Many of today’s inflation hawks attribute the current high levels of inflation to excessively loose economic policies — both fiscal and monetary. They point to the policies implemented at the onset of the pandemic when public health considerations precipitative forced shutdowns across many sectors of the economy. At that time, Congress passed a massive covid relief bill that directly defrayed business losses and supported consumer spending; and the Fed sharply ramped up its purchases of financial assets, keeping interest rates near zero and assuring ample liquidity to allow the recovery to gain traction. Would it really have been a better choice to have pursued policies that would have deferred these achievements until some more distant date? I tend to think not. I accept the current level of inflation as somewhat of the price that had to be paid to get America back to work. In any case, if you want to blame policy makers for being responsible for our current inflation, it’s only fair to credit those same people and institutions for precipitating the rapid pace of economic expansion that we’ve enjoyed for the last 6 quarters and counting, culminating with the recovery of virtually all the job losses from the pandemic and the lowest unemployment rate since immediately before the pandemic. Econ 101 teaches that contractionary fiscal and monetary policy can be used to tamp down inflation. In both policy venues, the conventional anti-inflationary remedy requires suppressing aggregate demand. Fiscal policy does so by reducing spending by the government sector and/or raising taxes to decrease discretionary incomes, fostering a lower pace of spending by both households and businesses. Tight monetary policy requires reducing the rate of monetary expansion, which precipitates higher interest rates; and those higher interest rates make borrowing more expensive, causing a cutback in spending activity. Those who blame current inflation rates on previously employed economic policies generally favor using both fiscal and monetary policy levers to address our current inflation difficulties. I’m on board with this orientation in connection with monetary policy, but I’m less enthusiastic about the shift of fiscal policy. I fear that the broad-brush fiscal policy designed to dampen aggregate demand may be unnecessary and even shortsighted. Monetary policy is a blunt tool that inherently chooses between directing its efforts to either (a) encourage faster economic growth and lower unemployment or (b) fight inflation. Fiscal policy, on the other hand, isn’t so binary. While fiscal policy can certainly be used to counter inflation, it must be used in connection with other policy goals, as well, like insuring health, safety, and general welfare. Sometimes — like now — these various objectives may be somewhat in conflict; in which case objectives unrelated to inflation shouldn’t be entirely ignored. It’s also important to realize that while government spending is certainly a component of aggregate demand, over time, that same spending can also influence aggregate supply. Specifically, any spending that improves market efficiencies or encourages greater labor force participation stimulates aggregate supply along with aggregate demand. Categorically seeing such expenditures as inflationary is an overly simplistic assessment. Whether spending is inflationary or not may depend on the nature of the expenditures and the time horizon under consideration. Over time, the supply side effect could very well dominate relative to demand side effects in many types of government spending. The traditional economic policy remedy on the fiscal side fails to give appropriate weight to this consideration. Consider, for example, the various kinds of spending initiatives that had been suggested under the Build Back Better program, including funding to (a) maintain and improve traditional infrastructure, (b) expand broadband access, (c) lower health care costs, (d) encourage the transition to clean energy, and (e) offer support to families with pre-school age children. Categorizing all of these initiatives as inflationary is disingenuous. That’s hardly the case. Much of that spending would have directly lowered costs for American households or stimulated higher labor force participation in a host of newly created jobs. In any case, as originally conceived, all the expenditures under the Build Back Better bill were to be funded by higher taxes. By itself, that tax provision should have obviated the criticism that the bill was inflationary. The fact that the Build Back Better plan has failed shouldn’t preclude further efforts to pass a more scaled back version of it. Current circumstances relating to each of the bill’s component areas mentioned above are certainly not optimal; and failure to embark on any constructive action in any of these areas is indefensible. We can walk and chew gum at the same time. Monetary policy can bear the onus of bringing down inflation. Fiscal policy can be directed toward solving other problems.

A barrage of economic indicators out of Europe and America will put the spotlight on the euro and US dollar next week. The data could further reinforce the diverging paths of monetary policy between the Federal Reserve and European Central Bank. European traders will additionally be keeping a watch on the outcome of the French presidential election, while RBA policy could come under scrutiny too as Australia publishes quarterly CPI numbers. But it is the Bank of Japan that could attract the most attention as it is set to keep policy unchanged even as the yen plunges across FX markets.  

EU flash CPI (Apr) – 29/04 – despite an inflation rate that is already at a record high of 7.4%, the recent ECB meeting saw a slightly more dovish tilt from President Lagarde and the governing council. This came across as a bit of a surprise to a lot of people given the hawkish tilt seen in the March meeting. This stance has already started to shift, even as core prices remain over half of where headline CPI is at 2.9%. We’ve seen a raft of ECB policymakers become more vocal about a rate rise as soon as July, with Belgian ECB council member Pierre Wunsch and ECB vice President Luis de Guindos saying a July move is becoming more likely. These calls are likely to get louder if we are to take clues from the likes of UK and US core CPI, which initially lagged behind the headline rate, and now appear to be accelerating. The ECB appears to be underestimating this effect, although there is slightly more slack in the eurozone labour market, which means wage growth will lag more. Another hot number here, with a move to 7.6% will ramp up the pressure for a July rate hike even further. France election – 24/04 – it’s an important weekend for French politics as incumbent President Emmanuel Macron and Marine le Pen go head-to-head in the second round of the French Presidential election. Macron is still the favourite to prevail when push comes to shove, however for most voters the choice is about as appetising as a mouldy piece of bread, a global trend that appears to have affected politics worldwide. In 2017, Macron prevailed with over 60% of the vote, however on this occasion Le Pen appears to have closed the gap, mainly down to the fact that Macron has shown himself deaf to the concerns of the poorest members of French society. Much will depend on whether the anti-Macron vote coalesces into a shift of support for Le Pen, or whether French voters simply refuse to vote for either. This is likely to be the biggest risk for Macron, that voters don’t turn out and Le Pen squeaks through that way.  Bank of Japan rate decision (Apr) – 28/04 – the decline in the Japanese yen is likely to increase pressure on the Bank of Japan to be slightly more hawkish when it meets later this week. Since the end of last year, the Japanese yen has lost over 10% against the US dollar, which for a country is a net importer of commodities and energy in particular will exert huge upward pressure on inflation. The Bank of Japan has spent years trying to ignite the inflation genie out of its bottle with very little success. In March, headline CPI increased from 0.9% in February to 1.2%, however it is still below the levels of 1.5% seen in February 2018. With an inflation target of 2% the BOJ has only managed to briefly breach and/or hit that target in 2008, and for a few months in 2014 and 2015, when CPI peaked at 3.7% before dropping sharply. We could see a similar pattern play out here if commodity prices continue to surge and the yen continues to plunge. Germany/France/Italy and Spain Q1 GDP – 29/04 – the recent surge in energy prices, and commodity prices more broadly is expected to have a chilling effect on economic output in Q1, and that’s before we factor in the conflict in Ukraine. The German Bundesbank has already indicated that the German economy is set for recession due to the huge surge in energy prices, and if Russian oil and gas gets embargoed that effect is likely to be multiplied. The German economy was already in contraction at the end of last year, with this week’s preliminary Q1 GDP expected to come in at 0.2%, though we could conceivably see a negative number. The French economy is expected to slow from 0.7% in Q4 last year to 0.3%. The Italian economy is expected to slow sharply from 0.6% to 0.1% in Q1, and the Spain economy is expected to slow to 0.5%, down from 2.2% in Q4. US Core PCE (Mar) – 29/04 – recent comments from St. Louis Fed President James Bullard suggest that while it’s  not his base case he might look at considering a 75bps rate hike when the Federal Reserve meets next month. Markets are already pricing in the probability that we’ll see a 50bps move in the Fed funds rate, and appear to be relatively comfortable with that idea now. There has been little, if any indication that headline inflation is slowing given the recent CPI and PPI numbers which we saw in March. Given that the Core deflator is the Fed’s preferred measure of...

Equity markets remain directionless as earnings season ramps up. Bond yields rise again, hitting equity sentiment. Next week is when earnings season really kicks off. Another directionless week for equities as some initial enthusiasm was knocked on the head from firstly Netflix (NFLX) and then rising bond yields. Netflix found plenty of willing sellers but not too many willing subscribers. The stock did a Facebook and plummeted in a huge market cap fall. This marks the second quarter in a row that Netflix has managed such a collapse so investors are now growing increasingly nervous that the same fate awaits Facebook Meta (FB) next week. Tesla (TSLA) did manage to turn things around briefly on Thursday as it unveiled a strong set of results. Deliveries remained strong despite shutdowns in Giga Shanghai but many investors, including your author, were still surprised just how strong earnings were. Demand was never an issue for Tesla but supply so far is not holding it back. Demand in fact is so strong it is leading to inventories falling to just a few days for Tesla.  But taking a step back and looking at the broader picture it was once again the bond vigilantes that did the damage on Thursday. Tesla lost 3% from the open as equities turned lower on some more hawkish commentary from central bankers. Not too surprising you would think but bond markets still pushed the US 10-year close to 3% again and Nasdaq investors took fright and headed for the hills. Everyone appears to be sharing the below chart showing the long-term breakout for the 10-year yield so we may as well add it in but apologies if you are tired of seeing this one already. US 10 Year yield, monthly So back to earnings then, the main driver of stock markets in the short to medium term. Macro factors are the key longer-term determinant as they directly affect earnings but in the short term, earnings will have the key influence. Next week is set to be the big one with big tech up. We have Google, Microsoft, and Facebook. Only Apple and Amazon miss out. Once through those, we will have a clearer outlook on the path for the S&P and other indices for the quarter ahead. So far so good in terms of earnings with 77 companies in the S&P 500 reporting and 77% have beaten earnings estimates.  Sentiment Indicators Again nothing too dramatic here showing the choppy and range-bound market we are in.  Source: AAII.com Source: CNN.com SPY technical analysis Ok I know this is repetition but here too we are range-bound. $415 was the bullish double bottom that set up the contract rally, that, and some stretched positioning (everyone was short basically!). Now positioning is more neutral and the rally has played out. Since then stocks have found it hard to make significant gains as those bond market vigilantes just keep pushing rates higher. $428 is the next support to test and a break of that will bring us to $415 again. Third time may not be a charm. RSI and MFI also remain neutral and rangebound.  Earnings week ahead Source: Benzinga Pro Economic releases US GDP on Thursday and Chicago PMI on Friday are the highlights for the week.  The author is short Tesla

Daniel believes that China has issues besides Covid. Remember Evergrande. He believes Macron will win in France this weekend. He also sees a move by China against Taiwan soon.

Summary United States: Higher Mortgage Rates Begin to Bite The sharp rise in mortgage rates appears to be slowing residential activity. Existing home sales fell 2.7% during March. Housing starts inched up 0.3% during March. However, single-family starts declined 1.7% during the month and single-family permits dropped 4.8%. The NAHB index fell two points to 77 in April. The Leading Economic Index (LEI) expanded 0.3% in March, reflecting slower-but-still positive economic growth. Next week: Durable Goods (Tue), New Home Sales (Tue), GDP (Thu) International: China's Still Stumbling Economic Momentum China's economy started 2022 on a reasonable note as Q1 GDP rose 1.3% quarter-over-quarter, with manufacturing activity holding up quite well and services activity somewhat softer. However, March retail sales fell particularly sharply, while the ongoing impact of COVID lockdowns suggests April activity data could be even weaker. We forecast Chinese GDP growth of 4.9% for full-year 2022, but see the risk around that outlook as tilted to the downside. Next week: Australia CPI (Wed), Sweden Policy Rate (Thu), Eurozone CPI (Fri) Credit Market Insights: Student Loan Developments Are a Boost to Young Adult Balance Sheets On Tuesday, the Department of Education announced another policy designed to bring student loan borrowers closer to debt forgiveness and ease their ability to pay off debts, affecting an estimated 3.6 million borrowers. Topic of the Week: The Beige Book Paints a Clouded Outlook The Fed's Beige Book, released eight times per year, qualitatively reports on regional economic conditions. Although activity was generally solid over the survey period, this week's report underscores a growing sense of uncertainty about the economy's path in the coming months.