announced by the government and central bank of Japan. Meanwhile, we have seen an assortment of foreign exchange actions. In Switzerland, the central bank established a limit to the Swiss franc's value against the euro and has intervened directly. Some other developed countries have also resorted to or threatened intervention. This was already customary in several emerging countries before the crisis and they have continued, combined with capital controls. However, all these operations and skirmishes do not constitute a currency war of the like seen in the 1930s. An examination of the reasons and circumstances reveals a relatively reassuring situation.
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First of all, the Great Depression of recent years has not reached the dramatic heights of the Great Depression in the last century, while the flexibility of the foreign exchange systems that are now in force was already well established by 2008, unlike the chaos caused by the sudden abandonment of the rigid Gold Standard. Given this situation, the economic policy measures adopted have been aimed mostly at domestic targets and not at manipulating the exchange rate; in developed countries, to boost domestic demand: this seems very clear in the case of the United States with its categorical monetary policy, and somewhat less clear in the case of Japan; in the emerging countries, to preserve financial stability. This objective has become legitimate after the traumatic episodes experienced in the last few decades, such as shock wave caused by the Lehman bankruptcy and, previously, the Asian and Latin American crises of the 1990s. The use of foreign exchange controls to redirect flows of speculative capital has become accepted as reasonable practice, very different to when it was used for trade purposes.(2)
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In addition, the most significant actions have occurred in countries whose currencies had appreciated not because of fundamental reasons but, in particular, due to the huge aversion to risk holding sway recently (such as in the case of the Swiss franc and the yen). In this respect, the IMF itself has stated that it has not observed any significant deviations at present regarding the fundamental equilibrium exchange rates of the main currencies.(3) On the other hand, the foreign exchange markets have operated correctly, without interruptions or dysfunctions (with the notable exception of the post-Lehman months, an event that collapsed all international financial markets). Lastly, no serious trade wars have emerged. In fact, more liberalization agreements are still being negotiated (particularly the one between the United States and the European Union), while international trade is expanding vigorously.
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The climate of relations between countries has remained moderate, apart from the odd verbal outburst. Forums such as the G-20 are not wonders of harmony but they have helped to achieve some coordination, albeit tacitly and a posteriori. Along these lines, some observers(4) believe we are not experiencing an adverse currency war but a spontaneous process that is helping to coordinate internationally the application of expansionary monetary policies. Under this premise, the very success of these policies and the consequent recovery in the global economy should get rid of the threat of currency war once and for all.
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(1) See, for example, Eichengreen, Barry and Douglas Irwin (2010), «The Slide to Protectionism in the Great Depression: Who Succumbed and Why?» Journal of Economic History 70, pp. 871-897.
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(2) See the box «The exchange rate as an economic policy tool» in this issue.
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(3) See the box: «What is the right price for a currency?», in this issue. (4) See Eichengreen, Barry. (2013) «Currency War or International Policy Coordination?», Journal of Policy Modeling (forthcoming).
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This box was prepared by the Financial Markets Unit Research Department, "la Caixa"
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China
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China: gradual progress continues
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China's business indicators still confirm the gradual improvement in growth.
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January and February's figures confirm the upward trend in China's economy although some sources of risk still hover over the Asian giant. On the one hand, the relative weight in credit of shadow banking (financial institutions outside the scope of the country's bank regulator) has been increasing; on the other hand, real estate prices continue to rise, particularly in the country's large cities.
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Starting with the latter, real estate prices rose again in February, increasing in 66 out of the 70 cities for which the Chinese National Statistics Service reports prices. The biggest rise (3.1% compared with January) was in Guangzhou, the capital of the province of Guangdong, known globally as the world's factory. In the large cities, prices have been rising non-stop since summer 2012. The government's reaction to this increase did not take long to come and it announced another round of measures to cool down the real estate market: another tax hike on house sales and purchases and on down payments, among other restrictions.
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Nevertheless, we need to look at these price rises within context. In particular, the rise in real estate prices does not seem to have notably worsened housing affordability. Although in the last few years (2000-2011) real estate has appreciated more than disposable income in some large cities such as Shanghai, Shenzhen, Hangzhou and Beijing, the increase in 2012 remained in line with wage rises.
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Nonetheless, the real estate market and the increase in shadow banking are areas that need to be monitored.
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Regarding shadow banking, a growing number of people are warning of the sharp increase in credit granted via these financial institutions. Although they have boosted the financing of small and medium-sized enterprises, sometimes forgotten by commercial banks, and offer new, more profitable investment possibilities than classic deposits, they also involve certain risks such as their excessive concentration on property development credit and a maturity mismatch.
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In terms of activity, indicators for January-February, together due to the distortion created by the Chinese New Year which does not always fall in the same month, continue to confirm that the economy is gradually improving. In particular, cumulative urban fixed capital investment grew by 21.2% year-on-year in January-February, higher than the figure of 20.7% in the last quarter of 2012. Similarly, industrial production advanced by 9.9% year-on-year, equalling the average for the last quarter of the year. For its part, consumption has slowed up its advance although we expect a substantial improvement in 2013, partly due to the support measures planned by the country's government.
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Lastly, given this environment of activity, inflation picked up in February, rising to 3.2% compared with 2% in January. However, in the cumulative figure for January-February, inflation stood at 2.6%, a little higher than the figure of 2.1% in the fourth quarter due to strong food prices but still far below the latest government target of 3.5%.
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Brazil
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Brazil: growth is still anaemic and inflation is climbing
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Brazil's GDP advances by a weak 1.4% year-on-year in the fourth quarter of 2012.
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Brazil's economy is still anaemic with a much slower rate of recovery than expected. Although the first Latin American power grew by 0.6% compared with the third quarter of 2012, above the figure of 0.4% for the previous quarter, it is still below the rate we were used to seeing before the global crisis erupted (1.0% quarter-on-quarter). In year-on-year terms growth was 1.4%, placing the figure for the whole of 2012 at a slim 0.9% and validating the stance of those who still expect a complicated 2013. All this was aggravated by significant bottlenecks that continue to limit the country's production capacity and economic flexibility. By way of example, the agricultural sector's transport and logistics problems will erode a large part of the profits from the good harvest expected in 2013.
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The view is somewhat more positive by demand component as investment grew for the first time last year, by 0.5% compared with the third sector in 2012, although falling by 4.6% in year- on-year terms. For its part, household consumption continued to resist and grew by 1.2% compared with the second quarter. Although private consumption accounts for just over 60% of the country's GDP, this resilience will not be enough to significantly drag growth rates along unless investment strengthens.
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Inflation continues to rise, reaching 6.3% in February and approaching the ceiling of the Central Bank's target...
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Inflation continues to rise within this environment of weak improvement. January's figure reached 6.3%, just 0.2 percentage points below the ceiling of the inflation target set by the Monetary Policy Committee (COPOM). In order to counteract this increase a little, and given that the expected correction in food prices never came about, President Dilma Rousseff brought forward the tax cut for basic goods initially planned for May.
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...limiting the Central Bank's room to support economic growth.
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Inflationary pressures limit the Central Bank's margin to support depressed economic growth. In this respect, in the minutes of the COPOM meeting in March we can infer a shift in monetary policy, which between August 2011 and October 2012 cut the reference interest rate (Selic) by 525 basis points to the current figure of 7.25%. Nonetheless, this economic weakness leads us to rule out any changes in the interest rate until a significant improvement is seen in the pace of activity, unless inflation moves far away from the target range. We have therefore maintained our scenario, which assumes a rise in the Selic rate as from mid-2013.
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Regarding the rate of activity, January came as a surprise with a significant improvement in the industrial production index. Specifically, this grew by 2.5% compared with December, far above the 2.7% drop in 2012. Although part of this rise can be explained by the stimulus to the automobile industry, the improvement has not been limited to just this sector. This figure, however, does not change our forecast that, in the first quarter, growth will be similar to that of the fourth quarter of 2012.
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Mexico
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Mexico: reforms reach the telecom sector
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Mexico undertakes the reform of the telecom industry to reduce its concentration.
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The President of Mexico, Enrique Peña-Nieto, is continuing with his ambitious plan of structural reforms with the aim of increasing the country's growth potential from the current 3%-4% to 6%. The reforms to the telecommunications industry confirm this Latin American country's determination to change, which many had doubted. In the words of the President himself: «In Mexico there are no untouchable interests».
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First came the labour reform, which aims to make the labour market more flexible, breaking down the rigid system of the last 40 years. Then came the educational reform which, among other things, established a transparent system for assessing and recruiting teachers, eliminating the practice of inheriting or selling teaching posts.
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Now it is the turn of the telecommunications industry. The reform aims to increase competition in the sector in order to lower prices that are deemed too high.
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Banxico cuts interest rates given the global uncertainty and price containment.
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Given this situation of reforms, inflation picked up slightly in February, standing at 3.6% compared with 3.3% in January. However, this increase in prices was not across the board but concentrated in just a few goods and services. In general inflationary pressures are, for the time being, contained.
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This price containment has encouraged the (relatively) unexpected cut in the reference interest rate by 50 basis points down to 4%, the first cut since July 2009. With inflation under control, the downside risks have become a priority, as a result of a greater global economic decline than predicted. Nonetheless, the official memorandum from Banxico repeated that this is not the start of an accommodative cycle.
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Between reform and reform, the breakdown of GDP components for the fourth quarter revealed, once again, an underlying resistance in domestic demand. Consumption stood out in particular with a contribution of close to two and a half percentage points, while investment played its part with a contribution of almost one point. On the other hand, the contribution (-0.2 percentage points) by exports reflects the world slowdown at the end of 2012.
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Commodities
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Oil falls
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Oil falls to 107.8 dollars per barrel.
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Oil continued its correction started in the second half of February. Between 20 February and 20 March, the price of crude lost 7.0%, falling to 107.9 dollars per barrel (Brent quality, for one-month deliveries) after having reached 118.0 dollars on 14 February.
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This drop in oil prices is due to global demand which, in 2013, will be less strong than expected. However, price fluctuations should not be too great as Saudi Arabia, the world's largest oil producer with close to 11% of the total, regulates its production to ensure prices remain stable at a level that meets its budgetary requirements. The price of crude is therefore unlikely to fall below the level of 100 dollars in 2013. However, the latest drops in price should help to ease the CPI of the main economies over the coming months.
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The weakening of emerging economies pushes energy and industrial commodity prices down.
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Losses predominated in the rest of commodities although the CRB index remained flat between 20 February and 20 March. Losses focused on base metals, affected by doubts regarding the growth of large emerging economies such as India and Brazil. Iron halted its upward trend that had lasted since December 2012 and returned to the fold of the rest of the base metals with a drop of 17.5%. Similarly aluminium, copper and nickel all lost 7.8%, 4.3% and 2.1%, respectively. Precious metals, platinum, silver and palladium, all saw losses while gold remained relatively stable at 1,607 dollars per ounce. Food was the sector that saw gains, led by wheat and cotton, which is the material whose price has risen the most in 2013 due to stockpiling in China.
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