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Opinion: Three alternatives to how the bottom forms
By Roger J Kerr
With 1-year swap rates trading at 5.10% and the FRA market pricing 6 and 9 months forward 90-day rates at 4.80%, there is certainly a confident expectation in the moneymarkets that the RBNZ will take the OCR to 5.00% and possibly even lower.
Have the markets become carried-away with what's happening around them with plummeting equity markets and global economies sliding into recession?
It all depends whether you believe that the monetary and fiscal stimulus measures various Governments and Central Banks have taken so far to prevent extended economic recessions/depressions will work or not? - and the timing thereof, in terms of the restoration of investor and consumer confidence.
I am in the camp that believes the stimulus packages will do the job, but the timing of some recovery is debatable. What I also firmly believe is that the New Zealand economy will recover to a positive GDP growth path in the second half of 2009 with export growth leading the way.
Bank forecasts of the OCR going to 4.00% and even lower are an over-reactionary response to short-term sharemarket volatility. The world economy is dislocated, but it is not fundamentally broken. It is only a question of time, in my view, before the monetary and fiscal stimulus now happening lifts consumer and investor confidence back up again from its depths of despair.
In these very uncertain times it is of course foolhardy and dangerous to be absolutely certain of your forward view of how the economy and interest rates will be behaving in 12 months time. What we can do is ascribe probability weightings to alternative/potential scenarios and adjust those percentage weightings as events unfold over coming months. In midst of the current plummeting interest rates to record low levels this may also seem a bit of a cop-out, but in 12 months time it will be worthwhile looking back to see how accurate the scenarios were.
Scenario 1: "The Short U"
Global financial/investment markets stabilise at current levels. By February/March 2009 there is evidence that the worst part of the economic tsunami is over and folk are forecasting an improvement in investor and consumer confidence.
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There is evidence that the fiscal/monetary stimuli are starting to work globally.
In New Zealand, our agricultural export commodity prices in NZD terms hold at record high levels and buying demand is improving.
The RBNZ forecast a return to positive GDP growth in the second half of 2009 and CPI inflation forecasts are well above 1.00%. Under this scenario the bottom of the interest rate downtrend is November 08 to February 09 with 90-day rates no lower than 5.00% and the yield curve has a positive upwards slope.
Probability weighting = 50%.
Scenario 2: "The Long U"
It takes longer for financial/investment markets to stabilise. Return of investor/consumer confidence does not emerge until much later in 2009 and further stimulus measures are necessary.
Our export commodity prices continue to fall but stabilise by mid-2009.
The RBNZ lower inflation forecasts to 1% and ease monetary conditions further to a 4.25%-4.50% OCR in early 2009.
Probability weighting = 30%.
Scenario 3: "The Ugly L"
This is the Armagedon scenario to satisfy the doomsayers who like to think it is the end of the world as we know it! Equity markets continue to fall at the same rate as recent months.
Economic depression sets in globally and the world enters a Japanese-type period of zero interest rates not being sufficient to entice anyone to take a risk.
Commodity prices defy their forward curves of higher prices and plumb new lows. The falling commodity prices are bad news for New Zealand dependent on an export-led recovery.
The RBNZ have to lower interest rates to 3.00% to combat a deflation scenario.
Probability weighting today = 20%, but likely to decline over coming weeks in my view.
---------------
*Roger J Kerr runs Asia Pacific Risk Management. He specialises in fixed interest securities and is a commentator on economics and markets. More commentary and useful information on fixed interest investing can be found at rogeradvice.com
11 Comments
from Chris martenson No money,
from Chris martenson
No money, no inflation - the role of money in the economy
Money and inflation: the evidence. Let me begin by looking at some of the historical
evidence. Chart 1, which extends the results of Candless and Weber (1995), shows the correlation between the growth of the monetary base and inflation over different time horizons for a large sample of 116 countries. Countries with faster growth rates of money experience higher inflation. It is clear from Chart 1 that the correlation between money growth and inflation is greater the longer is the time horizon over which both are measured. In the short run, the correlation between monetary growth and inflation is much less apparent. Understanding why this is so is at the heart of monetary economics and still poses
problems for economists trying to understand the impact of money on the economy. I shall return to this later. If history is a guide (and it is), then you can bet the farm that monetary inflation ALWAYS results in price inflation down the road.
If history is a guide (and it is), then you can bet the farm that monetary inflation ALWAYS results in price inflation down the road.
Here is a partial listing of countries that have been down this road.
Angola 1991-1999
Argentina 1981 - 1992
Belarus 1993 - 2008
Bolivia 1984 - 1986
Bosnia - Herzegovina 1992 - 1993
Brazil 1986 -1994
Chile 1971 - 1981
China 1948 - 1955
Georgia 1993 -1995
Germany 1919 -1923
Greece 1943 - 1953 At the high point prices doubled every 28 hours. Greek inflation reached a rate of 8.5 billion percent per month.
Hungry 1944 - 1946
Israel 1971 - 1985 (price controls instituted)
Japan 1934 - 1951
Nicaragua 1987 - 1990
Peru 1987 - 1991
Poland 1990 - 1994
Romania 1998 - 2006
Turkey 1990 - 2001
Ukraine 1992 - 1995
USA 1773 - not worth a Continental
Yugoslavia 1989 - 1994
Zaire 1989 - present (now the Congo)
Zimbabwe - 2000 to present. November of 2008 - inflation rate of 516 quintillion percent
Sorry for all the posting
Sorry for all the posting seem to have been on a roll the last few days.
http://www.telegraph.co.uk/news/worldnews/europe/germany/3511854/Germany...
I think the point worth
I think the point worth remembering is that this time we arent talking about one country printing moeny to get itself out of shit and failing.
This time its the whole global financial system - the whole world.
All of the global financial firms, everything connected.
Looking backwards is fine for a guide but the real point is, no-one knows how to get out of this one.
If you ascribe to the hardline camp you'd let everything fail that should fail and shorten the pain and reallocate capital to the more efficient and profitable sectors and companies. Only this time the size of the companies failing would plunge the globe into massive unemployment, depression and stagflation.
What do you do, what do you do punk?!
The prudent approach has got to be steady as she goes and try and minimise economic shocks that would plunge whole industries and countries into spiralling stagflation, unemployment and depression.
Glad I'm not a poliie this decade!
''In New Zealand, our agricultural
''In New Zealand, our agricultural export commodity prices in NZD terms hold at record high levels and buying demand is improving''.
Am I missing something here? In dairy butter and cheddar are just about holding up but skimmed milk and wholemilk have plunged. Forward commentary on all are negative according to this:
http://www.agridata.co.nz/news7.asp
And wool, wheat and beef have started downwards:
http://www.agri-fax.co.nz/
Globally the outlook for soft commodities has been dire. Care to source your comment???
"Looking backwards is fine for
"Looking backwards is fine for a guide but the real point is, no-one knows how to get out of this one."
I disagree...Its just noone is prepared to do what it takes at the early stages.
And again history reflects this.
Rather human nature rules, thu the powers to be know what has to be done, they will spend as much time as possible, saying the right things but in practice, protect their own self interest and spheres for as long as they can. It is only when this fails or they have put themselves in a position to survive, things like spending on infrastructure etc happens.
In NZ we have other issues, we cant just go build another damn, as we did in previous crisis there is legislation to go thru, creating further delays...RMA and such.
Also we still do not have the work force internally to do so....yet
On the other hand I have a gut feeling Key is not so much interested in his own self interest financially, but as he is seen in history...(more as a Savage or Fraser than a muldoon or shipley) which may well be fortunate if he can over come the bureaucracy and moves early.
Key is not stupid, he knows that to leave his make in history e has the greatest opportunity to make a name for himself...All the great PMs, US presidents are from times of crisis.
Fingers crossed... but I cannot see the "long U" being 12 months, rather quite a bit longer than that....Key already doubts an Apec prediction of 18 months is unrealistic and the ink isnt even dry.
As Mr T said when
As Mr T said when asked to predict the outcome of his fight with Rocky:
"My prediction: Pain..." (add menacing growl).
Predictions are pointless unless you are willing to understand what the problem is all about. 99% of economists and money managers don't wish to address this and are happy to carry on forecasting within their macroeconomic framework.
There are any number of people and sources who have predicted what has happened and plenty more who know why.
The blind continue to lead the blind.
Last year i said the global banking system had been de facto nationalised. That's a given now.
I also believe interest rates will go to zero in most places.
But until they get on top of the money supply and take its control out of the hands of banks nothing will change.
mmmm, history is great if
mmmm, history is great if the rules are the same this time round - which I humbly suggest they arent given the size and connectivity of the problem.
This is a long term macro problem, which will hopefully beget some long term reforms in the internal economy.
Heres hoping huh?!
I agree with raf, >>
I agree with raf, >> 99% of economists and money managers don't wish to address this and are happy to carry on forecasting within their macroeconomic framework<<
and add 99% of people are happy to forecast within their current frameworks.
I find it hard to
I find it hard to believe we are about to enter a deflationary period. Citi bank is just an example of that. Any withdrawals out of banks are now more or less guauranteed to be met by placing government money as and when it is required into the banks.
I dont see any evidence that food is falling in price. Milk is still relatively at historic highs and has gone up a little in the last two weeks. Wheat is down. But all of these values are much higher than they were in recent years. Meanwhile oil is down over 60% and interest rate costs are coming down. This all translates into ongoing good prices and lower costs for feedstuffs and production. If wages rise that reduces problems elsewhere in the economy.
New Zealand and the rest of the world still have very high food inflation.
Things are really not looking so bad for NZ. So far.
Roger, why would you assign
Roger, why would you assign a 50% probability to NZ keeping its central bank rate 500 basis points higher than the US & the UK, which have clearly telegraphed their intention to move to 0% & more than likely extend their intervention to longer maturities on the yield curve by buying 2, 5 & 10-year bonds?
Andrew, have a look at
Andrew,
have a look at http://www.chrismartenson.com/blog/fed-out-ammunition/9208
======= snippet =========
With an estimated $4 trillion in housing wealth and $9 trillion in stock-market wealth destroyed so far in the United States, there is little doubt that we are witnessing a classic debt-deflation bust at work, characterized by falling prices, frozen credit markets and plummeting asset values.
======= end snippet =========
There will be a bunch of americans who don't feel as wealthy as they used to and likely to pull their spending in. For example, tourism down, car sales down and so on...
Have a look at Japan from 1990. If its going to cost less to buy in a week/month/year, then there is an incentive to hold off buying.
My own feeling is that all Governments will do anything they can to avoid a debt-deflation.