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Investors Should Prepare for Worst, Hope for Best in US-China Talks


By    |   Wednesday, 26 June 2019 12:02 PM

Federal Reserve Chairman Jerome Powell explained on Tuesday all about the challenges that face the U.S. economy and the policies of the nation's central bank. 

Powell gave the Fed’s view on the path that the fed-funds rate probably could take in the future.

For investors, it’s important to take note of the fact that the Fed doesn't, at least for the moment, have the intention of lowering the fed-funds rate in an aggressive way as the financial markets have been suggesting for quite a while.

Powell said trade developments and concerns about the strength of global growth have “re-emerged” and are causing greater economic uncertainties.

In this context it might be helpful for investors to get a somewhat better view on where global trade could be heading. The CPB Netherlands Bureau for Economic Policy Analysis published its latest CPB World Trade Monitor that shows that the volume of world trade decreased 0.7 percent in April after having increased 0.8 percent in March while World industrial production decreased 0.8 percent April after having increased 0.9 percent in March. All data for the U.S. were significantly weaker in April compared to March.

That said, it shouldn’t be a surprise that Powell, in remarks Tuesday at the Council on Foreign Relations in New York, showed his concerns about the weak situation of the global economy.

The Fed’s own contacts in business and agriculture have recently reported heightened concerns about the trade developments. It’s logical that these concerns may have contributed to the drop in U.S. business confidence in some of the recent surveys and may be starting to show through in further incoming data.

For example, the CEIC shows that business confidence in the U.S. dropped by 13.2 percent year-on-year (y/y) in May, after decreasing of 10.2 percent y/y in April. When looking at all this, a legitimate question could be whether these uncertainties will continue to weigh on the U.S. economic outlook and thus call for additional Fed policy accommodation even while inflation remains subdued.

Nevertheless, it must be said that Powell didn't commit to a rate cut. He said the Fed will closely monitor incoming data and be prepared to act as appropriate to sustain economic expansion, adding that if you see weakness "it’s better to come in earlier rather than later, just as a general principle.”

Meanwhile, St. Louis Fed President James Bullard said in an interview to Bloomberg TV(that he gave before Powell’s remarks) that he would “favor” a 0.25 percent rate cut at the policy-setting Federal Open Market Committee (FOMC) meeting at the end of July. He said such a cut would be more of an “insurance” move, and this was all that was needed at this stage. Bullard last week dissented as the only FOMC member last week by favoring a 0.25 percent rate cut, Reuters reported.

In the meantime, U.S. bond markets now give a Fed rate cut of 0.25 percent a 74 percent probability while a 0.50 percent rate cut has a 24 percent probability at the July 30-31 FOMC meeting as shown by the Chicago Mercantile Exchange Group (CME).

Financial markets now also price in another 0.25 percent rate cut in September.

Commenting on the subject of the tariffs, Powell said that to the extent tariffs wind up being paid by the consumer, this represents a “one-time” increase in the price level, and that as long as inflation expectations remain anchored, this shouldn’t mean higher inflation going forward.

The real concern that the Fed has for now is more about a loss of investor confidence and the financial markets’ reaction to market shocks because those are really the bigger factors that can affect economic activity.

For his part, President Donald Trump told Fox Business Network that he left open the possibility of imposing additional tariffs on China if no agreement was reached at the G-20 summit.

“I would do additional tariffs, very substantial additional tariffs, if that doesn’t work, if we don’t make a deal,” Trump said, Reuters reported.

As a long-term investor, I wouldn’t expect global trade to change for the better at the G-20 summit. I would continue to prepare my portfolio for the worst while continuing to hope for the best…

Etienne "Hans" Parisis is a bank economist who has advised investors on financial markets and international investments.

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Investors Should Prepare for Worst, Hope for Best in US-China Talks
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Wednesday, 26 June 2019 12:02 PM
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