Sunday, April 22, 2018

The times are not a-changing

Donald Trump’s pick for chairman of the US Federal Reserve probably means more of the same from the world’s most important central bank — which may not be great news for insurance companies that would like to see higher yields from their investment portfolios.

Jay Powell, a Fed governor since 2011, is a lawyer by training and will be the first Fed chairman since Paul Volcker not to have a doctorate in economics. Seen as more of a pragmatist than a monetary policy wonk, he has been supportive of Janet Yellen, whose term expires on February 3, and her strategy of slowly raising interest rates to prevent economic growth from overheating. He is expected to continue steering the ship in broadly the same direction.

“US monetary policy normalisation has been and should continue to be gradual, as long as the US economy evolves roughly as expected,” Powell said in a speech in October. “The expectation of gradual policy normalisation should reduce the likelihood of outsized movements in interest rates.”

While most insurance companies would like higher interest rates, Yellen’s leadership of the Fed has been characterised by a cautious approach — whenever growth has appeared to be improving, the Fed has hiked rates. Today, inflation is stuck well below the target 2% and Yellen’s strategy has done little to contain the growth of stock prices.

More of the same is unlikely to help fixed-income portfolios, though short-term yields have been rising recently, perhaps in anticipation of a more hawkish monetary stance in the post-Yellen Fed. That remains to be seen.

This more-of-the-same recipe is also the theme in Asia’s two biggest economies after Japan re-elected Shinzo Abe as prime minister in October and China’s Communist Party re-appointed Xi Jinping as president.

Having already been re-elected in 2016, Abe called a snap election in September amid tensions with North Korea — and a brewing parliamentary scandal. Even so, Abe’s Liberal Democratic Party took more than two-thirds of the vote, theoretically granting him a stronger mandate to deliver on economic reforms that have long been promised.

But don’t hold your breath. Haruhiko Kuroda, governor of the Bank of Japan and the brains behind “Abenomics”, is optimistic that economic growth is improving and that a cautious approach is justified.

“Japan’s economy is expanding moderately, with a virtuous cycle from income to spending,” Kuroda said in the bank’s quarterly outlook report, which was published just after the election. Despite this, the BoJ said that it was keeping short-term interest rates at -0.1%, capping 10-year bond yields at (basically) zero and still pumping ¥80 trillion a year into the economy.

Over in China, the Communist Party’s 19th National Congress in October saw Xi reappointed for another five-year term, which would appear to have consolidated his power. Like Abe, he may now have the political capital to get more done, according to Magdalene Miller, China equities portfolio manager, Aberdeen Standard Investments.

“In Xi’s new term, there may be some breakthroughs in reforms that have stalled or been set aside over the past five years around state-owned enterprises, urbanisation, land rights and financial services,” she adds. “As global investors, we remain cautiously hopeful.”

The “Chinese dream” under Xi’s leadership is to create a “moderately affluent” society by 2020, which means doubling GDP and income compared to 2010, and to become a full-fledged global power by 2049 — in time for the centenary of the People’s Republic. To reach these goals, China will need to maintain growth rates of 6–7% in the coming years.

“A major political turnaround is unlikely,” according to Stefan Scheurer, an analyst at Allianz Global Investors. “Xi’s statements remind us of Deng Xiaoping’s maxim, ‘crossing the river while feeling for the stones’, and suggest that reforms will be gradual and target-oriented.”

All of this implies an economic outlook of glacial progress, at best, in all three of the world’s biggest economies. At worst, it reflects complacency about the need for stronger growth and braver policy.


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