(Will the Collapse In Energy Prices Grease a Cut In Rates Or the Introduction of QE?)
Just some tidying up and refocus on things besides China, Iran and the debt of ingratitude to the fracking revolution. Tomorrow at 9:00 a.m. CST the Bank of Canada announces its overnight interest rate. The bank rate in Canada is currently 0.5% and consensus is calling for a rate cut of 25 basis points to 0.25%. Other market participants are suggesting that BOC Governor Poloz will announce a large-scale asset purchase program (better known as QE). I doubt the BOC will change policy at this time even as the Canadian economy suffers from the severe drop in fossil fuel prices and other commodities.
As Poloz articulated in a speech in Ottawa at a BIS BREAKFAST SERIES January 7 (regarding monetary policy divergence): “It is very important that we understand the reasons for these policy divergences. On one level, they simply reflect actions taken by central banks tailored to their own economies. But the underlying forces acting on the global economy are powerful, slow-moving and affect various economies differently. This means that the theme of divergence – both financial and economic – is likely to remain with us for some time to come.”
The Canadian real-estate market has run hot for too long and even though Canadian banks are not of the sub-prime model lenders, Mr. Poloz will not wish to just continue to inflate property values. It would behoove the BOC Governor to wait to see what the newly elected Prime Minister Trudeau puts on offer from a fiscal stimulus perspective before racing down the monetary stimulus track that many other central banks have followed with no proven success (except for counter-factual arguments).
It is important to remember that Prime Minister Trudeau was a surprise victor in the 2015 election. His economic policy was based on the work of Lawrence Summers, who advised Trudeau to put forward an aggressive plan for fiscal stimulus. It would appear that with Summers’ advice Canada could be the showcase for battling against the onset of secular stagnation. The Canadian debt-to-GDP ratio is 56 percent, low by most G-20 members’ standards, so there is room for a very robust fiscal stimulus package. It would serve Governor Poloz well to wait until Ottawa tables a budget. In addition to fiscal stimulus the BOC has the power of a Canadian dollar that has tumbled 40 percent during the last three years. Canada does have a manufacturing and service sector that benefits from a cheaper currency by increasing exports of automobiles and service-oriented value adds. Governor Poloz, surprise the world and be financially responsible.
***We will always have Paris, or is it Rome, or maybe Athens? While all eyes have been on the Chinese, the Europeans are at each other’s throats over bank bailouts, refugees and IMF involvement in Greece. The banking situation in Italy is on the boil as several Italian financial institutions are choking on hundreds of billions in nonperforming loans (NPL). The ECB’s quantitative easing program had allowed interest rates to drop to levels where low financing costs have allowed some borrowers to remain afloat … barely. But under the new regulations from Brussels and Basel, the Italians are struggling to extend and pretend. The Italian bank stocks have been decimated as Prime Minister Renzi has yet to establish any type of BAD BANK policy so as to ring-fence the NPLs. The loans prevent the banks from lending as they struggle to rebuild their capital base. The Italians are benefiting from the ECB’s use of the German balance sheet, but Renzi has been aggressively attacking Berlin over its refugee policy and its continued insistence on fiscal rectitude. The sovereign bond market is so broken that the Italian 10-year note outperformed the German BUND as the ECB was MOST LIKELY buying sovereign debt to meet its monthly allotment. It’s crazy that the creditor performs with the miscreant borrower.
The Greek government is again locked in a battle with the IMF over the conditions of the third Greek bailout package. The IMF is pushing for tighter restrictions on fiscal stimulus as well as squeezing pension payouts. The Greek leaders seem to be hoping that the world does not need another “prairie fire” to set the entire financial system ablaze. Is the small amount of money that Greece needs worth a new round of contagion? Importantly, the Greek debt markets are reacting negatively as the Greek two-year note has climbed to 12%, sending the Greek 2/10 yield curve to an INVERTED 250 basis points. A month ago the Greek CURVE had fought its way to a positive slope for the first time in years. NOW IT SEEMS THE GREEKS MAY BE ON THE VERGE OF A NEW SOVEREIGN DEBT CRISIS. Oh well, never a dull moment in global macro.