Friday, July 8, 2022

Weekly Commentary: Revisiting the Bursting China Bubble

The late-nineties U.S. “tech” Bubble was financed, at the margin, by high-yield debt (telecom, in particular), speculative hedge fund levered finance, and GSE liquidity. The Bubble was reasonably well contained within the technology, telecom and media sectors. Importantly, since the Bubble was not systemic, the system readily responded to Fed reflationary measures. It helped tremendously that housing and mortgage finance were, even in the midst of the bursting tech Bubble, demonstrating powerful inflationary biases.

The resulting mortgage finance Bubble was more systemic. This historic Bubble was - at the margin - financed by perceived safe and liquid (money-like) “AAA” mortgage securities and derivatives (too much acquired for leveraged speculation). This critical dynamic ensured the Bubble period was more prolonged, excesses broader and deeper, and associated financial and economic structural impairment much greater. Accordingly, the subsequent U.S. bust was deeply systemic.

Post-2008 crisis reflationary measures were unprecedented on a global basis. It’s worth noting that while the so-called “great financial crisis” (GFC) was global, it was not in the true sense of the term “systemic.” Importantly, China and EM (generally) were at the time of the crisis demonstrating strong inflationary biases (i.e. vigorous Credit growth, asset inflation, speculative impulses, economic momentum, etc.). Beijing moved aggressively with a $600 billion stimulus program, as China and the developing world provided the key “economic locomotive” driving global recovery.

The current backdrop is unique. The global Bubble period was unprecedented in scope and duration. Bubble Dynamics went to the foundation of global “money” – central bank Credit and government debt. This provided unparalleled durability to Bubble Dynamics, where years of the most egregious excess (i.e. monetary, fiscal, leveraged speculation, Bubbles, manias, mal-investment, etc.) wreaked historic financial and economic structural maladjustment. Bubble excess could not have been more systemic on a global basis.

The world is these days literally confronting scores of Bubbles, some bursting and others at the cusp. This creates significant analytical challenges. There is the complex “Periphery to Core” dynamic. There are also faltering Bubble sequencing issues, along with a dispersion of policy responses. And speculative dynamics have never before played such a pivotal role in global liquidity dynamics. In short, as we’ve witnessed in recent weeks, many independent yet interrelated Bubbles create extraordinarily complex (and erratic) global dynamics.

Acute China Bubble fragility last year was a key dynamic working to sustain ultra-low global bond yields (thus elsewhere extending “Terminal Phase Bubble Excess”) even in the face of intensifying inflationary pressures. Recall that Chinese Crisis Dynamics began with the Huarong eruption in April 2021. While Beijing stuck a band aid on Huarong (recapitalization), the blood would soon be spurting from numerous wounds. Below 14% in May 2021, Evergrande yields would surpass 75% by mid-October. It was not long before “isolated” developer issues turned anything but: Shimao, Lonfor, Sunac, Kaisa, Fantasia, Sunshine 100, Greenland, Modern Land, China Properties Group, Xinyuan Real Estate, Powerlong, Zhongliang, Zhenro Properties…

July 4 – CNN (Laura He): “Another major Chinese developer has defaulted on its debt, dealing a new blow to the ailing real estate sector in the world's second largest economy. Shanghai-based Shimao Group failed to pay the interest and principal on a $1 billion bond due Sunday… On Friday, a survey by China Index Academy — a property research firm — showed that prices for new homes in 100 cities plunged more than 40% in the first half of this year, compared with the same period last year.”

The Chinese developer crisis is old news. Beijing, of course, has everything under control. Indeed, global markets were bolstered again this week by reports of additional stimulus measures.

July 7 – Bloomberg (Jana Randow and Alessandra Migliaccio): “China’s Ministry of Finance is considering allowing local governments to sell 1.5 trillion yuan ($220bn) of special bonds in the second half of this year, an unprecedented acceleration of infrastructure funding aimed at shoring up the country’s beleaguered economy. The bond sales would be brought forward from next year’s quota, according to people familiar… It would mark the first time the issuance has been fast-tracked in this way, underscoring growing concerns in Beijing over the dire state of the world’s second-largest economy.”

The bottom line is that the situation in China continues to deteriorate despite massive Beijing stimulus. Understandably, Chinese officials are turning panicky. While some economic indicators reflect an uptick in economic activity from pent-up Zero-Covid demand, there is little to indicate the type of bounce back in confidence necessary to power a sustainable recovery. Indeed, evidence supports the view that the housing downturn is becoming only more deeply entrenched.

July 6 – Bloomberg (Chris Anstey): “Charlene Chu, famed among China watchers for warning about a debt bubble when at Fitch Ratings, says that pain is only just beginning for credit extended to Chinese property. In the wake of Beijing’s sweeping crackdown on leverage built up in real estate, China Evergrande Group and others have defaulted on a slew of bonds. Chu, a senior analyst at Autonomous Research…, estimated that ‘we have 30 companies who’ve defaulted with total liabilities of around $1 trillion…’ ‘We’re just so early in this process of these defaults happening, and restructurings usually take quite a long time,’ said Chu… ‘We haven’t really gotten to the point of saying, ‘OK, well, what really is going to happen with that building?’”

Indicators point to broadening Chinese Credit instability. Curiously, Huarong CDS was up another 64 bps this week, with a two-week surge of 202 bps – to the high since October 2021. Vanke CDS jumped 105 in two weeks (45 bps this week) to 372 bps. One of China’s largest and financially stable developers, Vanke CDS traded below 100 bps in September. Meanwhile, Country Garden, China’s largest developer, saw bond yields surge 255 bps this week to 29.47%. Yields were up 950 bps over the past month, almost back to March spike highs. Sunac yields were up 517 bps this week, Lonfor 1,624 bps and Kaisa 530 bps.

The Bloomberg Chinese offshore ($) high-yield index surged 92 bps this week to 24.37%. The Bloomberg Asia (ex-Japan) High Yield Index yield jumped 31 bps to a record 16.42%, with a three-week gain of 231 bps. It’s worth noting that the yield on this index spiked to a crisis high of 13.35% during March 2020.

July 7 – Bloomberg (Rebecca Choong Wilkins): “A China Huarong Asset Management Co. perpetual dollar bond is set for its biggest drop since the company spooked investors about its financial health last year. The sudden plunge followed a steep drop the past week in an offshore perpetual note sold by smaller peer China Great Wall Asset Management Co. The company missed a June deadline to publish its 2021 annual report, renewing concerns over the health of the nation’s state-controlled bad-debt managers and echoing a similar delay by Huarong last year. ‘We are starting to see a contagion effect from Great Wall to the whole AMC space,’ said Nicholas Yap, head of Asia credit desk analysts at Nomura…”

Further evidencing heightened contagion, conglomerate Fosun International bond yields surged 650 bps this week to a record 24.74%. Yields are up almost 15 percentage points in four weeks.

July 2 – Financial Times (Edward White and Cheng Leng): “Chinese billionaire Guo Guangchang, whose global empire includes French resort group Club Med, Portugal’s biggest bank and the English football club Wolverhampton Wanderers, was among the last men standing. A decade ago, Guo’s Fosun along with conglomerates HNA, Dalian Wanda, CEFC and Anbang drove an explosion in offshore Chinese investment but most were undone after President Xi Jinping called time on the debt-fuelled acquisition spree. Guo survived the crackdown. But he is now back in the spotlight after a sudden sell-off in property bonds put scrutiny on a liquidity crunch and $40bn debts at his expansive conglomerate.”

There is ample evidence that China’s historic Bubble is in increasing peril. Things are really bad, but are almost certainly a lot worse than what we think. Most ominous of all, China’s Bubbles are faltering even with ongoing massive (double-digit) Credit growth.

July 5 – Bloomberg: “China’s debt will likely hit a record this year as the central bank tries to boost credit and shore up the struggling economy, according to a government-backed think tank. The overall leverage ratio -- total debt as a percentage of gross domestic product -- is projected to increase by 11.3 percentage points to around 275% this year, according to Zhang Xiaojing, director of the National Institution for Finance and Development.”

Quietly, China’s deteriorating Credit backdrop has been a key factor in recent sharp reversals in global commodities prices and bond yields. And I believe the world would today be panicky of the unfolding Chinese crisis, if not for two key elements. First, especially in the current fraught geopolitical backdrop, Beijing will stop at nothing to ensure China remains on a growth trajectory. Second, China’s massive international reserve hoard ensures Beijing retains the firepower to thwart the type of currency crisis that typically dooms EM Bubbles.

On the suddenly critical subject of reserves, China’s International Reserve holdings declined another $56.5 billion during June to $3.071 TN. Reserves are now down $179 billion y-t-d to the lowest level since they sank $46 billion in pandemic-period March 2020. Chinese Reserves have not suffered such a steep decline since the 2015/16 devaluation period. Reserves are being depleted as finance flows out of China, at least partially explained by speculative deleveraging. And with indications that Credit market de-risking/deleveraging has regained momentum, it would be reasonable to assume Credit stress accelerates as contagion gravitates to the vulnerable onshore market.

Bloomberg tallies a weekly index of total “World” International Reserve holdings. Having surged $1.285 TN over the preceding 16 months, World Reserves hit an all-time high $13.047 TN in February. In a dramatic change in trend, these Reserves have since plummeted $770 billion. They were down an unusually bulky $127 billion over the past week alone. Japanese Reserves have sunk $90 billion y-t-d. So far this year, reserves have declined $25 billion in South Korea and $26 billion in Brazil (through April). Hong Kong Reserves were down 10%, or $50 billion, since the November 2021 peak.

There have been other notable periods of EM international reserve drawdowns – 2009, 2015/2016, and 2018. But in each case a surge in global QE liquidity reflated vulnerable Bubbles, with finance flowing abundantly right back to EM. But today’s de-risking/deleveraging is different. It’s secular instead of cyclical. The inflationary backdrop precludes yet another massive round of Bubble-sustaining QE.

Global equities rallied this week. The S&P500 recovered 1.9%, with the Nasdaq100 surging 4.7%. Major European indices were up about 2%. Some financial conditions indicators posted notable reversals. U.S. High-yield Credit default swap (CDS) prices sank 61 bps in an extraordinary five-week period of volatility (up 59, up 44, down 47, up 48 and then down 61). Investment-grade CDS dropped 10 to 91 bps (up 10, up 8, down 6, up 7 and up 10). U.S. bank CDS reversed sharply lower, though the same cannot be said for European bank CDS.

The more positive mood received support from stronger-than-expected June payrolls data (plus 372,000). JOLTS (job openings) data also surprised to the upside (11.254 million). The Services PMI (52.7) and ISM Services Index (55.3) both beat forecasts.

By the end of the week, much of the recession talk had simmered down. Focus shifted to the Fed, with analysts quickly positing that a 75 bps hike was now locked in. But wasn’t the analytical community just last week explaining collapsing commodities prices and sinking bond yields as proof of imminent recession?

I’d caution those confident of another big Fed rate hike that the July 27th meeting is still 19 days into the future. While stocks rallied and some indicators suggested waning “risk off,” the forces of global de-risking/deleveraging were resilient. In what has become a key indicator to monitor, EM CDS this week traded to highs since May 2020 (up 7 on the week to 344bps). The euro broke sharply lower, with the week’s 2.2% decline boosting y-t-d losses versus the dollar to 10.5%. A weak (and increasingly disorderly) euro fuels additional dollar strength, which places only greater pressure on global leveraged speculation (levered EM “carry trades” in particular). Big EM CDS gains this week included Pakistan (80bps), Egypt (83), Sri Lanka (39), Kazakhstan (33), Guatemala (30), Kenya (15), Turkey (15), South Africa (13), and India (9).

At this point, I doubt the unfolding global liquidity crisis can be contained. And I wouldn’t be surprised if an intense bout of global de-risking/deleveraging erupts between now and the Fed meeting. Our central bank is now on a course of aggressive hikes until something breaks. Markets a week ago were approaching a breaking point, but, in a typical “critical juncture” dynamic, approached the edge of the abyss and recoiled.

In the past, this type of market reversal was in anticipation of a Fed crisis response. Yet we’re in a New Cycle. At least for now, the Fed is fixated on its inflation fight, rather than sustaining Bubbles. This ensures liquidity becomes an increasingly serious market issue. With liquidity evaporation ongoing, Crisis Dynamics readily apparent, and the central bank liquidity backstop MIA, the global leveraged speculating community will have no alternative than to continue de-risking and deleveraging.

All eyes on China Credit. Defenseless at the Periphery, EM remains in the crosshairs. Contagion means more “hot money” outflows, central bank reserve liquidations, and global liquidity destruction. Key sources of global liquidity have become incapacitated, with little prospect for recovery. The recent gravitation of Crisis Dynamics from the Periphery to the Core took a break this week. I expect this respite to the short-lived. From my perspective, there is too much focus on U.S. data (i.e. payrolls and CPI) and not enough attention paid to global liquidity dynamics.

For the Week:

The S&P500 rallied 1.9% (down 18.2% y-t-d), and the Dow increased 0.8% (down 13.8%). The Utilities fell 2.7% (down 3.0%). The Banks increased 0.4% (down 3.0%), and the Broker/Dealers jumped 3.4% (down 18.6%). The Transports advanced 0.8% (down 18.7%). The S&P 400 Midcaps recovered 1.1% (down 18.4%), and the small cap Russell 2000 rallied 2.4% (down 21.2%). The Nasdaq100 surged 4.7% (down 25.7%). The Semiconductors rallied 6.5% (down 33.7%). The Biotechs rose 3.4% (down 11.1%). With bullion down $65, the HUI gold index dropped 4.5% (down 16.3%).

Three-month Treasury bill rates ended the week at 1.85%. Two-year government yields surged 27 bps to 3.11% (up 238bps y-t-d). Five-year T-note yields jumped 25 bps to 3.13% (up 186bps). Ten-year Treasury yields rose 20 bps to 3.08% (up 157bps). Long bond yields gained 14 bps to 3.25% (up 135bps). Benchmark Fannie Mae MBS yields surged 26 bps to 4.51% (up 244bps).

Greek 10-year yields jumped 18 bps to 3.67% (up 236bps y-t-d). Ten-year Portuguese yields rose 15 bps to 2.42% (up 195bps). Italian 10-year yields surged 20 bps to 3.29% (up 212bps). Spain's 10-year yields gained 14 bps to 2.42% (up 185bps). German bund yields gained 11 bps to 1.35% (up 152bps). French yields increased eight bps to 1.88% (up 168bps). The French to German 10-year bond spread narrowed three to 53 bps. U.K. 10-year gilt yields rose 15 bps to 2.23% (up 126bps). U.K.'s FTSE equities index increased 0.4% (down 2.5% y-t-d).

Japan's Nikkei Equities Index rallied 2.2% (down 7.9% y-t-d). Japanese 10-year "JGB" yields increased one basis point to 0.24% (up 17bps y-t-d). France's CAC40 recovered 1.7% (down 15.7%). The German DAX equities index gained 1.6% (down 18.1%). Spain's IBEX 35 equities index declined 0.9% (down 7.0%). Italy's FTSE MIB index rallied 2.0% (down 20.4%). EM equities were mostly higher. Brazil's Bovespa index gained 1.3% (down 4.3%), while Mexico's Bolsa index slipped 0.5% (down 10.7%). South Korea's Kospi index recovered 2.0% (down 21.1%). India's Sensex equities index jumped 3.0% (down 6.5%). China's Shanghai Exchange Index declined 0.9% (down 7.8%). Turkey's Borsa Istanbul National 100 index dipped 0.4% (up 31.0%). Russia's MICEX equities index increased 0.7% (down 41.3%).

Investment-grade bond funds suffered outflows of $5.789 billion, while junk bond funds reported inflows of $889 million (from Lipper).

Federal Reserve Credit last week dropped $34.3bn to $8.855 TN. Fed Credit is down $45.5bn from the June 22nd peak. Over the past 147 weeks, Fed Credit expanded $5.129 TN, or 138%. Fed Credit inflated $6.044 Trillion, or 215%, over the past 504 weeks. Elsewhere, Fed holdings for foreign owners of Treasury, Agency Debt last week dropped $14.1bn to $3.377 TN. "Custody holdings" were down $152bn, or 4.3%, y-o-y.

Total money market fund assets jumped $26.5bn to $4.558 TN. Total money funds were up $47bn, or 1.0%, y-o-y.

Total Commercial Paper declined $4.9bn to $1.165 TN. CP was up $31bn, or 2.7%, over the past year.

Freddie Mac 30-year fixed mortgage rates dropped 40 bps to 5.30% (up 240bps y-o-y). Fifteen-year rates sank 38 bps to 4.45% (up 225bps). Five-year hybrid ARM rates fell 31 bps to 4.19% (up 167bps). Bankrate's survey of jumbo mortgage borrowing costs had 30-year fixed rates down nine bps to 5.69% (up 262bps).

Currency Watch:

For the week, the U.S. Dollar Index gained 0.9% to 107.01 (up 9.9% y-t-d). For the week on the upside, the Brazilian real increased 1.5%, the Australian dollar 0.7% and the New Zealand dollar 0.1%. On the downside, the South African rand declined 2.7%, the euro 2.2%, the Swiss franc 1.7%, the Swedish krona 1.7%, the Mexican peso 0.9%, the Norwegian krone 0.8%, the Japanese yen 0.7%, the British pound 0.5%, the Canadian dollar 0.4%, the South Korean won 0.2%, and the Singapore dollar 0.2%. The Chinese (onshore) renminbi increased 0.1% versus the dollar (down 5.06% y-t-d).

Commodities Watch:

The Bloomberg Commodities Index declined 1.0% (up 16.9% y-t-d). Spot Gold dropped 3.6% to $1,742 (down 4.7%). Silver fell 2.7% to $19.32 (down 17.1%). WTI crude dropped $3.62 to $104.79 (up 41%). Gasoline sank 6.0% (up 55%), while Natural Gas rallied 5.9% to $6.03 (up 62%). Copper fell 2.7% (down 21%). Wheat rallied 6.0% (up 16%), and Corn recovered 2.7% (up 5%). Bitcoin rallied $2,300, or 11.8%, this week to $21,900 (down 53%).

Market Instability Watch:

July 5 – Bloomberg (Michael MacKenzie and Garfield Reynolds): “The MOVE gauge of volatility has surged to its highest since the Covid crash of March 2020 as investors navigate conflicting cross-currents in the economic outlook. On the one side, there’s persistent inflation and the Federal Reserve’s commitment to aggressively tighten monetary policy to contain it, which has pushed yields higher this year amid the biggest selloff in at least half a century. On the other is the rising risk of a recession, which has been tugging yields downward at times when investors sell stocks and plow funds into Treasuries as a haven.”

July 6 – Bloomberg (Karl Lester M. Yap, Ruth Carson and Sydney Maki): “Emerging-market currencies are tumbling as the twin threats of rising US interest rates and a global recession send traders scurrying to the safety of the dollar. The MSCI Emerging Markets Currency Index dropped for a second day on Wednesday, extending this year’s slide to 4.5%, the biggest for such period ever. Losses in the developing world were led by the Russian ruble... Andean currencies also weakened, with the Colombian peso dropping to a fresh record against the dollar. The Philippine peso led declines in Asian trade, sliding to the lowest level in 17 years, while the South Korean won tumbled to the weakest since 2009.”

July 6 – Reuters (Rodrigo Campos): “Emerging markets suffered a fourth straight month of portfolio outflows in June, notching the longest losing streak in seven years, as recession fears and inflation rattled investors, data from the Institute of International Finance showed. June saw non-resident portfolio outflows of $4.0 billion…, which compared to outflows of $5.1 billion in May and a $55.8 billion inflow in June 2021.”

July 3 – Wall Street Journal (Laura Cooper): “Investment banks are facing big losses on leveraged buyouts they agreed to finance before markets soured, further chilling the outlook for deal activity… Sellers of newly issued buyout debt were receiving an average of 94.8 cents on the dollar as of June 23, down from 99.2 cents at the end of January, according to Leveraged Commentary & Data.”

July 6 – Bloomberg (Olivia Raimonde, Teresa Xie and Paula Seligson): “The amount that US leveraged loan issuers must repay in the next few years has grown fast, a daunting prospect for these junk-rated companies after interest rates surged so much and odds of a recession swelled. Loans maturing in two to three years make up 12% of the $1.4 trillion market, double the proportion in 2018, according to Barclays Plc credit strategists. Meanwhile, loans due in one to two years have jumped nearly threefold to 6.4%.”

July 5 – Bloomberg (Patrick Gillespie and Scott Squires): “Argentina’s global bonds fell the most since they were issued nearly two years ago after the country named left-leaning policy maker Silvina Batakis as its new economy minister. Sovereign dollar bonds dropped more than 3 cents on the dollar, with some notes dipping below 20 cents on the dollar. The country’s parallel exchange rate, known as the blue-chip swap, weakened as much as 15% before paring losses… Batakis, who was named Sunday night following Martin Guzman’s shock exit on Saturday, told a radio station… that Argentina must comply with its $44 billion agreement with the International Monetary Fund, but that changes to the key targets in the program will certainly change over time.”

July 3 – Bloomberg (Ishika Mookerjee and Marcus Wong): “Some of Asia’s biggest stock and bond markets outside China are seeing greater outflows than in previous market crises, and the process may just be getting underway. Global funds offloaded a net $40 billion of equities across seven regional markets last quarter, exceeding any three-month period characterized by systemic stresses since 2007. The steepest selling was in tech-heavy Taiwan and South Korea and energy-importing India, while foreign investors also made supersized outflows from Indonesian bonds.”

July 5 – Bloomberg (Matthew Burgess and Daisuke Sakai): “The rally in Treasuries is likely being skipped by some of their biggest backers -- Japanese investors. A combination of the recent bond rebound and the spiraling cost to hedge the volatile yen has wiped out the yield premium a Japanese investor once enjoyed from US debt. The yen-hedged yield on 10-year Treasuries collapsed to 0.24% Tuesday from almost 1.7% in April… Japanese investors hold the largest pile of Treasuries outside the U.S., over $1.2 trillion worth, but have been cutting their overseas bond exposure amid the global debt selloff.”

July 7 – Bloomberg (Chikako Mogi and Daisuke Sakai): “The Japanese exodus from the US bond market hit a record milestone in May as the world’s largest overseas holders of Treasuries balked at the surge in yields. Japanese investors sold US sovereign debt for a seventh straight month, the longest streak of outflows in data going back to 2005. Withdrawals totaled 326 billion yen ($2.4bn), down from 2.4 trillion yen in April…”

Bursting Bubble/Mania Watch:

July 3 – Wall Street Journal (Vicky Ge Huang): “It has been three weeks since crypto lender Celsius Network LLC took the drastic step of halting customers’ withdrawals. Many people are starting to wonder if they will ever see their money again… The crypto market is crashing, and the resulting credit crunch is pummeling small-time traders and big-name companies. At least four other crypto firms—Babel Finance, CoinFlex, Voyager Digital Ltd. and Finblox—have told customers that they can’t withdraw their money or capped the amount they can take out.”

July 4 – Financial Times (Adam Samson): “Vauld, a crypto lender backed by Coinbase and investor Peter Thiel, has halted withdrawals and trading on its platform as the credit crisis in the digital asset market intensifies. The company, which offered clients annualised returns of up to 40% to lend out their crypto tokens, said… clients had yanked almost $200mn from its platform in the past three weeks as high-profile failures ricochet through the industry. It had appointed advisers to look at all potential options, including a restructuring, Vauld said…”

July 6 – Reuters (Shivam Patel, Sinead Cruise and Tom Wilson): “U.S. crypto lender Voyager Digital said… it had filed for bankruptcy, becoming another casualty of a dramatic fall in prices that has shaken the cryptocurrency sector. Crypto lenders such as Voyager boomed in the COVID-19 pandemic, drawing depositors with high interest rates and easy access to loans rarely offered by traditional banks. However the recent slump in crypto markets - sparked by the downfall of two major tokens in May - has hurt lenders.”

July 7 – Bloomberg (Allyson Versprille): “The Federal Deposit Insurance Corporation… is looking into how bankrupt digital-asset firm Voyager Digital Ltd. marketed itself to customers, a spokesperson for the agency said. Voyager, the latest casualty of the turmoil in the crypto markets, has publicly said that any US dollars deposited with the firm are covered by FDIC insurance, thanks to its partnership with Metropolitan Commercial Bank.”

July 6 – Bloomberg (Yueqi Yang): “Genesis, one of the largest cryptocurrency brokerages for institutional investors, confirmed that it was exposed to bankrupt hedge fund Three Arrows Capital and had mitigated its losses. Genesis sold collateral and hedged its downside once Three Arrows failed to meet a margin call, Michael Moro, chief executive officer of Genesis, said…”

July 8 – Wall Street Journal (Kristin Broughton): “Companies in the market for deals are grappling with higher financing costs and lower valuations as inflation and an uncertain economic outlook threaten to weigh on mergers and acquisitions for the remainder of this year. Last year saw a record year for deal making, fueled by low interest rates and large cash piles. But companies are now facing headwinds when it comes to buying and selling businesses… During the first six months of the year, companies globally announced deals worth $2.17 trillion, down 21% from a year earlier, according to… Refinitiv.”

July 3 – Wall Street Journal (Charley Grant): “Wall Street’s latest deal-making boom began to weaken in 2022. The industry is bracing for the slowdown to drag into the second half of the year. The stimulus from governments and central bankers in response to the pandemic led to a swift recovery from a recession and ebullient capital markets… The result was a bonanza for Wall Street. Goldman Sachs... and Morgan Stanley booked record profits... Global merger and acquisition volumes approached $6 trillion last year, including a record $1.56 trillion in the third quarter, according to Dealogic… Investment-banking revenue fell 36% at Goldman Sachs and 37% at Morgan Stanley in the first quarter, and analysts expect similar declines for the full year. Citigroup Inc executive Andrew Morton said last month the bank is expecting a 50% to 55% drop in second-quarter investment-banking revenue.”

July 6 – Bloomberg (Elaine Chen): “Fortuitous investors who flocked to Cathie Wood’s flagship fund at the end of last week got in before a big rally. The $9.2 billion Ark Innovation ETF (ticker ARKK) saw a $323 million inflow Friday, the most since May… On the following trading day, the fund soared 9.1%, the biggest rally in two months.”

Russia/Ukraine War Watch:

July 6 – Wall Street Journal (Alan Cullison): “Russia’s steady advances in eastern Ukraine, relying on superior firepower and larger numbers of troops, are grinding down Ukraine’s military and setting the stage for a protracted war of attrition in which Kyiv needs more Western weapons and help training new soldiers to turn the tide. After early missteps, Russia has found tactics that are working. In the invasion’s opening phase, Moscow’s armies tried to make daring thrusts deep into Ukrainian territory. They largely failed and lost elite units in the process. Now, Russian forces are advancing by increments under the cover of artillery. Russia is massing ‘a very heavy concentration of artillery and armor in every square kilometer that we are unable to cope with,’ Oleksiy Danilov, secretary of Ukraine’s National Security and Defense Council, told The Wall Street Journal. ‘This is giving them the advantage.’”

July 7 – Associated Press: “With Russia’s military action in Ukraine in its fifth month, Russian President Vladimir Putin… warned Kyiv that it should quickly accept Moscow’s terms or brace for the worst, adding ominously that Russia has barely started its action. Speaking at a meeting with leaders of the Kremlin-controlled parliament, Putin accused Western allies of fueling the hostilities, charging that ‘the West wants to fight us until the last Ukrainian.’ ‘It’s a tragedy for the Ukrainian people, but it looks like it’s heading in that direction,’ he added. ‘Everybody should know that largely speaking, we haven’t even yet started anything in earnest,’ Putin said in a menacing note.”

Economic War/Iron Curtain Watch:

July 5 – Reuters (Ryan Woo): “China is willing to deepen cooperation with Russia within multilateral frameworks including the G20, Chinese Vice Foreign Minister Ma Zhaoxu told the Russian Ambassador to China, Andrey Denisov. China is also willing to strengthen strategic coordination with Russia and expand practical cooperation in various fields, Ma told Denisov in a meeting on Tuesday…”

July 6 – Bloomberg (Dan Murtaugh and Debjit Chakraborty): “Russia has pocketed $24 billion from selling energy to China and India in just three months following its invasion of Ukraine, showing how higher global prices are limiting efforts by the US and Europe to punish President Vladimir Putin. China spent $18.9 billion on Russian oil, gas and coal in the three months to the end of May, almost double the amount a year earlier… Meanwhile, India shelled out $5.1 billion in the same period, more than five times the value of a year ago. That’s an extra $13 billion in revenue from both countries compared to the same months in 2021.”

Russia/China/U.S. Watch:

July 7 – Bloomberg (Max Hunder and Simon Lewis): “Vladimir Putin… accused the West of decades of aggression towards Moscow and warned that if it wanted to attempt to beat Russia on the battlefield it was welcome to try, but this would bring tragedy for Ukraine. His remarks came as Russian Foreign Minister Sergei Lavrov prepared for a closed-door foreign minister's meeting at a G20 gathering in Indonesia… ‘We have heard many times that the West wants to fight us to the last Ukrainian. This is a tragedy for the Ukrainian people, but it seems that everything is heading towards this,’ Putin said in televised remarks to parliamentary leaders.”

July 7 – Reuters (Juby Babu): “The heads of MI5 and FBI warned of the growing long-term threat posed by China to UK and U.S. interests… MI5 Director General Ken McCallum said the service has already ‘more than doubled our previously-constrained effort against Chinese activity of concern,’ adding it was running seven times as many investigations as in 2018. FBI Director Christopher Wray said that the Chinese government ‘poses the biggest long-term threat’ to economic and national security, for the UK, the U.S. and allies in Europe and elsewhere. The Chinese government is trying to shape the world by interfering in our politics (and those of our allies, I should add),’ Wray said, saying Beijing had directly interfered in a Congressional election in New York this year…”

July 7 – Associated Press: “The United States is ‘the biggest threat to world peace, stability and development,’ China said Thursday, continuing its sharp rhetoric in response to U.S. accusations of Chinese spying and threats to the international order. Foreign Ministry spokesperson Zhao Lijian’s comments came a day after the head of the FBI and the leader of Britain’s domestic intelligence agency raised fresh alarms about the Chinese government, warning business leaders that Beijing is determined to steal their technology for competitive gain. The heightened tone comes ahead of a meeting… between U.S. Secretary of State Antony Blinken and Chinese Foreign Minister Wang Yi at the Group of 20 leading rich and developing nations’ ministers summit... ‘The relevant U.S. politician has been playing up the so-called China threat to smear and attack China,’ Zhao told reporters…”

July 7 – CNBC (Su-Lin Tan): “China and Russia have demonstrated ‘strong resilience and strategic determination’ in their relationship amid a volatile global landscape, Chinese Foreign Minister Wang Yi said… Wang met Russian Foreign Minister Sergei Lavrov… on the sidelines of the Group of 20 summit in Bali, Indonesia, said the Ministry of Foreign Affairs statement… Lavrov reinforced that Russia and China would uphold their commitment to act responsibly and look toward safeguarding the UN Charter. Russia-China relations should not be subject to ‘external interference’ as both countries pursue further cooperation, Lavrov said… Lavrov said Moscow is looking toward expanding further bilateral cooperation with China. According to the statement, Wang said many developing countries are looking to resist hegemony and unilateralism.”

July 8 – Bloomberg: “Leading nationalist figures in China tried to silence celebrations after the shooting of Shinzo Abe, the former Japanese leader who sparked controversy by urging to Japan to bolster its military. A social media account of China Central Television was filled with comments rejoicing in the attack that killed Abe. One Weibo post said it would be fitting if Abe atoned with his life for Japan’s invasion of China before World War II just a day after the 85th anniversary of the start of hostilities in 1937. That post got 210,000 likes. After Abe died, a post saying ‘Let the celebrations begin!’ got more than 150,000 likes within 30 minutes.”

July 6 – Bloomberg: “Russian authorities are pushing through a raft of new repressive measures against domestic opponents, expanding crackdowns on critics as the Kremlin’s war in Ukraine is in its fifth month. Legislators have approved new proposals to dramatically broaden treason statutes, as well as restrictions on ‘foreign agents,’ a legal category that’s been used widely against critics and independent journalists. Another new draft law would restrict the publication of any information deemed to be of use by ‘unfriendly countries’ in targeting sanctions. The moves all have strong Kremlin support.”

Inflation Watch:

July 2 – Wall Street Journal (Joseph De Avila): “As the price of food continues to climb with the Fourth of July approaching, Jayne Crucius had to decide whether she would grill her traditional beef tenderloin. When Ms. Crucius saw that a five-pound beef tenderloin would set her back about $135, she decided to skip it. Instead, she’s serving chicken and pork ribs at a Fourth of July party… The average cost of a summer cookout for 10 people this year is $69.68, a 17% increase from last year, according to a survey from the American Farm Bureau Federation…”

July 6 – Bloomberg (Martine Paris): “Sticker shock in the US car market is hitting new extremes, with some Americans now looking at higher monthly auto payments than what they typically pay in rent. A record share of new car shoppers are being saddled with monthly payments topping $1,000, according… Edmunds. That’s higher than the average cost of rent in 24 US metro areas on the Zumper National Rent Report… A new poll from Monmouth University showed 42% of Americans say they are struggling to remain where they are financially.”

July 4 – Reuters (Julie Gordon and Steve Scherer): “Consumer inflation expectations surged in Canada, hitting fresh highs in the short-term and up ‘significantly’ over the long-term, a Bank of Canada survey showed…, bolstering calls for a very rare 75 bps rate increase. ‘Consumers' expectations for inflation have risen, alongside concerns about prices for food, gas and rent,’ the central bank said… ‘Generally, people see inflation as being more pervasive now.’”

Biden Administration Watch:

July 8 – Reuters (David Brunnstrom): “U.S. Secretary of State Antony Blinken called the assassination of former Japanese Prime Minister Shinzo Abe on Friday ‘shocking’ and ‘profoundly disturbing,’ describing him as a leader of great vision and an extraordinary partner for the United States.”

July 8 – Associated Press: “China has demanded the U.S. cease military ‘collusion’ with Taiwan during a virtual meeting between the joint chiefs of staff from the two countries… Gen. Li Zuocheng told Gen. Mark Milley… China had ‘no room for compromise’ on issues affecting its ‘core interests,’ which include self-governing Taiwan, which Beijing claims as its own territory to be annexed by force if necessary. ‘China demands the U.S. ... cease reversing history, cease U.S.-Taiwan military collusion and avoid impacting China-U.S. ties and stability in the Taiwan Strait,’ Li said. The Chinese military would ‘resolutely safeguard national sovereignty and territorial integrity,’ he said. ‘If anyone creates a wanton provocation, they will be met with the firm counterattack from the Chinese people.’”

July 8 – Reuters (Yimou Lee and Martin Quin Pollard): “Chinese fighter jets crossed the median line of the sensitive Taiwan Strait on Friday in what the island's government slammed as a provocation, as a senior U.S. senator visited Taipei for a meeting with President Tsai Ing-wen that China condemned. China claims democratically-ruled Taiwan as its own territory and has ramped up military and political pressure to try and force the island to accept Chinese rule. Taiwan's Defence Ministry said the Chinese aircraft ‘intentionally crossed the median line of the strait in a provocative move, which has seriously damaged regional peace and stability’. It said Taiwan's air force ‘forcefully expelled’ the Chinese aircraft and deployed ground-to-air missiles to ‘monitor’ the situation.”

Federal Reserve Watch:

July 6 – Financial Times (Colby Smith): “Top Federal Reserve officials think entrenched inflation is a ‘significant risk’ to the US economy and fear tighter monetary policy will be needed if price growth exceeds their expectations, according to an account of their most recent meeting. The minutes of the US central bank’s June meeting… also showed that policymakers now support raising interest rates to the point at which economic activity is restrained, with the possibility that they could become ‘even more restrictive’ if warranted by the data. ‘Many participants judged that a significant risk now facing the committee was that elevated inflation could become entrenched if the public began to question the resolve of the committee to adjust the stance of policy as warranted,’ the minutes said.”

July 6 – Associated Press (Christopher Rugaber): “Federal Reserve officials were concerned at their meeting last month that consumers were increasingly anticipating higher inflation, and they signaled that much higher interest rates could be needed to restrain it. The policymakers also acknowledged, in minutes from their June 14-15 meeting…, that their rate hikes could weaken the economy. But they suggested that such steps were necessary to slow price increases back to the Fed’s 2% annual target. The officials agreed that the central bank needed to raise its benchmark interest rate to ‘restrictive’ levels that would slow the economy’s growth and ‘recognized that an even more restrictive stance could be appropriate’ if inflation persisted.”

July 7 – Bloomberg (Craig Torres and Steve Matthews): “Two of the Federal Reserve’s most hawkish policy makers backed raising interest rates another 75 bps this month to curb inflation, while playing down fears the US economy was headed for recession. Governor Christopher Waller and James Bullard, president of the St. Louis Fed, both stressed the need to get policy into restrictive territory to confront the hottest price pressures in 40 years, even if this meant slowing growth… ‘We need to move to a much more restrictive setting in terms of interest rates and policy, and we need to do that as quickly as possible,’ Waller said…”

U.S. Bubble Watch:

July 8 – CNBC (Jeff Cox): “Job growth accelerated at a much faster pace than expected in June, indicating that the main pillar of the U.S. economy remains strong despite pockets of weakness. Nonfarm payrolls increased 372,000 in the month, better than the 250,000 Dow Jones estimate and continuing what has been a strong year for job growth… The unemployment rate was 3.6%, unchanged from May and in line with estimates. An alternative measure of unemployment that includes discouraged workers and those holding part-time jobs for economic reasons fell sharply, dropping to 6.7% from 7.1%... Average hourly earnings increased 0.3% for the month and were up 5.1% from a year ago…”

July 6 – Wall Street Journal (Bryan Mena and Rina Torchinsky): “The U.S. labor market cooled but remained robust in the late spring as job openings fell, fewer people quit and layoffs rose… The Labor Department… said there were a seasonally adjusted 11.3 million job openings in May, a decline from an upwardly revised 11.7 million the prior month. That marked the second straight month of a decrease from a record high number of openings reached in March, but it was nearly double the 5.95 million people who were unemployed but looking for work in May. The number of times workers quit their jobs fell slightly to 4.3 million from the prior month, while the number of layoffs and discharges rose to 1.4 million in May from 1.2 million the prior month.”

July 7 – Reuters (Lucia Mutikani): “The number of Americans filing new claims for unemployment benefits unexpectedly rose last week and demand for labor is slowing, with layoffs surging to a 16-month high in June as aggressive monetary policy tightening from the Federal Reserve stokes recession fears. Initial claims for state unemployment benefits increased 4,000 to a seasonally adjusted 235,000 for the week ended July 2…”

July 6 – Reuters (Lucia Mutikani): “U.S. job openings fell less than expected in May, pointing to a still tight labor market that could keep the Federal Reserve on an aggressive monetary policy path… Job openings dropped 427,000 to 11.3 million on the last day of May, the Labor Department said in its Job Openings and Labor Turnover Survey (JOLTS) report. It was the second straight monthly decline after openings hit a record high of 11.9 million in March. May was the sixth straight month of vacancies in excess of 11 million.”

July 7 – Reuters (Lucia Mutikani): “The U.S. trade deficit narrowed in May as slowing domestic demand amid rising interest rates curbed imports, which could see trade contributing to economic growth in the second quarter after being a drag for nearly two years. The… trade deficit declined 1.3% to $85.5 billion. Imports of goods and services rose 0.6%, which was offset by a 1.2% increase in exports to a record high. Imports of goods rose 0.1%, while services scaled a record high. Goods exports shot up 1.7% to an all-time. Exports of services were also the highest on record.”

July 6 – Reuters (Lucia Mutikani): “The U.S. services industry slowed less than expected in June, but a measure of services employment dropped to a two-year low… The Institute for Supply Management said… its non-manufacturing activity index slipped to 55.3 last month from a reading of 55.9 in May. The third straight monthly decline pushed the index to its lowest level since May 2020… The ISM's measure of new orders received by services businesses fell to a still-high reading of 55.6 last month from 57.6 in May. Businesses reported a surge in order backlogs, while exports continued to grow.”

July 5 – Reuters: “New orders for U.S.-manufactured goods increased more than expected in May, bucking a slew of recent data showing a softening in the economy and underscoring that demand for products remains strong even as the Federal Reserve aggressively tightens financial conditions… Factory orders rose 1.6% in May after advancing 0.7% in April…”

July 7 – Bloomberg (John Gittelsohn): “San Francisco, one of the most-expensive US cities for housing, is starting to see prices fall for the first time since the depths of the pandemic. The median house price in the city dropped 3% from a year earlier to $1.89 million in June, according to… Compass Inc., after cresting above a record $2 million in the previous three months. The latest price was still 20% above the level in March 2020… ‘It’s probable, though not yet certain, that one of the longest, most dramatic real estate market upcycles in history — oddly enough, supercharged by a deadly, worldwide pandemic — peaked this past spring,’ Patrick Carlisle, San Francisco Bay area market analyst for Compass, wrote…”

July 6 – Bloomberg (Paulina Cachero): “Rental markets in some of the hottest US cities are showing early signs of cooling down. After surging 11.4% over the past 12 months, the median national rent for a one-bedroom apartment rose just 0.5% in June compared to a month earlier, while the median two-bedroom rent fell 2.9%, according to… Zumper. The decline in prices for two-bedrooms is the ‘most significant drop we’ve seen since pre-pandemic times,’ according to Crystal Chen… for Zumper. ‘Renters are sending a clear message to property owners that they’re not able to pay sky-high rents, and they anticipate a recession.’”

July 2 – NPR (Brittany Cronin): “Cars have long had their own special place in America. The wide open roads, the wind in your hair, the feeling of freedom when you drive. Cars have been celebrated in movies and eternalized in songs for evoking all that. And right now, that feeling of freedom comes with a pretty hefty price tag. The average monthly car payment crossed $700 a month earlier this year, the highest on record, according to Cox Automotive/Moody’s Analytics. ‘I joke with people that every new car purchase is a luxury car purchase, I don’t care what you're buying,’ says Ivan Drury, senior manager of insights at the car buying expert Edmunds.”

July 6 – Bloomberg (Claire Ballentine and Ella Ceron): “Households already squeezed by inflation could soon face another financial blow: the resumption of student loan payments. Federal student debt payments were first frozen in March 2020 as part of a broad stimulus effort meant to protect Americans from the worst of the pandemic economic slump… Now, the latest forbearance period is set to end Aug. 31 as prices surge for gas, groceries and rent… ‘People just don't have enough money,’ said Thomas Gokey, co-founder of the Debt Collective… ‘If they restart payments, whether it's in August, whether it's after the midterms, there will be mass defaults because people simply cannot pay.’”

July 4 – Associated Press (Mae Anderson): “The rent has come due for America’s small businesses and at a very inopportune time. Landlords were lenient about rent payments during the first two years of the pandemic. Now, many are asking for back rent, and some are raising the current rent as well. Meanwhile, most of the government aid programs that helped small businesses get through the pandemic have ended while inflation has sharply pushed up the cost of supplies, shipping, and labor… Thirty-three percent of all U.S. small businesses could not pay their May rent in full and on time, up from 28% in April, according to a survey from Alignable… And 52% said rent has increased over the past six months.”

July 6 – CNBC (Robert Frank): “Sales contracts for Manhattan apartments plunged by nearly a third in June as the city’s scorching real estate market started to cool amid recession fears and declining stocks. New York real estate was on a tear through the early spring... The median sales price for the second quarter rose to a record $1.25 million, according to… Miller Samuel and Douglas Elliman. The number of sales — at over 3,800 — was the highest total for the second quarter since the housing boom of 2007.”

July 6 – Wall Street Journal (James Mackintosh): “One of the biggest threats to markets fails a basic sanity check. The threat is that households are the most depressed they have been since the University of Michigan began its long-running Consumer Sentiment index in the 1950s. When consumers are worried about their finances and the economy, the danger is a self-fulfilling cut in spending that brings on a recession. The sanity check: Really? Worse than when lines of cars waited for hours for fuel in a deep recession in 1974, if it was even available? Worse than when unemployment was almost double the current level and inflation in double digits in 1980, with interest rates at 14.5%? Worse than after the 9/11 attacks, or when the global banking system was on the brink of failure in 2008?”

Fixed-Income Bubble Watch:

July 6 – Bloomberg (Shruti Date Singh): “High-yield issuance across the $4 trillion municipal-bond world is set to plunge to as low as an estimated $20 billion thanks to the enduring selloff engulfing riskier debt markets. With benchmark interest rates rising, refinancing costs for risky municipal borrowers are on the upswing while investors are favoring borrowers with higher credit ratings… New borrowings from the sector will decline to around $33 billion in 2022, the lowest since at least 2017, with full or partial bond refinancings dropping almost 54%, according to… Municipal Market Analytics…”

China Watch:

July 6 – Bloomberg: “Signs are mounting that China’s economy shrank in the second quarter for the first time since 2020, placing the nation’s official statistics under fresh scrutiny as analysts bet the government will avoid acknowledging that slump. The consensus forecast from economists in a Bloomberg survey is that the government will next week report gross domestic product grew about 1.5% in the second quarter... Yet high-frequency data for June and losses in the previous two months suggest the economy contracted over that period due to the lingering effects of lockdowns in dozens of cities… ‘There is no plausible story that GDP growth should be positive in the second quarter,’ said Logan Wright, head of China markets research at Rhodium Group. ‘The downturn in household consumption is very significant within both the official retail sales data and other proxies. And the property sector remains a significant drag.’”

July 6 – Bloomberg: “China’s central bank looks set to withdraw cash from the financial system in a sign that it’s moving toward normalizing monetary policy as major global peers are forcefully raising interest rates. The People’s Bank of China slashed its daily short-term liquidity operation to 3 billion yuan ($447 million) this week, the smallest amount since January 2021… ‘The PBOC is shifting its monetary policy from a crisis mode to a normalization,’ Ming Ming, chief economist at Citic Securities, wrote…”

July 7 – Bloomberg: “Chinese Premier Li Keqiang urged local government officials from five coastal regions to introduce more pro-growth measures while saying the economy’s recovery remains fragile. The places represented, all economic powerhouses and manufacturing hubs, need to continue shouldering the responsibility of helping the economy grow and ensuring China’s fiscal strength, Li said… ‘The economy is recovering but its foundation is still not solid, and strenuous effort is required to stabilize the economy,’ Li said... The coastal regions need to ‘tap the potential and implement more support policies,’ he said.”

July 3 – Bloomberg (Linda Lew and Rebecca Choong Wilkins): “Chinese developer Shimao Group Holdings Ltd. missed payment on a $1 billion dollar note due Sunday, its first default on a public bond after months of mounting stress. Shimao’s delinquency is among the biggest dollar payment failures so far this year in China and the firm has about $5.5 billion in outstanding offshore bonds.”

July 8 – Financial Times (Hudson Lockett and Edward White): “Chinese property developers face a $13bn wall of foreign currency bond payments in the second half of this year, as a mounting default tally darkens the market outlook. China’s real estate sector has struggled to come to grips with slowing growth coupled with authorities’ efforts to rein in excess leverage. Waves of defaults have been triggered across the industry, unnerving fixed-income investors who frequently relied on developers’ offshore dollar bonds to deliver outsize returns during the era of ultra-low interest rates.”

July 7 – Reuters (Samuel Shen and Brenda Goh): “China unveiled tighter rules… to better regulate its $1.3 trillion credit card industry, urging lenders to adopt a ‘prudent’ growth strategy, and monitor risks more closely… ‘China's credit card business has been growing rapidly, playing a key role in facilitating payment and consumption,’ the China Banking and Insurance Regulatory Commission (CBIRC) said… ‘Recently, however, some banks ... are lax in risk management, and have behaved in ways that hurt customers' interest,’ the regulator said.”

July 7 – Bloomberg (Liz Ng): “China’s steel mills are sounding the alarm over crisis conditions in the industry as margins plunge due to weak demand. The starkest warning yet has come from Hunan Valin Iron & Steel Group, which met this week to discuss the rapid downturn in the sector and the measures it needs to take to ensure the company’s survival… Citing industry experts, the mill based in southern China said it expects the crisis to persist for five years. Other mills in both the northwest and southwest of the country have pledged to reduce output as they wait on infrastructure spending to revive steel demand.”

July 7 – Bloomberg (Brenda Goh and Roxanne Liu): “Millions of people in Shanghai queued for a third day of mass COVID-19 testing on Thursday as authorities in several Chinese cities scrambled to stamp out new outbreaks that have rekindled worries about growth in the world's second-largest economy. Unless local officials succeed in preventing the virus from spreading, they could be compelled to invoke prolonged, major restrictions on residents' movement, under China's ‘dynamic zero COVID’ strategy. The country's most populous city, Shanghai, has just emerged from a painful two-month lockdown and is again on high alert - racing to isolate infections linked to karaoke services that had been taking place illegally. Shanghai reported 54 new locally transmitted COVID cases for Wednesday, versus 24 the previous day.”

July 6 – Financial Times (Eleanor Olcott): “China is making progress in efforts to develop a homegrown messenger RNA Covid-19 vaccine, but experts warn that it risks being outpaced by rapid mutations of the Omicron coronavirus variant. Beijing’s refusal to approve foreign jabs, and the limited effectiveness of the more traditional inactivated vaccines available from domestic companies, mean an mRNA vaccine is widely seen as essential to any shift away from President Xi Jinping’s economically costly zero-Covid policy.”

Central Banker Watch:

July 3 – Financial Times (Patrick Jenkins): “When they gathered in the graceful Portuguese resort of Sintra last week, the west’s top central bankers were anything but. An awkward Federal Reserve chair Jay Powell bemoaned ‘how little we understand about inflation’. A dazzled European Central Bank president Christine Lagarde lamented the ‘massive geopolitical shock’ of Russia’s Ukraine invasion. Andrew Bailey, the gaffe-prone Bank of England governor, talked of a baffling ‘sea change’ in the way economies work. Many months after bearish commentators were warning of the stubborn upward momentum of prices, this finally was the moment when all three central bankers aligned themselves as monetary policy hawks. Controlling inflation, they reminded the world, was their key focus — though you wouldn’t know it, given price rises are now nudging 10% on both sides of the Atlantic.”

July 4 – Bloomberg (Carolynn Look): “The European Central Bank should be cautious about deploying tools to contain the borrowing costs of weaker nations, Bundesbank President Joachim Nagel said. In his first remarks on the matter since the ECB accelerated work on a crisis instrument, the German policy maker said officials should apply such measures only in ‘exceptional circumstances and under narrowly defined conditions…’ Nagel’s remarks are the most critical so far by a member of the ECB’s Governing Council. He warned that central banks ‘must not be driven by what are often very short-lived developments in the financial markets,’ and that any instrument would need to be ‘clearly defined.’ At a minimum, he said, a potential tool would require clear justification on three points: Interest-rate spreads are fundamentally unjustified and reflect financial-market excesses. The transmission mechanism is impaired in individual countries. Such effects are limiting the ECB’s ability to maintain price stability in the euro area Nagel also insisted that any activation of a tool should be ‘strictly temporary.’”

July 4 – Reuters (Balazs Koranyi and Francesco Canepa): “The European Central Bank's biggest shareholder, Germany's Bundesbank, laid out its conditions for providing fresh support to the euro zone's most indebted countries… after opposing such aid at an emergency meeting last month. ECB policymakers pledged to buy more bonds from debt-laden countries such as Italy at an emergency meeting on June 15 to contain a widening spread between their borrowing costs and Germany's… But Nagel… warned… against trying to decide the right market spread as that was ‘virtually impossible’ and risked making governments complacent. ‘I would thus caution against using monetary policy instruments to limit risk premia, as it is virtually impossible to establish for sure whether or not a widened spread is fundamentally justified,’ Nagel said…”

July 2 – Bloomberg (Craig Stirling): “The European Central Bank’s bid to engineer its first interest-rate hike since 2011 without causing the euro to splinter is about to take on new momentum. Now officials have seen June’s record inflation reading, judged to be pivotal for their next monetary move, they’ll convene Wednesday for the final scheduled opportunity to prepare for their two-day meeting starting July 20… The question of 25 or 50 bps -- already controversial -- would have been the main issue by now were it not for an outbreak of Italian debt turmoil that forced ECB President Christine Lagarde to hold emergency talks and extract a pledge for a new tool.”

July 5 – Financial Times (Martin Arnold and Sam Fleming): “The 25 eurozone rate-setters meeting in Amsterdam last month thought they had plenty of time to finalise the European Central Bank’s plan for avoiding a bond market crisis when they started to raise rates. They were wrong. A surge in borrowing costs for weaker southern European countries, in particular Italy, led to a divergence in yields with northern member states — a phenomenon central bankers describe as ‘fragmentation’. At an emergency meeting, the ECB decided to ‘accelerate the completion of the design of a new anti-fragmentation instrument’ to counter any unwarranted sell-off in a country’s bonds. ‘If the fragmentation in bond markets is unwarranted then we should be as unlimited as possible,’ Pierre Wunsch, head of Belgium’s central bank and ECB governing council member, told the Financial Times. ‘The case to act is strong when faced with unwarranted fragmentation.’”

July 4 – Bloomberg (Craig Stirling): “The days of European Central Bank teamwork heralded by Christine Lagarde may be ending as a Bundesbank warning shot on her crisis policies evokes its prior role as a thorn in the presidency’s side. The public salvo… by German official Joachim Nagel… is raising the temperature just as discussions intensify on a key pillar of the ECB chief’s plans to raise interest rates. In a possible echo of the ordeal her predecessor Mario Draghi had during the sovereign-debt crisis a decade ago, Lagarde might now face the task of executing a tricky policy maneuver fraught with the danger of market turmoil -- all while worrying about the prospect of a critical German central bank. The comments reflect ‘the difficulty in designing such a tool, especially in terms of the trigger for intervention,’ said Frederik Ducrozet, head of macroeconomic research at Pictet Wealth Management. ‘It may also be politics in the sense that you need to sell the tool at home. After all, the president of the Bundesbank has to state his objections.’”

July 7 – Bloomberg (Jana Randow): “The European Central Bank’s self-proclaimed ‘gradual’ approach to raising interest rates needn’t mean action will be slow or incremental, according to an account of the Governing Council’s last policy meeting. Officials stressed that any notion gradualism precludes increases beyond 25 bps must be avoided, partly because doing so would jeopardize other ECB guiding principles like optionality and data-dependence. While most backed plans to hike by a quarter-point in July, several wanted to keep the door open to a bigger step.”

July 5 – Reuters (Andy Bruce and Huw Jones): “The Bank of England warned… that the economic outlook for Britain and the world had darkened and told banks to ramp up capital buffers to ensure they can weather the storm. ‘The economic outlook for the UK and globally has deteriorated materially,’ the BoE said…, adding that developments around the war in Ukraine would be a key factor… The central bank also expressed unease over the health of core financial markets - such as U.S. and British government bonds - which were the subject of the March 2020 ‘dash for cash’ when the COVID-19 pandemic prompted panic selling. ‘Amid high volatility, liquidity conditions deteriorated even in usually highly liquid markets such as U.S. Treasuries, gilts and interest rate futures,’ the BoE said.”

Global Bubble and Instability Watch:

July 4 – Wall Street Journal (Asa Fitch): “The pandemic-era boom in semiconductors that spurred a global shortage is showing its first signs of weakness, driven by a slump in personal-computer sales and a rout in cryptocurrency markets. The frenzy to buy laptops and other gadgets early in the Covid-19 pandemic has vanished as inflation dissuades people from upgrading machines… The fading of the crypto boom has also put an end to early pandemic scenes of people camping outside computer stores to buy chips for cryptocurrency mining and high-end videogaming. The pressure still isn’t easing in some in-demand areas, such as chips for cars and data centers, but the chillier consumer climate has prompted some giants such as Intel… and Nvidia… to warn of rockier months ahead…”

July 5 – Associated Press (Elaine Kurtenbach): “Sri Lanka is desperate for help with weathering its worst crisis in recent memory. Its schools are closed for lack of fuel to get kids and teachers to classrooms. Its effort to arrange a bailout from the International Monetary Fund has been hindered by the severity of its financial crisis... But it’s not the only economy that’s in serious trouble as prices of food, fuel and other staples have soared with the war in Ukraine. Alarm bells are ringing for many economies around the world, from Laos and Pakistan to Venezuela and Guinea. Some 1.6 billion people in 94 countries face at least one dimension of the crisis in food, energy and financial systems, and about 1.2 billion of them live in ‘perfect-storm’ countries, severely vulnerable to a cost-of-living crisis plus other longer-term strains, according to… the Global Crisis Response Group of the United Nations Secretary-General.”

July 2 – New York Times (Patricia Cohen): “It’s not enough. That was the message protest leaders in Ecuador delivered to the country’s president this past week after he said he would lower the price of both regular gas and diesel by 10 cents in response to riotous demonstrations over soaring fuel and food prices. The fury and fear over energy prices that have exploded in Ecuador are playing out the world over. In the United States, average gasoline prices… are burdening consumers and forcing an excruciating political calculus on President Biden… But in many places, the leap in fuel costs has been much more dramatic, and the ensuing misery much more acute.”

July 6 – Reuters (Maytaal Angel): “World hunger levels rose again last year after soaring in 2020 due to the COVID-19 pandemic, with the Ukraine war and climate change threatening starvation and mass migration on an ‘unprecedented scale’ this year, according to U.N. agencies. Up to 828 million people, or nearly 10% of the world's population, were affected by hunger last year, 46 million more than in 2020 and 150 million more than in 2019…”

July 4 – Reuters (Cynthia Kim and Jihoon Lee): “South Korea's inflation last month hit the highest since the Asian financial crisis more than two decades ago, adding to signs of building strains on the open, trade-dependent economy and fanning expectations of a big rate hike by the central bank… The consumer price index grew a slightly faster-than-expected 6.0% in June over a year earlier - the highest since November 1998 - while other data showed foreign exchange reserves shrank by the most since late 2008.”

Europe Watch:

July 7 – Financial Times (George Parker, Jim Pickard and Sebastian Payne): “Boris Johnson has announced his ‘painful’ resignation but defied pressure to step down immediately as prime minister, insisting he would remain in office until a new Conservative party leader is chosen. In an unapologetic address in front of No 10 Downing Street, after days of turmoil and mass resignations from his government, he accused his party of making an ‘eccentric’ decision to ditch him. But he said: ‘It is clearly now the will of the parliamentary Conservative party that there should be a new leader for the Conservative party and therefore a new prime minister.’”

July 3 – Financial Times (Martin Arnold and Guy Chazan): “Germany’s political and business leaders warned that the country was facing its biggest economic crisis for decades as soaring energy prices and disruptions to trade pushed the country into a monthly trade deficit in goods for the first time in more than 30 years. The rise in energy prices increased the cost of imports to Europe’s largest economy in May, while global trade disruption weighed down exports, causing a $1bn deficit — the first since 1991. The figures contrasted with years in which Germany’s manufacturing exports drove the country’s growth and made it the powerhouse of the EU economy. Warning… that Germany faced a ‘historic challenge’, chancellor Olaf Scholz added that ‘the crisis won’t pass in a few months’ because Russia’s war in Ukraine ‘has changed everything, and supply chains are still disrupted by the pandemic’.”

July 7 – Reuters (Riham Alkousaa): “The German government is considering providing aid of up to two billion euros ($2.03bn) to German gas importer VNG in case of a gas emergency due to falling Russian gas supplies, Handelsblatt reported…”

July 6 – Reuters (Michel Rose and Tassilo Hummel): “France will fully nationalise EDF, Prime Minister Elisabeth Borne said…, in a move that would give the government more control over a restructuring of the debt-laden group while contending with a European energy crisis. EDF, in which the state already owns 84%, is one of Europe's biggest utilities and sits at the heart of France's nuclear strategy, which the government is banking on to blunt the impact of soaring energy prices…”

EM Bubble Watch:

July 7 – Bloomberg (Sydney Maki): “A quarter-trillion dollar pile of distressed debt is threatening to drag the developing world into a historic cascade of defaults. Sri Lanka was the first nation to stop paying its foreign bondholders this year, burdened by unwieldy food and fuel costs that stoked protests and political chaos. Russia followed in June after getting caught in a web of sanctions. Now, focus is turning to El Salvador, Ghana, Egypt, Tunisia and Pakistan — nations that Bloomberg Economics sees as vulnerable to default.”

July 4 – Bloomberg (Beril Akman): “One of the world’s worst inflation crises closed in further on another grim milestone in Turkey, and government efforts to help the population cope with the fallout only threaten to make it worse. Price growth has been in the double digits almost without interruption since the start of 2017, but it exploded this year near a quarter-century high… Data… showed annual inflation accelerated for a 13th straight month to 78.6% in June… Further upward pressure came from energy prices, which soared 151.3% from a year earlier, while food inflation reached almost 94%.”

July 2 – Reuters (Jorge Otaola): “Argentina's economy minister Martin Guzman, the architect of a recent major debt deal with the International Monetary Fund (IMF), resigned on Saturday as deep splits emerged in the ruling coalition over how to handle mounting economic crises. Guzman, a minister since late 2019 and a close ally of President Alberto Fernandez, posted a letter on Twitter announcing his decision, adding he maintained ‘confidence in my vision of the path Argentina should follow.’”

July 4 – Reuters (Jorge Otaola and Nicolas Delame): “Argentina's new economy minister Silvina Batakis was sworn in… and quickly moved to calm markets that slid after the shock resignation of her predecessor on fears his exit would spark a shift towards more populist policies and state spending. The closely watched black market peso plunged around 8% as people flocked to popular parallel foreign exchange markets to buy dollars after the abrupt exit on Saturday of moderate and long-standing economy minister Martin Guzman.”

Japan Watch:

July 8 – Reuters (Satoshi Sugiyama and Chang-Ran Kim): “Former Prime Minister Shinzo Abe, the longest-serving leader of modern Japan, was gunned down on Friday while campaigning for a parliamentary election, shocking a country where guns are tightly controlled and political violence almost unthinkable. Abe, 67, was pronounced dead around five and a half hours after the shootingin the city of Nara. Police arrested a 41-year-old man and said the weapon was a homemade gun.”

July 3 – Bloomberg (Ruth Carson, Ayai Tomisawa, and Hideyuki Sano): “The yen sinking to even deeper lows. Short sellers driving Japanese bond yields through the central bank’s target. Stocks on a rollercoaster ride and credit investors running for the sidelines. These are some of the scenarios investors envisage as Haruhiko Kuroda doggedly clings to ultra-low interest rates in his final nine months as Bank of Japan governor. His clash with markets looks set to intensify as runaway inflation forces global rates higher while he tries to resist long enough to entrench price gains in Japan. ‘It all comes down to the BOJ’s policy and the weakness of the yen,’ said Amir Anvarzadeh, a strategist at Asymmetric Advisors... ‘How the BOJ navigates monetary policy and inflation will impact everything from stocks to credit and provide opportunities to short JGBs -- it will keep happening until their view on rates changes.’”

July 3 – Financial Times (Kana Inagaki and Leo Lewis): “In the summer of 1998, the Japanese currency slid to its lowest level against the dollar since the calamitous burst of the economic bubble seven years earlier. A senior finance ministry official, Haruhiko Kuroda, cautioned that an excessive fall in the yen was negative for the Japanese economy. Nearly one-quarter of a century later, Kuroda is the governor of the Bank of Japan and sounding a familiar refrain as the yen continues its descent through a 24-year low… ‘The recent rapid acceleration of the yen’s decline is not desirable,’ Kuroda said last month, following discussions with Prime Minister Fumio Kishida. It was a change of tune for the central banker, who had until then suggested a weaker yen could have benefits for the economy. The debate within Japan on the depreciating currency has become increasingly fierce.”

July 4 – Bloomberg (Shoko Oda): “The slump in the Japanese yen, the war in Ukraine and a heatwave in Tokyo are pushing the world’s third-biggest economy toward a full-blown energy crisis. Japan imports about 90% of its energy, mostly priced in dollars, and costs were already soaring… ‘A confluence of factors, including the higher fuel prices since the war and the tumbling currency, is putting a significant pressure on Japan's energy security, making this one of the most serious energy crises Japan has had,’ said Jane Nakano, a senior fellow at the Center for Strategic & International Studies.”

July 5 – Reuters (Leika Kihara and Daniel Leussink): “The rising cost of living is turning into a thorny political issue ahead of Japan's upper house election this weekend, as opposition parties peg blame for recent price hikes on Prime Minister Fumio Kishida's policies. While Kishida's ruling coalition is set to win a majority, public discontent over inflation may undermine efforts to strengthen his grip on power and phase out the legacy of his predecessors' economic policies. Already, rising prices are taking a toll on the strong popularity Kishida had enjoyed since taking office in October, with a poll… showing his approval rating at 54%, down from 59% three weeks earlier.”

Social, Political, Environmental, Cybersecurity Instability Watch:

July 8 – LA Times (Ian James and Sean Greene): “California regulators have begun curtailing the water rights of many farms and irrigation districts along the Sacramento River, forcing growers to stop diverting water from the river and its tributaries… ‘The need to take these curtailment actions is in many ways unprecedented. And it reflects just how dry things have been in California over the last three years,’ said Erik Ekdahl, deputy director of the state water board’s water rights division. ‘After three years of really unprecedented drought, reservoir storage is at record lows for much of the state. And there's just simply not enough water to go around.’”

July 7 – USAT (Jeanine Santucci): “Utah's Great Salt Lake has hit a record low water level for the second time in less than a year, a troubling sign amid historic drought conditions — made worse by climate change — across the western United States. The lake dipped to 4,190.1 feet on Sunday, lower than the last time the water's surface matched a low record in October 2021… ‘This is not the type of record we like to break,’ Utah Department of Natural Resources Executive Director Joel Ferry said. ‘Urgent action is needed to help protect and preserve this critical resource. It’s clear the lake is in trouble. We recognize more action and resources are needed, and we are actively working with the many stakeholders who value the lake.’”

July 4 – Reuters (Angelo Amante): “Italy… declared a state of emergency for areas surrounding the river Po, which accounts for roughly a third of the country's agricultural production and is suffering its worst drought for 70 years. The government decree will allow authorities to cut through red tape and take action immediately if they think it necessary… The Po is Italy's longest river which runs for more than 650 km (400 miles) through the wealthy north of Italy. However, many stretches of the waterway have run dry and farmers say the flow is so weak that sea water is seeping inland, destroying crops.”

July 7 – Reuters (Renju Jose): “Heavy rain that pummelled Sydney over the last five days eased on Thursday as flood-weary residents looked to return to homes to take stock of the damage, some for the third time this year. An intense low-pressure system formed off Australia's east coast over the weekend has weakened, satellite images showed, but major flooding could continue for several days with rivers and dams already at full capacity even before the latest storm.”

Covid Watch:

July 6 – NBC (Aria Bendix): “The coronavirus subvariant known as BA.5 accounted for nearly 54% of the country's Covid cases as of Saturday, according to the Centers for Disease Control and Prevention. A similar subvariant, BA.4, makes up 17% more. ‘They're taking over, so clearly they're more contagious than earlier variants of omicron,’ said David Montefiori, a professor at the Human Vaccine Institute at Duke University Medical Center. The two subvariants also appear to evade protection from vaccines and previous infections more easily than most of their predecessors. Montefiori estimated that BA.4 and BA.5 are about three times less sensitive to neutralizing antibodies from existing Covid vaccines than the original version of the omicron variant, BA.1. Other research suggests that BA.4 and BA.5 are four times more resistant to antibodies from vaccines than BA.2…”

Geopolitical Watch:

July 6 – Associated Press (Matthew Lee): “Foreign ministers from the world’s largest nations are looking to address Russia’s war in Ukraine and its impact on global energy and food security when they meet in Indonesia this week. Yet instead of providing unity, the talks may well exacerbate existing divides over the Ukraine conflict. U.S. Secretary of State Antony Blinken, Russian Foreign Minister Sergey Lavrov and Chinese Foreign Minister Wang Yi are set to attend the Group of 20 meeting in the Indonesian resort of Bali... It will mark the first time Blinken and Lavrov have been in the same room, let alone the same city, since January.”

July 2 – Financial Times (Kana Inagaki, Nic Fildes and Demetri Sevastopulo): “When Nato leaders gathered in Madrid this week, they were joined by heads of government from four nations far beyond the usual geographic scope of the transatlantic alliance: Japan, South Korea, Australia and New Zealand. The unprecedented participation of the four US allies — and their agreement to co-operate with Nato on cyber defence and maritime security — underlined their alarm both at Russia’s invasion of Ukraine and the growing might of an increasingly assertive China. Japanese prime minister Fumio Kishida, who interrupted a crucial election campaign for the summit, said their presence showed leaders had realised the security of Europe and the Indo-Pacific was ‘inseparable’.”