Economy

Today’s top storiesBig Tech shares fell after third-quarter earnings statements highlighted fears of a US economic slowdown. Google parent Alphabet reported an unexpectedly poor performance in its core search ads business, while Microsoft was likewise pessimistic about cloud computing.Gilt yields have returned to levels last seen before the UK’s “mini” Budget as investors welcomed Rishi Sunak’s confirmation as prime minister. Here’s the line-up of his new cabinet and a who’s who of his advisers.Russia conducted its first major nuclear drill since the start of its war in Ukraine, as Moscow made unfounded claims that Kyiv was seeking to develop a “dirty bomb”.For up-to-the-minute news updates, visit our live blogGood evening,Rising interest rates may herald a tough winter for mortgage-payers, but for Europe’s banks Christmas has come early in the form of booming third-quarter profits.Lenders make profits from the difference between the interest they charge on loans, which rises in line with central bank decisions, and what they pay customers for deposits, which currently lags behind rate increases as they have soared in recent months.Deutsche Bank, Germany’s largest lender, today reported its highest Q3 performance since before the financial crisis. It more than doubled pre-tax profits to €1.6bn, benefiting from frenetic fixed income and currency trading, as well as rising rates. There were higher profits too from Santander, the eurozone’s biggest lender, despite increasing damage from bad loans. Italy’s UniCredit also beat analysts’ forecasts.Barclays also benefited from soaring trading revenues that helped outweigh a rise in provisions for bad debts, leaving pre-tax profits up 6 per cent on last year. Standard Chartered’s profits surged 40 per cent to $1.4bn, while HSBC reported a rise to $6.5bn from $5.5bn.However, there is a cloud on the horizon: lenders could be hit by windfall taxes as stretched governments cast around for ways to fill their coffers.UK-based banks could be targeted in the Autumn Statement — now postponed until November 17 to allow time for input from new prime minister Rishi Sunak — where the government will outline how it plans to fill a fiscal black hole estimated at £30bn to £40bn.Opposition politicians are calling for similar treatment to that meted out to energy companies. “The public will find it hard to stomach banks raking in large profits whilst their mortgage bills spiral out of control,” said a Liberal Democrat spokesperson.In mainland Europe, Hungary has already introduced a windfall tax, while Spain has outlined proposals for a levy that, if passed in parliament, would come into force at the start of 2023 and last for two years. It would affect about 10 lenders, including its two largest banks, Santander and BBVA.Madrid’s move has put it on a potential collision course with Brussels, which will decide shortly whether it clashes with EU banking rules.The flurry of bank results comes just ahead of crucial rate-setting decisions by the European Central Bank tomorrow and the Bank of England on November 3. The ECB is likely to opt for a second consecutive increase of 0.75 percentage points, lifting the deposit rate to 1.5 per cent — the highest it has been since January 2009.Yet the BoE’s decision has become more complicated with the postponement of the government’s big announcement on tax and spending. Governor Andrew Bailey has said the central bank would be “flying blind” if it had to set interest rates before knowing the government’s budgetary plan.Need to know: UK and Europe economyOfficial data highlighted the soaring price of the cheapest UK grocery items. Making a bowl of tomato pasta is now 58 per cent more expensive than last year. Separate Office for National Statistics data showed that ethnic minorities were worst hit in Britain by the cost of living crisis.

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Turkey’s finance minister Nureddin Nebati defended his country’s economic ties with Russia as “good neighbourly relations” despite western concerns that the nation was providing a backdoor for Moscow to evade sanctions.Need to know: Global economyPakistan’s plea for “climate justice” after its recent disastrous floods has highlighted the issue of how the international community should help countries adapt to global warming.Should he win or lose Sunday’s presidential election run-off, Jair Bolsonaro, the “Trump of the Tropics”, has created what looks like a lasting rightwing movement, blending nationalism with US-style social conservatism and culture warfare. Check out our latest Big Read on the topic.Australia’s Labor government unveiled a “mini” Budget of “hard decisions for hard times”, including provisions for cheaper childcare and medicines as well as more paid parental leave. Prime Minister Anthony Albanese said the emphasis on stability was a “counterpoint” to the disastrous “mini” Budget of the UK.Need to know: businessLondon Heathrow, Europe’s biggest airport operator, warned that a cap on passengers might be needed over Christmas because of labour shortages. It also said travel demand would remain subdued for “a number of years”.Reckitt Benckiser became the latest consumer goods group to announce lower sales as the cost of living squeeze hits customers. The company has increased prices by almost 10 per cent in response to an “unprecedented” rise in its own costs. Meanwhile, shares in Heineken, Europe’s second-largest brewer, plunged after it missed forecasts on beer sales and warned of softening consumer demand.BASF, Europe’s largest chemicals group, said it would have to downsize “permanently” in Europe because of high energy costs.Investors are on the hunt for bargains in biotech, a sector that has been struggling to replicate its pandemic-era fundraising success.Brussels is targeting pharma and cosmetics groups with tighter rules on air and water pollution.The big US banks are making opposite bets on the outlook for emerging market equities after a big sell-off this year. Morgan Stanley sees opportunities for bargains, while Goldman Sachs has doubts about a possible recovery.The World of WorkA backlog of productions from the pandemic and a rise in commissioning from streaming services has led to a boom in film and TV production jobs, writes our careers columnist Jonathan Black.How should you deal with a narcissist as a boss? Get some tips in the new episode of our Working It podcast.Get the latest worldwide picture with our vaccine trackerSome good newsScientists in Japan have successfully generated hair follicles in the lab, offering new hope for the treatment of hair loss. There could be spin-off benefits too for drug screening and for alternatives to animal testing.

© Yuriko Nakao/Reuters More

Canada’s central bank is approaching the end of its monetary tightening cycle, its governor said on Wednesday as policymakers increased the benchmark interest rate by less than economists had expected. The Bank of Canada raised its key interest rate 0.50 percentage points to 3.75 per cent, taking it to its highest level since 2008. It was the sixth consecutive rate increase this year.Although Canada is one of the smaller G7 economies, it has moved more quickly to raise rates and is the only country to have implemented a 1 percentage point rate increase. As such, it is seen as something of a forerunner for other central banks that have raised rates aggressively this year and are now discussing when to slow down the pace of increases. Top officials at the US Federal Reserve have started to talk more openly about shifting to smaller rate rises, with economists forecasting a “downshift” as soon as December.Economists had expected Canada to implement a larger increase of 0.75 percentage points.At a press conference, BoC governor Tiff Macklem said there was more work to be done to damp persistent inflation in the country, adding: “This tightening phase will draw to a close,” he said. “We are getting closer, but we’re not there yet.”He said the BoC expects the “policy rate will need to increase further”, and that future decisions would depend on how the economy responds to the current interest rate environment. In a statement released alongside Wednesday’s rate increase, the central bank said Canada’s “economy continues to operate in excess demand” and that “labour markets remain tight”. The BoC said the effects of its rate increases have started to affect the economy, with real estate prices cooling and household spending softening. However, inflation remains persistent. Consumer prices rose 6.9 per cent on an annual basis in September, down from 8.1 per cent in June, a decline mostly driven by lower petrol prices. The BoC has set a 2 per cent inflation target that it expects to reach by the end of 2024.

“The bank’s preferred measures of core inflation are not yet showing meaningful evidence that underlying price pressures are easing,” the BoC said. Macklem said the BoC was trying to find a balance between not tightening enough and allowing inflation to become entrenched, or tightening too much, which could adversely effect the labour market and make it challenging for Canadians to pay off debts.“We are carefully assessing the effects of higher interest rates on economic activity and inflation,” he said.“With inflation so far above our target, we are particularly concerned about the upside risks,” he added later in a speech.Macklem said he expected economic growth would “stall in the next few quarters”, and in the second half of 2023 the economy would “grow solidly, and the benefits of low and predictable inflation will be restored”. More

The European Central Bank’s quarterly Bank Lending Survey this week failed to attract much attention, which is no surprise. Headline findings — that European lenders expect to tighten credit access this quarter as higher interest rates weigh on demand — were hardly shocking news.But take a dig through the details and it becomes obvious how rapidly credit conditions are deteriorating, which makes predicting one aspect of Thursday’s ECB meeting unusually tricky. Lending standards for European non-financial corporations have returned to peak eurozone-crisis levels, with Italian borrowers hardest hit. Mortgage lending and consumer credit are as tight as they were in 2008, led by a squeeze in Spain and Germany.

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Demand side’s no better. Corporate loan demand has been kept artificially high this year by slow supply chains and rising production costs. That effect now looks to be fading . . . 

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… while for households the crash in demand looks well advanced:

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The ECB lenders’ survey typically foreshadows downstream credit supply by about a year. The pace of withdrawal seen since June, when the ECB flagged the end of negative rates, “corroborates our view that the euro area is headed towards a sharp recession”, said Barclays.

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Because lending standards vary between countries — shaped by employment markets and sovereign-bank relationships — the financial-industry response has been uneven. Lenders in Spain, Austria and Belgium have been tightening credit much more than those in the Netherlands, Ireland and France. Charts via Redburn:

A worsening macro environment with higher rates (hence refinancing challenges for borrowers) suggest a European bank cost of risk that’s more than double the 0.40 basis points currently assumed by the market, Redburn estimates. Doubling the cost of risk would move the sector’s valuation back to its long-term average of 10 times forward earnings, versus its ostensible bargain-basement level of 6x currently. Neither ratio deserves much attention as they’re just snapshots, not guides. Where cost-of-risk eventually peaks will depend largely on how much unemployment climbs. And at today’s prices, investors seem to be assuming it will rise by no more than a couple of percentage points.For that reason, it’s useful to take a granular view of European unemployment expectations. Employers in the Netherlands and France appear optimistic; those in eastern Europe, Italy, Germany and Belgium do not:

All of which can be put on a scatter plot:

We’re reminded often that in the average hiking cycle, the margin boost that banks get from rising interest rates tends to eclipse weaker loan growth. But a deeper recession also means banks have to work harder to obtain wholesale funding, around which there are already some signs of deterioration:

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Another thing to remember is that capital buffers reserves across the European banking sector are ridiculously fat:

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Nevertheless, signs of tighter wholesale funding are badly timed for the ECB, which needs to scale back its pandemic-era loan subsidy known as targeted longer term refinancing operations. Banks can borrow through the TLTRO almost for nothing then park their excess liquidity at the ECB’s overnight deposit facility, which pays 0.75 per cent at the moment. About €1.1tn of the €2.1tn in outstanding TLTRO loans have been used for ECB deposit arbitrage, Barclays estimates. Keeping the scheme in current form at higher rates would mean the ECB pays around €110bn to euro area banks over the next 12 months, for very little reason. But with two-thirds or thereabouts of TLTROs repayable in the first half of 2023, a full withdrawal would represent a cliff-edge risk for periphery economies in particular:

The ECB might reduce the attractiveness of TLTRO arbitrage by repricing outstanding loans to match its deposit rate. Or it might apply some kind of tiering threshold on parked reserves. The simple way to approach tiering would be to exempt a percentage of TLTRO borrowing from deposit interest — but that might throttle liquidity in Italy and Spain, as well as creating very little incentive to pay loans back. A tricksier solution would be to avoid direct action, and use Swiss National Bank-style reverse-tiering, whereby deposit interest will no longer be paid on liquidity in excess of some arbitrary threshold. Overfunded banks would be encouraged to pay back their TLTROs to avoid the effective penalty, while underfunded ones would still have access to the carry trade. Here’s how that looks across the zone with the threshold set at 6 times minimum required reserves, and again at 25 times.

© Barclays

Too complicated? Too political? Right now, given everything, probably. So analysts expect nothing more this week than some light tweaking of the deposit terms and conditions. Here’s Barclays:We think the ECB is likely to intervene directly as reverse-tiering would carry a greater risk of impairing the transmission of monetary policy. With circa 65 per cent of TLTRO borrowing set to mature by June 2023, which will reduce the liquidity surplus, we think the least disruptive strategy for the ECB would be to simply wait. More

The most useful thing about the past few weeks, explains the perpetually narrative-hungry head of one global fund, has been the evaporation of doubt. The US and China, he believes, are now in a cold war; the pressure to pick a side is irresistibly mounting in Japan and South Korea; the corporate world must ditch the notion that this will all soon resolve itself without too much fuss.While his analysis still sits, for now, at the bleakest end of the scale, it does so with a growing stack of evidence that a two-bloc deglobalisation process is under way. On one reading of the abrupt sell-off in Chinese stocks since Monday, he is among a cohort of investors who do not need any more convincing that another notch of geopolitical discount is overdue. The big picture stuff can look quite ominous. The US Chips and Science Act, along with a decisive throttle back on physical and intellectual exports of cutting-edge semiconductor technology, create the distinct contours of a cold war battlefield. Some may decide they provide a template for handling other technologies or products in the future. The choreography of China’s Communist party congress, meanwhile, did not assert the permanence just of Xi Jinping’s leadership, but also of the sort of bloc mentality that cold war protagonists necessarily build to prepare for escalation. There are also more granular signs. On Wednesday, the huge chipmaker SK Hynix broke ranks among South Korean companies and admitted publicly that, despite the waivers in place for now, it might not always get away with the bloc-straddling game it and many other groups, particularly in South Korea and Japan, still hope to play. In a call with investors, the company’s chief marketing officer, Kevin Noh, said that it was making contingency plans for an “extreme situation” in which the restrictions enforced by Washington threatened the operation of Hynix’s huge memory-chip factory in China and obliged a reshoring back to Korea.So if it is indeed a cold war and a forced retreat from the economics-trump-geopolitics calculus of globalisation, as Gavekal analyst Louis-Vincent Gave argues in a paper this week, the question that naturally follows is how a reversal of that might be priced in. Despite some bumps along the way, the peace dividend has been reliably paying out for some decades now: if its days are genuinely numbered the readjustments could prove remarkably painful.In their early attempts to even begin to quantify that pain, at least in the comparatively narrow context of semiconductors, some investors have alighted on new research by Goldman Sachs. This estimates the total cost of ownership of a new, high-end semiconductor fab in the US versus its equivalent in Taiwan, South Korea or Singapore — this being the kind of relocation the chips act is intended to promote. Over 10 years, says Goldman in an assessment encompassing capital expenditure, labour, overheads and supply chain management comparisons, the cost would be 44 per cent higher in the US than in Taiwan.The chips act, argues Goldman in light of that calculation, should primarily be viewed in the context of US geopolitical strategy: the inferior economics make it difficult for Asian companies to expand their manufacturing footprint in the US, but a cold war might make it a necessity. The prohibitions on companies that receive funding under the chips act expanding high-end chip capacity in China add an even greater burden to each company’s investment dilemma.Still, this analysis is a long way from quantifying the risk. The premise of a cold war and of a swift progression into deglobalisation is not settled, and nor, for now, is the sense of any hard obligation on the corporate world to pick sides. Even the SK Hynix comments, for all their brave acknowledgment of the worst-case implications, were those of a company whose base case is that it will work out a way to carry on as a US-China straddler for now. Japanese companies appear even more relaxed about their future ability to avoid picking sides. Corporate advisers at Japan’s four biggest law firms, along with many of their largest global counterparts, say they have spent the past month attempting to convince the relevant parts of corporate Japan that there may be some acutely painful decisions ahead of them. The responses from Japanese companies, said lawyers, had been minimal.The problem, explains the Tokyo managing partner of one law firm, is that if you even whisper the phrase cold war, the companies have no choice but to hear that as the end of globalisation, in which they are far too [email protected] More

UK omnishambles; the BoJ’s “broken” monetary policy; a creaking Treasury market; China’s economic woes; EM debt crises. It was about time that we had an ominous European headline to collect the full set. The International Capital Markets Association has today sent this open letter to the European Central Bank to express finance industry fears over “rising dysfunction” in the eurozone repo and money markets. . . . The conditions can largely be attributed to a disequilibrium situation of excess liquidity in the Euro banking system and a scarcity of high-quality, liquid collateral. The resulting risks are accentuated by constraints on bank intermediation. While the environment of excess reserves and collateral scarcity has been the norm for a number of years, it has led to major market dislocations only on a limited number of occasions, notably certain year-end reporting periods and the COVID-induced turmoil of March-April 2020. However, as we enter a new phase of the monetary policy cycle, with the normalization of interest rates and associated market volatility, the potential for both the scale and frequency of such dislocations is likely to increase. The market focus and associated pricing for 2022 year-end is already indicating such concerns, as is the persistent widening of asset swap spreads of short-dated high-quality euro securities. For example, we have observed the 3-month Bubill-EURIBOR spread invert to around 60bp (reaching 100bp in early September), while the swap spread for the on-the-run Shatz has become ever more deeply inverted to around 110bp (having reached 120bp last month). Meanwhile, German General Collateral over year-end is implying a rate for the “turn” of between -10% and 12%, while the USDEUR FX Basis Swap is also implying a rate of around -14%. The recent September 2022 quarter-end, which saw the widest quarter-end dislocation between collateralized and uncollateralized rates since the introduction of the euro, has only added to these concerns. These pressures on short-term markets and collateral scarcity could be further accentuated by less favourable rates for the Targeted Long-Term Refinancing Operations or the introduction of reverse tiering to the ECB deposit facility. This extreme sensitivity to any changes in the liquidity-collateral equilibrium was highlighted at the start of the September 14 maintenance period when despite the ECB deposit rate being 75bp higher, repo rates actually tightened, with euro General Collateral trading around -0.30%.Basically, if we’ve got this right, the ECB’s QE programme created reserves to buy eurozone bonds, but banks are now swimming in reserves while the European financial system is struggling with a shortage of high-grade eurozone bonds to use as collateral. This is now gumming up financial plumbing in a worrying way — actually impeding the ECB’s attempts at tightening monetary policy in a firm but careful way — and the year-end could become a crunch point.ICMA wants the ECB to consider two measures introduced by the Federal Reserve and the Swiss National Bank as a way to ameliorate the “disequilibrium of excess liquidity and collateral scarcity”. These are: 1) The Fed’s Overnight Reserve Repurchase Facility, through which the New York Fed repos some of its Treasury holdings (selling them and agreeing to repurchase soon afterwards) to provide the system with extra collateral, soak up excess reserves and set a floor under short-term interest rates. 2) The SNB’s recent announcement that it would issue tradable Treasury bills. Of course, starting a eurozone bill issuance programme could be politically touchy, but ICMA reckons it would be less complex than a reverse repo programme and would also not further clog up bank balance sheets in the same way. Since ICMA is a finance industry lobbying body, the letter also includes some more general lobbying on behalf of banks to loosen their regulatory straitjacket — even though this is beyond the purview of the ECB.A further, and possibly complementary, consideration relates to the capacity for banks to intermediate in the euro repo and money markets (and potentially the bond and derivatives markets more broadly). While the euro repo and money markets function relatively well on the whole, there are clearly identifiable pressure points around bank reporting dates (primarily quarter-ends and year-ends), as well as during times of heightened volatility, both of which have direct impacts on bank balance sheets and available risk capital to support market intermediation. A targeted recalibration of the Leverage Ratio (such as for certain transactions counterparty types) or the ability to re-allocate capital buffers to supporting liquidity provision, particularly at such times, could contribute to both market stability and resilience. While such refinements to the regulatory capital framework are beyond the gift of the ECB, it may be something where its support and guidance could be helpful.FTAV has to admit that we hadn’t cottoned on to some of the issues raised by the letter, but we’re unsurprised that is causing problems. It’s actually been surprising how little breakage there has been from the abrupt shift in monetary policy, and the year-end is a traditional time for mulled wine, family and financial plumbing issues. But what do our readers think? Is this just industry moaning, or a new thing we should start to freak out about? More

BUENOS AIRES (Reuters) – Argentina’s lower house of Congress on Wednesday passed President Alberto Fernandez’s 2023 budget bill after a lengthy, overnight session marked by heated debates with the opposition that led the government to concede on some points.The greenlight came in a 180-22 vote in favor, with 49 abstentions, a breakthrough after the 2022 budget bill had been rejected by Congress last year due to disagreements between the center-left government and the opposition.The 2023 budget estimates Argentina’s economy will grow 2% next year, while the annual inflation rate was pegged at 60%. It still needs approval by the Senate. The budget expects GDP growth of 4% this year as consumer prices rise by nearly 95% at an annualized rate.The ruling Peronist coalition was forced to withdraw an article allowing the Executive branch to manage increases in taxes for the key agricultural sector. Argentina is the world’s No. 1 exporter of processed soy and No. 3 for corn.Congress also rejected an article that would force judges and prosecutors to pay income tax.”Many elements have been included, but there are topics that apparently were not fully understood by many lawmakers,” a Peronist lower house Deputy said. More

TOKYO (Reuters) – Japanese life insurers plan to buy more super-long government bonds, enticed by the highest yields since 2014.Nippon Life, Japan Post Insurance and Sumitomo Life are among the insurers that have detailed their investment plans for the rest of the fiscal year-ending April at briefings over the past several days.A common theme has been an intention to increase holdings of the longest-maturity JGBs, centered on the 30-year securities, which now offer “attractive” yields as well as being a safe haven from a long list of market uncertainties globally.Many insurers also plan to shift some money from currency-hedged holdings of foreign bonds into yen bonds, with hedging costs soaring. “There is now an attractiveness to Japanese government bonds,” while “the attractiveness of hedged foreign bonds is waning,” a Japan Post Insurance representative told a briefing on Friday. “We have already been shifting from hedged foreign bonds into JGBs, and we will continue to do so.” Yields on 30-year JGBs soared as high as 1.685% on Thursday for the first time since September 2014, while the 20-year yield reached the highest since February 2015 at 1.315%. Both fell back as investors scooped up the discounted debt.Yields came under further downward pressure on Wednesday amid a decline in U.S. yields and as the Bank of Japan bought additional bonds ahead of a two-day policy-setting meeting that begins Thursday.The 30-year bond last yielded 1.54% with the 20-year at 1.18%.”Anything above 1.5% and we can consider additional investment” in 30-year JGBs, said a representative from Sumitomo Life at a briefing on Tuesday.Nippon Life is being more cautious.”It’s true that it’s the easiest environment to invest for the past several years,” a representative of the company, also known as Nissay, said on Monday. “Because yields are at 1.5%, if the question is whether we can now buy actively, we’re still a long way from that point.” More

LONDON (Reuters) -Forcing banks across the European Union to offer instant payments in euros is a “seismic” shift to make the economy more efficient and reap savings for businesses and customers, the bloc’s financial services chief said on Wednesday.European Commissioner Mairead McGuinness proposed a draft EU law that will require banks across the 27-country union to offer and receive “instant payment” (IP) services for a fee that is the same or lower than they charge for traditional credit transfers.Currently, some banks charge far more for an IP transfer, up to 30 euros ($30) in some cases, compared with traditional transfers.”Moving from ‘next day’ transfers to ’10 seconds’ transfers is seismic and comparable to the move from mail to e-mail,” McGuinness said in a statement, adding that delays in transfers tie up 200 billion euros in transit daily.Instant payments have been rolled out in many parts of the world, including the EU, but voluntary take-up in the bloc has flatlined, with only two-thirds of banks offering IP which accounts for only about 13% of all credit transactions.U.S. duo Visa (NYSE:V) and Mastercard (NYSE:MA) dominate cross-border card payments, and Brussels hopes that IP, combined with reforms such as “open banking”, or fintechs using a customer’s bank data to offer a range of services, will boost competition.IP is part of helping wider reforms, such as the anticipated digital euro.”We want to extend euro instant payments internationally at a later stage,” European Commission executive vice president Valdis Dombrovskis told reporters.”By mandating instant payments, the biggest blockers to open banking payments becoming mainstream are instantly solved,” said Tom Greenwood, CEO of instant payments gateway Volt. IP allows people to receive and make instant payments 24/7, critical if payday falls on a weekend, and for businesses to manage their cash flows by receiving funds instantly after a sale.’ENDANGER SAFETY’Once in force, the proposed law, which needs approval from EU states and the European Parliament, would require euro area banks to receive euro IPs within six months, and ability to send euro IPs within a year, with banks elsewhere in the EU given 24 months to offer euro IP services.Payments Europe, which represents card firms, said markets should decide on pricing IP transactions, and the six-month compliance deadline is “too narrow and could endanger the safety and security of transactions”.”This will increase competition in payment services and provide consumers and merchants an additional, efficient and lower-cost choice in paying for goods and services both in store and online,” said Christel Delberghe, director general of EuroCommerce, which represents the retail and wholesale sector.Banks will have to screen daily their IP customers against the most updated EU sanctions list, which has expanded since Russia’s invasion of Ukraine.Currently, non-bank payment firms are excluded as they don’t have direct access to payment systems, but Brussels plans to revise its rules to allow them to compete alongside banks in IP payments, an EU source said.($1 = 0.9983 euros) More