Economy

Good morning. We hate sounding so downbeat all the time. Yesterday, it was FIS embarrassing capitalism. Today, it’s sour inflation news. Maybe tomorrow we’ll write a list of good news in markets. Send us your candidates: [email protected] and [email protected]. Sifting through a noisy inflation reportSometimes markets get caught unprepared by new data. Not yesterday. Most experts expected inflation would reaccelerate a bit, and it did, with the core consumer price index rising to an annualised 5.1 per cent in January, up from 4.9 per cent in December. Hot-and-sticky shelter inflation looked basically unchanged. Markets were ready for it all; after falling initially, the S&P 500 ended the day flat. Two-year yields rose a modest 9 basis points.Inflation data is always noisy, but especially so this month. The Bureau of Labor Statistics made two annual methodology adjustments that analysts believe were slightly inflationary. Most years, CPI exhibits what Manuel Abecasis and Spencer Hill of Goldman Sachs call the “January effect”, as year-start price increases push up the index beyond what seasonal adjustment accounts for. This year, they think, the January effect interacted with pent-up cost inflation, possibly explaining startling price increases in certain categories.In other words, if you need reasons to dismiss this inflation report, a few are available. Nevertheless, there are two important warnings in the numbers, which the Federal Reserve seems likely to heed.The first is that core goods prices — which had been falling for three months — picked back up in January, rising 0.1 per cent. The chart below uses moving averages to smooth over monthly changes but look at the tick-up in the blue line:Some analysts dismissed the change, and not unreasonably. One might suspect the January effect behind outsized price increases in, for example, prescription drugs (up 2.1 per cent in one month), furnishings and clothes. Andrew Hunter of Capital Economics wrote that “with the surveys continuing to suggest that global goods supply chain shortages are fading rapidly, we still think renewed falls in core goods prices lie ahead”.But blip or not, it raises the question: how reliable is core goods deflation? There are reasons for worry. Wholesale used car data no longer has prices in freefall, while some data even shows outright increases. Omair Sharif at Inflation Insights thinks the used-car CPI sub-index could start increasing as soon as March, eliminating one of the strongest and most consistent inflation drags. Maybe this is noise, but the clear-as-day deflationary story in goods is wobbling.The second warning is that services inflation isn’t budging. Happily, it isn’t shooting up, either. But progress is coming at an achingly slow pace (chart from Pantheon Macroeconomics):

Summing up, then, here is a regular check-in on Jay Powell’s three conditions for easing monetary policy:Core goods prices need to keep falling. This still looks like it’s happening, though we’re marginally less sure now.Housing inflation needs to follow private rent indices down, as is expected later this year. Still too early to tell. Ex-housing core services inflation needs to fall decisively. Falling, yes; decisively, no.It is doubtful that a data-dependent Fed will look at this list and conclude that its job is done. Following the CPI report, several investment banks, including Barclays and Deutsche, lifted their estimates of the peak policy rate to the mid-5s. If inflation progress remains OK but not great, more increases will follow. (Ethan Wu)The China reopening trade, revisitedThe last time we looked in on the China reopening trade, about a month ago, we made four basic points:There is significant pent-up demand and savings in China if the post-zero-Covid reopening goes smoothly.Chinese stocks are cheap, both in absolute terms (about 11 times forward earnings for the MSCI China index) and relative ones (they have fallen behind the emerging market indices they usually track).But the path of the reopening is uncertain; no one has proven very good at predicting the path of the virus.The trajectory of reopening policy is uncertain, too; no one has proven very good at predicting the action of the Communist party in this area.The bullishness of the first two points was counterbalanced, in our estimation, by the bearishness of the second two. We concluded that “11 times forward earnings seems not so much cheap as fair”.The MSCI China index is down 2 per cent since we wrote that and mainland stocks are up only slightly, which may seem to confirm our instincts. Perhaps the reopening trade simply became crowded. The soft performance may also have a lot to do with the risk-off sentiment that has prevailed in global markets in the past few weeks, as US interest rate expectations have risen.The economic fundamentals of the reopening story, by contrast, look solid. In a recent note, Pantheon Macroeconomics’ chief China economist, Duncan Wrigley, noted that over the Chinese new year holiday, value added tax receipts in consumption sectors were 12 per cent higher than the 2019 holiday level; cinema sales were 14 per cent above the 2019 level; and domestic tourism trips rose to 89 per cent of the 2019 level. Inflation has remained mostly under control. Both retail sales growth and residential property sales growth ticked up (albeit slowly and from a low level) in December.The risks associated with reopening are becoming less daunting. And investors are taking notice. This is from a Wall Street Journal story yesterday:Investors have added more than $2bn on a net basis this year to US-based mutual and exchange traded funds that buy Chinese equities, according to data from Refinitiv Lipper. That reflects five consecutive weeks of inflows and marks a reversal from the second half of last year when they pulled almost $1bn.A similar story ran in the Financial Times (a week earlier, of course). It focused on the buying of mainland shares:Global investors have snapped up a record $21bn worth of Chinese equities this year, as robust economic data spurs traders to make larger bets that the reopening rally has further to run. Foreign buying of Shanghai- and Shenzhen-listed shares through Hong Kong’s Stock Connect programme has rocketed to Rmb141bn ($21bn) so far in 2023 — more than double the previous record for the same period in 2021 . . . “When everybody said they’d like to have a portfolio without China, that was the bottom,” said Alison Shimada at Allspring Global Investments. She said that Allspring was now “a little overweight” on Chinese equities after increasing its allocation on October 31 — a view that was “not popular at the time”.Mainland stocks are up 27 per cent in dollar terms since global sentiment about, and flows into, China bottomed at the end of October. Shares in Hong Kong are up 44 per cent. The surge in global flows and its effect on prices has forced us to consider whether our view of China is missing a crucial element. We have focused on three factors: valuations, growth rates and regulatory risk. We have been particularly jumpy about regulatory risk because we don’t know how to quantify it. But maybe we are missing a simple part of the bull case. There is a huge amount of investable capital in the world looking for a home, and the world as a whole remains underweight China, particularly mainland shares. It might take only small improvements in the regulatory climate, and only slightly above average economic growth relative to the rest of the world, for the ownership imbalance to normalise over time and Chinese valuations to get a lift.JPMorgan Asset Management notes that almost two-thirds of investors with global benchmarks have no mainland China share exposure; a third of emerging market investors have no exposure. The Chinese economy is three-quarters the size of the US’s, but its stock markets are less than 40 per cent the size of America’s. This could be an important tailwind for investors in China, if the Communist party can stay mostly out of the way.One good readGot a sexual harassment scandal? Better call this lady. More

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A recent spate of currency devaluations has highlighted the intense pressure on many emerging economies, as the strength of the US dollar forces them to spend precious foreign reserves supporting their exchange rates.Egypt, Pakistan and Lebanon all abandoned longstanding policies of pegging their currencies to the dollar in January. With the US currency remaining historically strong despite falling back slightly since October, economists and investors warn that a further slew of emerging and frontier markets may be forced to succumb to market forces and follow suit.“There is a compelling case for them to seize the day,” said Robin Brooks, chief economist at the Institute of International Finance. He said Ukraine, Nigeria and Argentina are among economies likely to see their currency pegs come under pressure, particularly if an escalation of Russia’s war in Ukraine reignites inflationary pressures, leading to higher borrowing costs in the developed world and further gains for the dollar.Recent inflation and employment data from the US have raised fears on financial markets that investors have been too sanguine about the future path of US interest rates, and that the Federal Reserve may keep them elevated for longer than previously expected.The trio of countries to devalue so far this year did so in a bid to unlock emergency finance from the IMF. With 60 per cent of low-income countries at risk of debt distress or already in it, according to the IMF, more controls will be put to the test this year, analysts say.Egypt’s 23 per cent devaluation since January 4 was the third since March last year, when the government began lifting a peg in place for five years. The pound has since lost about half of its dollar value.Pakistan’s rupee lost about a fifth of its dollar value after authorities loosened controls on January 26. Lebanon’s central bank let its currency plummet by 90 per cent against the dollar on February 1, removing a peg in force since 1997. For many countries with artificially strong exchange rates, deciding whether to devalue is an invidious choice. Defending currency pegs depletes their often scarce foreign reserves and also stymies growth by making their exports more expensive.But devaluation stokes inflation by making imports more expensive, and raises the cost of servicing foreign-currency debts.Ukraine, with its economy and government revenues devastated by Russia’s attacks on civilian infrastructure, increased its monthly interventions on currency markets from $300mn to $4bn between February and June last year. With money running out, it let the hryvnia slide by nearly 25 per cent against the dollar in July.But the central bank again spent more than $3bn a month in December and January to defend the new peg, prompting talk of a fresh devaluation.Viktor Szabó, of investment management company Abrdn, said that would not be the best policy right now. “It would only bring more inflation and increase the suffering of the people,” he said.The central bank has explicitly ruled it out, saying foreign funding will help keep reserves above their current level of $30bn this year.Turkey, too, is unlikely to address any time soon what many analysts see as an artificially strong currency given the intense inflationary pressures faced by the population which could be compounded by the recent earthquake.Others have run out of options. Ghana’s central bank drained its reserves to support its currency for years. In December, the government abandoned these efforts and instead said it would no longer service its external debts, and launched a punitive restructuring of domestic debt. The cedi, which appreciated strongly in the run-up, has since lost half its dollar value.Next may well be Nigeria, which has long had what analysts say is an unsustainable system of multiple exchange rates. A shift to a simpler system is expected to follow elections on February 25. “Markets will definitely expect some change and if it doesn’t come, there will be more of the pressure we have seen for the past 12 months,” said Simon Quijano-Evans, chief economist at Gemcorp Capital Management.Like Nigeria and Ghana, he said, other developing countries in Africa and beyond must make a clear separation between fiscal and monetary policy. Rather than relying on central banks to prop up their currencies or buy their debt, he said, governments should balance their books through fiscal reforms including taxation.“This is not just for investors,” he said. “Local populations should be looking for this as the only way to get clarity and of making sure they are not hit by inflation or sudden devaluations.” More

(Reuters) -President Joe Biden on Tuesday picked Federal Reserve Vice Chair Lael Brainard and White House economist Jared Bernstein as his top economic advisers, part of a fresh push by the Democratic president to convince skeptical Americans his economic policies are working.The decision, announced after financial markets closed, gives Biden a pair of trusted Washington insiders to steer economic policy as the risk of recession fades but inflation lingers. Big fights also loom with the Republican-controlled House of Representatives over raising the debt ceiling.Biden named Brainard director of the National Economic Council (NEC) to replace Brian Deese, who announced his departure this month, and said he would nominate Bernstein to replace the outgoing chair of the Council of Economic Advisers (CEA), Cecilia Rouse, the first Black American in that post, who will return to Princeton University. Bernstein already serves on the CEA.”Lael and Jared will help bring a seriousness of purpose to the task of building a strong, inclusive, and more resilient economy for the future,” Biden said in a statement, underscoring the new team’s focus on achieving a soft landing amid the Federal Reserve’s continued raising of interest rates to rein in inflation, building an inclusive economy, and helping U.S. businesses thrive and become more competitive.The shakeup comes as the White House tries to tackle what officials view as a frustrating disconnect between relatively strong economic data and weak public sentiment. Biden’s approval ratings dropped 6 percentage points to 36% in a new Reuters/Ipsos poll, despite unemployment at 53-year lows and rising consumer sentiment.Biden also handed a new job title, adviser for strategic economic communications, to deputy NEC director Bharat Ramamurti, former adviser to Senator Elizabeth Warren and vocal critic of oil and gas companies’ windfall profits. Current CEA member Heather Boushey was named chief economist in Biden’s new “Invest in America” cabinet, and Labor Department chief economist Joelle Gamble one of Brainard’s deputies.Biden is expected to soon name a replacement for Brainard, who supported recent rate raises to tame inflation while noting the impact corporate profit margins have on rising prices. Any Fed nominee will be subject to Senate approval.In his State of the Union Speech last week, Biden doubled down on pledges to rout “trickle down” economics from policymaking and blasted companies for profiteering. His new economic crew may spend less time shaping new policy and more time overseeing more than $1 trillion in new federal spending on semiconductor manufacturing, infrastructure and green tax credits. Faiz Shakir, chief political adviser to Senator Bernie Sanders, said Biden’s picks for the top economic jobs were “not everything we as progressives want,” but welcomed moves to “challenge unchecked corporate power.”DEBT LIMIT FIGHTOne of the biggest challenges for Biden’s White House will be staving off a U.S. debt default in the face of a hostile House of Representatives now controlled by Republicans who say they will not agree to raise the statutory debt ceiling without cutting future spending. The White House has refused to discuss spending cuts without a debt ceiling vote first. Treasury Secretary Janet Yellen said on Jan. 19 that the United States has reached its current $31.4 trillion borrowing cap, but can keep paying its bills until June by shuffling money between accounts. Investors have warned that edging closer to the deadline could have dire market repercussions.Bernstein, whom Biden described as a “brilliant thinker,” told a think tank event in Washington last week that Republican efforts to “weaponize” the debt limit were “especially reckless” with the economy slowing and inflation still coming down.Both he and Brainard have argued that labor market disparities are curbing U.S. growth potential; neither has in-depth experience negotiating with hostile lawmakers. Bernstein last week conceded that the White House’s early description of inflation as “transitory” had missed the mark. He said the administration was closely watching energy prices, citing tight refinery capacity and China’s reopening as possible pressure points. BRAINARD LEAVES HOLE AT FED The Fed is trying to achieve a “soft landing” for the economy that involves tamping down inflation without causing a recession. On Tuesday, data showed consumer prices in January posted their smallest annual rise since October 2021, a sign that goal is in sight. Brainard, a Harvard-educated economist and a Democrat described by Biden as a “trusted veteran,” is known at the central bank for thorough preparation and particular expertise on global economics. During almost a decade there, she extended her influence across both monetary policy and financial regulation.Biden’s decision in late 2021 to renominate Fed Chair Jerome Powell, a Republican, to the top position was twinned with Brainard’s elevation to the No. 2 slot, ensuring a counterweight on monetary policy and regulation. A bane of Wall Street, Brainard has pushed the Fed to take more actions on requiring banks to account for risks of climate change and also backed a central bank digital currency. More

Appearing before lawmakers, Governor Philip Lowe said one risk is the bank may have not done enough on interest rates. The current monetary policy is restrictive, Lowe said. More

(Reuters) – Law firm Covington & Burling fired back at a lawsuit from the U.S. Securities and Exchange Commission on Tuesday, arguing the agency overstepped by asking it to identify clients affected by a 2020 cyberattack on the firm.Covington said an SEC subpoena for the names of nearly 300 publicly traded companies whose information was accessed or stolen during the hack threatened to expose confidential client information that the firm is required to protect.“The SEC’s effort to compel Covington to help the agency investigate the firm’s clients, without any evidence whatsoever of wrongdoing by Covington or those clients, is an assault on the sanctity and confidentiality of the attorney-client relationship,” Covington told the Washington, D.C., federal court hearing the case. The SEC sued Covington last month to force the powerful D.C.-based firm to identify the clients as part of an investigation into potential securities law violations associated with the hack. The agency said the hack was carried out by the Chinese-linked Hafnium cyber-espionage group. The SEC has argued that its subpoena was narrowly targeted and did not seek information covered by attorney-client privilege. It said its request was necessary to determine whether the hack resulted in insider trading and if the companies made all required disclosures to investors about the breach.Covington accused the SEC of engaging in a “fishing expedition” and attempting to force the firm to turn over information that could lead to scrutiny of its own clients without evidence of misconduct.The firm pointed to legal ethics rules that require law firms to keep the confidences of their clients and protect potentially embarrassing information. It said the SEC’s demand could chill cooperation between law firms and the government following future cyberattacks and cause a “cascading series of dilemmas” for firms caught between reporting breaches and protecting their clients.Covington’s legal team at Gibson, Dunn & Crutcher has said the 2020 hack was aimed at a small group of lawyers and advisors to glean information about the incoming Biden administration’s policies on China. Covington said it worked with the FBI to investigate the cyberattack and notified all clients whose information was potentially compromised. The case is Securities and Exchange Commission v. Covington & Burling, U.S. District Court for the District of Columbia, No. 23-mc-00002For the SEC: Dean Conway of the SECFor Covington: Kevin Rosen of Gibson, Dunn & Crutcher More

LONDON (Reuters) – Almost half of the companies most reliant on the commodities responsible for deforestation, and the financial firms that back them, have no policy to rein it in, a report on Wednesday said.Analysis by non-profit Global Canopy of 350 companies with the greatest exposure to palm oil, soy, beef, leather, timber and pulp and paper, and 150 banks and asset managers which lend to or invest in them, showed 201, or 40%, had no such policy.Its annual “Forest 500″ report comes just weeks after a global deal was struck by governments to protect biodiversity, and as policymakers in the European Union and Britain plan tougher rules to force companies to do more to stamp deforestation out. Global Canopy said 100 of the companies had a deforestation commitment in place for all of the commodities to which they were exposed, up from 99 last year, yet only half were checking to ensure the policies were being followed.A further 109 had no deforestation commitments in place for any of the commodities. Global Canopy defined such a policy as one where the company states it protects priority forests linked to commodities it uses or finances, or is certified by a credible scheme as being deforestation-free.While the number of companies pledging to get to net-zero carbon emissions by mid-century had grown five-fold in three years to 145, the lack of action on deforestation was hampering their ability to hit the target, the report said.”It is now universally accepted that ending tropical deforestation is pivotal to meeting vital global goals on both climate and nature,” said Niki Mardas, executive director of Global Canopy.”It is remarkable that while a great many of the companies in the Forest 500 have ambitious net zero targets, almost all of those risk missing them because of inaction on deforestation.” Ninety-two of the financial institutions most exposed to the companies also lacked such a policy, the report said, broadly unchanged from the prior year. More

OAKLAND, Calif. (Reuters) -Sandbox AQ, a startup spun off from Alphabet (NASDAQ:GOOGL) Inc last year, said on Tuesday it raised $500 million as it helps customers prepare for a quantum computing future.Quantum (NASDAQ:QMCO) computers, whose processors run based on quantum physics, could one day carry out certain calculations millions of times quicker than today’s fastest super computers, yet they remain years away from making a big change, such as breaking encryption. But as hackers can harvest data today and wait to decrypt them when the quantum computers are ready, the National Institute of Standards and Technology under the U.S. Commerce Department selected new cryptography standards last year that could better withstand quantum computers. The U.S. government has set quantum computing as one of the key technologies important for national security.Sandbox AQ’s software scans companies’ systems to identify which parts use the old cryptography, identifies which need to be replaced urgently, and sets out to fortify the encryption of the enterprise, said CEO Jack Hidary.”Right now you have a lot of banks and pharma companies and governments still using these old protocols,” said Hidary. “The average bank takes five to seven years to migrate over. … Now, hopefully they’ll do their important customer private information first.” Sandbox also has a business selling powerful simulation software to accelerate development of drugs and materials.The simulation does not currently need quantum computers to work, said Hidary. He said in the last 18 months chips that do artificial intelligence work have become powerful enough to run some of the math for quantum physics. When quantum computers are ready, that work would speed up even further.Sandbox AQ is also using existing types of sensors based on quantum physics. These have long been MRI machines, for instance, and Sandbox has created a prototype machine to monitor the heart. It can also be used to monitor slight local changes in the earth’s magnetic field, making navigation systems much more precise, he said.Last month Sandbox AQ said it won a contract with the U.S. Air Force to research these quantum navigation technologies Former Google Chief Executive Eric Schmidt is the startup’s chairman as well as investor. Other investors include Breyer Capital, T. Rowe Price funds and Salesforce.com Inc (NYSE:CRM) founder Marc Benioff’s TIME Ventures.Schmidt in a statement said Sandbox AQ has already signed up more than 15 enterprise and government customers and is partnering with 30 universities to train PhDs and other talent needed.Some of the team and inspiration for Sandbox originated at Alphabet in 2016. But the Google parent is not a shareholder as Hidary said he wanted the company to be independent to work with the other major cloud companies as well. More