An Attempt at Concise

By: Doug Noland | Fri, Jul 7, 2006
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For the week, the Dow dipped 0.5% and the S&P500 0.4%. Economically sensitive issued led on the downside. The Transports sank 1.8%, and the Morgan Stanley Cyclical index fell 2.0%. The Utilities gained 0.6%, while the Morgan Stanley Consumer index declined 0.2%. The small cap Russell 2000 was hit for 2.2%, and the S&P400 Mid-cap index declined 1.5%. The NASDAQ100 fell 2.7%, and the Morgan Stanley High Tech index dropped 2.5%. The Semiconductors sank 4.1%. The Street.com Internet Index dropped 2.7% and the NASDAQ Telecommunications 2.9%. The Biotechs slipped 0.6%. The Broker/Dealers fell 1.6%, and the Banks declined 0.6%.

For the week, two-year Treasury yields added 2 bps to 5.17%. Five-year yields increased about one basis point to 5.10%, while bellwether 10-year yields dipped one basis point to 5.13%. Long-bond yields declined one basis point to 5.18%. The 2yr/10yr spread ended the week inverted 4 bps. Benchmark Fannie Mae MBS yields added one basis point to 6.34%, this week underperforming Treasuries. The spread on Fannie's 4 5/8% 2014 note ended the week another two wider at 38, and the spread on Freddie's 5% 2014 note three wider at 37. The 10-year dollar swap spread increased 1.70 to 60.70. Corporate bond spreads were little changed, with junk spreads narrowing moderately. The implied yield on 3-month December '06 Eurodollars rose 4.5 bps to 5.64%.

July 6 - Financial Times (Paul J Davies): "The US market for the complex debt products known as collateralised debt obligations is booming with issuance in the first half of this year just 9 per cent below the total for all of 2005, according to...Deutsche Bank... The stunning growth comes in spite of growing concerns about a coming turn in the credit cycle... At the same time, the continued presence of CDOs as willing buyers of other asset-backed securities was helping to hold down spreads in the market, particularly among lower-rated, riskier bonds, the bank said. CDOs, which pool together credit derivatives, leveraged loans or other asset-backed instruments, saw publicly-rated issuance of $125.2bn in the first half versus $138.4bn for all of last year."

July 5 - Bloomberg (Caroline Salas): "Questar Corp. Chief Executive Officer Keith Rattie is so bullish on the U.S. economy that his company borrowed $250 million in the bond market to drill for natural gas reserves in the Rocky Mountains. Questar has plenty of company. AT&T Inc. borrowed money as it builds fiber-optic networks to reach almost 19 million homes. Cisco Systems Inc. sold bonds for the first time after CEO John Chambers agreed to buy Scientific-Atlanta Inc. David Crane's NRG Energy Inc. borrowed to pay for the acquisition of Texas Genco Holding LLC... American companies are tapping the capital markets like never before, a signal that CEOs are becoming more optimistic... Bond offerings totaled $445 billion in the first half and may surpass the record $676 billion sold in 2001."

July 5 - Bloomberg (Elizabeth Hester): "U.S. initial public offerings backed by venture capital firms raised $2 billion in the second quarter, almost quadruple the first quarter's total. Nineteen companies funded by venture capitalists raised $2 billion, the largest sum since almost $3 billion was raised in the fourth quarter of 2004... A year earlier, 10 venture-backed companies raised $714.1 million, and in this year's first quarter, 10 venture-backed companies raised $540.8 million."

Japanese 10-year "JGB" yields rose 3 bps this week to 1.95%. The Nikkei 225 index declined 1.3%, increasing 2006 losses to 5.0%. German 10-year bund yields were unchanged at 4.06%. Emerging debt and equity markets were mostly impressive. Brazil's benchmark dollar bond yields dropped 13 bps to 6.98%. Brazil's Bovespa equity index dipped 1.4%, reducing 2006 gains to 7.9%. The Mexican Bolsa jumped 3.6% this week (up 11.4% y-t-d). Mexico's 10-year $ yields sank 26 bps to 6.13%. Russian 10-year dollar Eurobond yields dipped one basis point to 7.02%. The Russian RTS equities index jumped 3.7%, increasing 2006 gains to 3.7% and 52-week gains to 110%. India's Sensex equities index dipped 1% (up 11.8% y-t-d).

Freddie Mac posted 30-year fixed mortgage rates added one basis point to 6.79%, up 117 basis points from one year ago. Fifteen-year fixed mortgage rates increased one basis point to 6.44%, 124 bps higher than a year earlier. One-year adjustable rates gained one basis point to 5.83%, an increase of 68 bps y-t-d and 50 bps over the past year. The Mortgage Bankers Association Purchase Applications Index jumped 6.5% this week. Purchase Applications were down 20% from one year ago, with dollar volume down 20%. Refi applications increased 5.0% last week. The average new Purchase mortgage declined to $222,900, and the average ARM dipped to $339,400.

M2 (narrow) "money" supply expanded $10.2 billion to $6.844 Trillion (week of June 26). Year-to-date, narrow "money" has expanded $154 billion, or 4.6% annualized. Over 52 weeks, M2 has inflated $305 billion, or 4.7%. Currency was unchanged for the week, while Demand & Checkable Deposits rose $16.1 billion. Savings Deposits dropped $17.3 billion, and Small Denominated Deposits increased $4.3 billion. Retail Money Fund assets increased $7.0 billion.

Total Money Market Fund Assets, as reported by the Investment Company Institute, surged $20.7 billion last week to $2.138 Trillion. Money Fund Assets have increased $80.6 billion y-t-d, or 7.5% annualized, with a one-year gain of $233 billion (12.2%).

Total Commercial Paper dipped $1.5 billion last week to $1.784 Trillion. Total CP is up $135 billion y-t-d, or 15.7% annualized, while having expanded $287 billion over the past 52 weeks (19.2%).

Asset-backed Securities (ABS) issuance this week "slowed to a crawl." Year-to-date total ABS issuance of $378 billion (tallied by JPMorgan) is running slightly below 2005's record pace, with y-t-d Home Equity Loan ABS sales of $269 billion 9% above last year.

Fed Foreign Holdings of Treasury, Agency Debt dipped $2.1 billion to $1.636 Trillion for the week ended July 5th. "Custody" holdings were up $117 billion y-t-d, or 14.8% annualized, and $198 billion (13.8%) over the past 52 weeks. Federal Reserve Credit jumped $11.5 billion to $836.2 billion. Fed Credit has increased $9.8 billion y-t-d, or 2.3% annualized. Fed Credit is up 5.1% ($40.4bn) during the past year.

International reserve assets (excluding gold) - as accumulated by Bloomberg's Andy Burt - were up $407 billion y-t-d (19.4% annualized) and $600 billion (16%) in the past year to $4.453 Trillion.

July 6 - Bloomberg (Svenja O'Donnell): "Russia's foreign currency and gold reserves, the world's fourth largest, rose to a record $250.6 billion, boosted by high oil and gas prices. The reserves rose $3.4 billion in the week ended June 30..."

Currency Watch:

The dollar index dipped 0.3% to 84.64. On the upside, the Mexican peso gained 3.0%, the Colombian peso 2.4%, the Indonesian rupiah 2.2%, the Czech koruna 2.0%, and the Turkish lira 1.8%. On the downside, the Brazilian real slipped 0.8% and the Polish zloty 0.2%.

Commodities Watch:

July 6 - Bloomberg (Danielle Rossingh): "Sugar rose in London, matching its all-time high, as record crude oil prices raised expectations for increased demand for alternative fuels such as ethanol... White sugar has climbed 77 percent in the past year, partly on speculation higher oil prices will spur Brazil, the world's biggest sugar producer and exporter, to divert more of its harvest to making ethanol."

July 5 - Bloomberg (Katy Watson): "Nickel prices in London rose to the highest in at least 19 years as inventories of the metal used to make stainless steel declined to the lowest since September. Stockpiles monitored by the London Metal Exchange declined 1.5 percent to 9,258 tons today, down 49 percent since the beginning of June. Nickel prices have gained 68 percent in 2006..."

July 5 - Bloomberg (Hannah Gardner): "Russia said it expects grain exports to plunge this year because of a drought in the country's south and higher-than-expected rainfall in Siberia. The nation will ship between 7 million tons and 8 million tons of grain in the agricultural year starting July 1, compared with 12.5 million tons in the year through the end of June..."

Gold rose 2.3% to $629.50, and Silver surged 4.4% to $11.41. Copper jumped 5.6%. August crude traded at a record high intraday ($75.78) today before selling off, although crude added 16 cents for the week to $74.09. August Unleaded Gasoline added about 1%, while August Natural Gas sank 9%. For the week, the CRB index gained 0.5% (y-t-d up 4.9%). The Goldman Sachs Commodities Index (GSCI) was about unchanged (up 12.3% y-t-d).

Japan Watch:

July 3 - Bloomberg (Lily Nonomiya): "Japan's largest companies plan to increase investment at the fastest pace in 16 years, strengthening the central bank's case for raising interest rates as soon as next week. The Bank of Japan's Tankan survey showed companies plan to spend 11.6 percent more this fiscal year..."

July 7 - Bloomberg (Hiroshi Suzuki and Jason Clenfield): "Japan raised its growth forecast for this fiscal year to 2.1 percent and said that for the first time in nine years a measure of prices may show deflation has ended."

China Watch:

July 7 - Bloomberg (Wing-Gar Cheng): "China, the world's biggest energy user after the U.S., will accelerate plans to build a national oil stockpile in the next five years to increase security of supply, its top economic planner said. The nation will accelerate construction of the next phases for its national crude oil stockpile and further expand storage space..."

July 3 - Bloomberg (Yanping Li and Nipa Piboontanasawat): "Chinese manufacturers are contending with surging costs as prices of fuel and raw materials increase, two surveys of purchasing managers released today showed. Input prices jumped at the fastest pace in 21 months in June..."

July 5 - Bloomberg (Luo Jun and Samuel Shen): "Shares of Bank of China Ltd. jumped as much as 31 percent as they started trading in Shanghai after investors flocked to the nation's largest domestic equity sale... China's second-largest lender lured 677.3 billion yuan ($84.7 billion) of bids for a 20 billion yuan sale... The debut suggests the government has succeeded in channeling more of the $1.9 trillion in household savings into equities, after ending restrictions that forced Chinese companies to go public overseas. Bank of China's market value now stands at $116.2 billion..."

July 7 - Bloomberg (Nipa Piboontanasawat and Luo Jun): "China may earn a higher credit rating from Moody's...after repaying international debt, boosting reserves and a bailing out banks. Moody's today raised the outlook for the A2 rating on China's long-term foreign-currency bonds to positive from stable..."

July 7 - MarketNewsInternational (Allen Feng): "Evidence is building that China's loan growth has slowed substantially in recent weeks, taking pressure off the government to tighten monetary and administrative policy further. A senior bond trader with a state-owned bank said fragmentary data he has seen points to a considerable slowdown in lending activity in June, suggesting that Beijing's second-quarter campaign to bring credit activity to heel is having an impact."

July 4 - Bloomberg (Joshua Fellman): "Hong Kong's apartment sales fell by more than a third by value last month from a year earlier because rising interest rates made it more expensive for homebuyers to finance their purchases."

Asia Boom Watch:

July 2 - Iain McDonald)- "Asian borrowers, excluding those in Japan, sold in the first six months of 2006 the largest amount of domestic-currency bonds since 2002, according data compiled by Thomson Financial. They also sold more bonds denominated in U.S. dollars, Japanese yen and euros than a year earlier, the figures issued Saturday show. Despite the strong issuance in the first half, the outlook for the primary bond market for the remainder of the year is uncertain following recent increases in interest rates, which has slowed significantly offerings of new bonds in Asia. Borrowers in the region raised in domestic currencies the equivalent of $50.7 billion through 766 issues in the first half, up from $39 billion from 819 issues in same period of 2005. The half-year 2006 volume of domestic-currency issuance in Asia is the highest since 2002, when offerings totaled $51.9 billion."

July 7 - Bloomberg (Theresa Tang and James Peng): "Taiwan's exports rose at the fastest pace in eight months in June... Overseas sales increased 16.5 percent from a year earlier to $18.1 billion after gaining 10.5 percent in May..."

July 4 - Bloomberg (Stephanie Phang): "Malaysia's exports grew in May at the fastest pace in three months... Exports rose 13.2 percent from a year earlier..."

July 3 - Bloomberg (Laurent Malespine): "Thailand's jobless rate fell to a five-month low in May as hiring in the agricultural sector rose due to seasonal factors. The unemployment rate last month fell to 1.4 percent..."

Unbalanced Global Economy Watch:

July 3 - Bloomberg (Brian Swint): "U.K. manufacturing grew at its fastest pace in almost two years in June, extending an industrial revival in Europe's second-biggest economy..."

July 3 - Bloomberg (Fergal O'Brien): "European manufacturing expanded the most in almost six years in June, evidence of a strengthening economy as the European Central Bank signals it may accelerate the pace of interest-rate increases."

July 3 - Bloomberg (Meera Louis): "Unemployment in the dozen countries sharing the euro declined in May to the lowest since October 2001 as economic growth accelerates. The jobless rate fell to 7.9 percent..."

July 7 - Bloomberg (Alice Ratcliffe): "Swiss unemployment fell to the lowest rate in more than three years in June as economic growth quickened, giving the country's central bank room to raise borrowing costs. The jobless rate, adjusted for seasonal swings, declined to 3.3 percent from May's 3.4 percent..."

July 5 - Bloomberg (Ben Sills): "Industrial production in Spain, Europe's fifth-largest economy, expanded the most in almost six years in May on accelerating growth among the country's European trading partners. Production at factories, farms and mines rose 6 percent from a year-earlier..."

July 3 - Bloomberg (Tasneem Brogger): "Danish retail sales rose for a third month in May, gaining at the fastest monthly pace since December, led by an increase in sales of clothes. Sales gained a seasonally adjusted 0.8 percent from April and an annual 8.4 percent..."

July 3 - Bloomberg (Monika Rozlal): "Polish manufacturing rose in June at the fastest pace in two years as accelerating economic growth generated more jobs and boosted demand, a Purchasing Managers' Index showed."

July 7 - Bloomberg (Svenja O'Donnell): "Russia lured $16.1 billion of capital inflows in the second quarter, a record high, the central bank said... The net inflow...compares with a revised $4.7 billion outflow in the first quarter and $5.3 billion of outflows in the year-earlier period..."

July 3 - Bloomberg (Svenja O'Donnell): "Russia's manufacturing industries grew in June at the fastest pace in almost six years as output, new orders and employment increased, a gauge of industrial output showed."

Latin America Watch:

July 3 - Bloomberg (Guillermo Parra-Bernal): "Brazilian exports unexpectedly rose to a record in June, pushing the trade surplus to its highest level in six months, as a global economic expansion continued to spark demand for the nation's goods. Exports jumped 17 percent in June to $11.4 billion from May... The surplus...widened to $4.08 billion from $3.03 billion in May, in part because of a surge in exports of commodities such as soybeans and corn."

July 5 - Bloomberg (Guillermo Parra-Bernal): "Brazilian industrial sales rose at their fastest pace in 13 months in May as falling unemployment and declining interest rates helped spark a recovery in consumer demand for manufactured goods. The National Industry Confederation said industrial sales rose 4.6 percent from the same month a year earlier."

July 7 - Bloomberg (Peter Wilson): "Venezuela, which has South America's highest per-capita electricity use and its lowest rates, plans to spend $5 billion on its power system over the next four years to meet demand, said Deputy Energy Minister Nervis Villalobos."

July 5 - Bloomberg (Matthew Walter): "Chile's economy grew at its fastest pace in five months in May, easing concern that the expansion in the South American country was faltering. The economy grew 6.1 percent from the year earlier period..."

Central Bank Watch:

July 6 - Bloomberg (Tasneem Brogger): "Iceland's central bank raised its benchmark interest rate by three quarters of a point to 13 percent, more than expected, to cool inflation that is accelerating at more than three times the bank's target pace."

Bubble Economy Watch:

June Average Hourly Wages were up 3.9% y-o-y, the largest y-o-y rise since June 2001.

July 7 - MarketNewsInternational (Claudia Hirsch): "U.S. import volumes expanded again in May from a year ago on strong consumer demand for foreign-made goods, while exports of low-value raw materials rose at some docks, port officials said. Port and shipping executives said interdependence between U.S. and Asian economies lifted activity at major American harbors in May. But the value imbalance between costlier imports and cheaper exports should perpetuate the yawning U.S. trade gap, they said."

July 7 - Dow Jones (David Enrich): "Lured by Texas's swelling population and strong economy, banks from around the world are clamoring for a piece of the Lone Star State. But with several Texas banks recently being sold, the number of available franchises is dwindling... Texas is an attractive banking market because its population and economy, fueled in part by immigration and soaring commodity prices, rank among the fastest growing in the country."

July 7 - The Wall Street Journal (Jennifer S. Forsyth): "For the ninth consecutive quarter, the nation's overall office-vacancy rate improved, another sign of a recovery that is allowing landlords to continue to raise rents. For 72 office markets, the vacancy rate was 13.8% in this year's second quarter, down from 14.2% in the first quarter... Effective rents -- the negotiated price after concessions to tenants -- rose 2.1%, mirroring growth in the previous quarter."

July 3 - PRNewswire: "Mercedes-Benz...today reported its highest June on record with sales of 20,802 new vehicles, an increase of 14 percent over last June. This brings MBUSA's year-to-date total to 114,935 new vehicles sold for the best half- year sales in the company's history."

July 3 - PRNewswire: "Toyota...today reported its best-ever first-half sales in 49 years of business in the U.S. with calendar-year-to-date sales of 1,223,542. June sales of 223,018, an increase of 14.4 percent over last June, contributed to a record-setting second quarter, with sales of 678,691 units."

Real Estate Bubble Watch:

July 6 - Bloomberg (Kathleen M. Howley): "Manhattan apartment sales fell 15 percent in the second quarter...leaving more units on the market than at any time in at least a dozen years... Sales of condominiums and cooperative apartments declined from a year earlier to 1,934, a five-year low for the second quarter, according to...Miller Samuel Inc. and broker Prudential Douglas Elliman. Unsold units climbed 54 percent to 7,640, the highest since at least 1994. The average price paid for an apartment rose 5.2 percent to a record $1.39 million..."

June 30 - Reuters: "U.S. mortgage-backed securities issuance totaled $531.9 billion in the first half of 2006, up from $438.7 billion in the same period a year earlier, Thomson Financial said..."

Global Financial Sphere Bubble Watch:

June 30 - Reuters: "High-grade U.S. corporate bond issuance climbed in the first half of 2006 to $466 billion, up from $342 billion in the same period a year ago, Thomson Financial reported... Junk bond sales totaled $66.3 billion in the first half, up from $50.7 billion a year ago..."

June 30 - Reuters: "U.S. asset-backed securities issuance eased to $560.5 billion in this year's first half, nearly unchanged from the $563.2 billion sold a year earlier, said Thomson Financial..."

July 3 - Bloomberg (Ann Saphir): "The Chicago Mercantile Exchange and the Chicago Board of Trade, the biggest U.S. futures markets, said trading last quarter surged to records on an increase in the number of contracts tied to interest rates that were bought and sold by investors. Transactions at the Merc jumped 51 percent in June to an average 6.4 million a day... The smaller Board of Trade handled 3.3 million contracts a day in the second quarter, a 14 percent increase from a year earlier."

Energy Boom and Crude Liquidity Watch:

July 7 - Bloomberg (Steven Bodzin): "With the flip of a ceremonial switch, Microsoft Corp. dedicated a half-acre of solar panels on its Silicon Valley campus, bringing California closer to Governor Arnold Schwarzenegger's goal of a million solar roofs. That leaves about 980,000 to go. Schwarzenegger is pouring $3.2 billion into solar energy, and investors are snapping up shares of solar-equipment companies. Hedge funds including SAC Capital Advisors LLC and GLG Partners LP have solar-power investments in the state..."

July 5 - Financial Times (William Wallis): "A consortium led by Etisalat, the United Arab Emirates state telephone company, outbid eight rivals to win Egypt's third mobile telephone licence yesterday, offering $3bn. This was about twice market expectations and almost six times what its two competitors, Mobinil and Vodafone, paid when the Egyptian market began opening up in the late 1990s."

July 5 - Financial Times (William Wallis and Jim Pickard): "For 20 years the 39-floor World Trade Centre, built in 1979, was Dubai's tallest tower. It still features on the 100-dirham banknote. But, cased in off-white concrete to shade it from the desert sun, it now looks the stunted relic of a previous oil boom. Since oil started its ascent from $9 a barrel in 1999 to about $70 today, developers have been planting skyscrapers along the Sheikh Zayed superhighway with the alacrity with which the French once lined their routes nationales with poplar trees. The construction boom in the Gulf is putting zeros on the earnings of the world's architects and engineering and project management companies. Interior designers are also cashing in as the owners of new hotels, shopping malls and private mansions compete to set theirs apart. There is so much business that many foreign companies are turning smaller contracts away and struggling to find and keep staff."

July 3 - Reuters (Iain Pocock and Felicia Loo): "An oil fueled economic boom in Middle Eastern countries is driving local demand for gas oil such as diesel, squeezing supplies to Europe and Asia. This has tightened supply in both importing regions and forced prices of gas oil up this year to around record levels. The trend is set to continue until new Gulf refineries come on stream later this decade, traders and analysts said."

Speculator Watch:

July 4 - Bloomberg (Edward Evans): "Permira Advisers LLP raised more than 10 billion euros ($12.8 billion) for Europe's biggest buyout fund to counter growing competition from U.S. rivals Blackstone Group LP and Kohlberg Kravis Roberts & Co. The firm expects to raise a further 1 billion euros from other investors..."

July 4 - Bloomberg (Linda Sandler): "U.S. hedge-fund managers Steven Cohen, Adam Sender and Daniel Loeb are among the world's most active art collectors, according to a list compiled by the magazine ARTnews... While ARTnews doesn't say how much buyers spent, the list contains many U.S. fund managers and real-estate developers who purchase art at contemporary auctions and fairs."

An Attempt at Concise:

Yesterday, from Federal Reserve Vice Chairman Donald Kohn: "The first thing to keep in mind about global imbalances is their scale. The U.S. current account deficit is enormous--on the order of $800 billion or 6-1/2 percent of gross domestic product--and it is not likely to shrink substantially in the immediate future, given the current configuration of economic activity and prices around the world."

I do appreciate the candor. Yet this really is an extraordinary admission by a prominent central banker: Our Current Account Deficit has reached the point of being completely intractable - and the Fed doesn't even bother... This is, by now, not even worthy of a headline and surely no revelation to readers. But ongoing $800 billion Current Account deficits - especially subsequent to a two-year Fed "tightening" cycle and a 30% four-year decline in the dollar index are, from a historical perspective, an incredible circumstance.

Last week's Bulletin came too close to the weary "Inflation vs. Deflation" debate for comfort. Generally, too much time and energy is spent pontificating about the unknowable future and not enough on the analyzable here and now. Last week I suggested that a confluence of sharply higher energy prices, an explosion of energy-related research and development, and environmental/climate-related spending presents an immediate, as well as long-term, potential spending "black-hole" - that is, for as long as new finance is forthcoming.

In the context of a Credit system remaining stubbornly overheated in the face of a cooling U.S. housing market, a powerful inflationary bias in an arena of such potential enormity (energy/energy-related) is quite significant. Credit Inflation/Bubbles innately expand and nurture fledgling Bubbles to support and perhaps even supplant the aged. An appreciation of this dynamic is today analytically invaluable. It is exactly this dynamic that leaves me skeptical of the notion that the Goldilocks economy will duly cooperate; that the timorous Fed can painlessly wrap things up; and that the scrawny bond bear has had his fill.

And while I keep an open mind to possible intermediate and long-term developments, the current environment is inarguably inflationary. No backing down. What I will attempt to explain is surely an all too common rehash. I am just compelled to Attempt a more Concise presentation.

First, $800 billion Current Account Deficits are categorically inflationary. Inflation is primarily a Credit phenomenon - the creation of various types of new Credit instruments providing additional purchasing power. Simple enough, although myriad complex factors are involved in affecting how and where this augmented "purchasing power" is dispensed (prevailing "spending patterns" and financial flows). Myriad other competing and compounding factors (certainly including the character of the institutions/markets apportioning the finance, as well as the underlying structure of the economic system) influence the nature of the pricing and economic consequences emanating from these patterns of outlays. Potential inflationary manifestations are many but include higher consumer goods and services prices and/or larger quantities of imports; heightened business investment and household non-durable spending; an accumulating global pool of highly impulsive ("speculative") finance; and certainly rising asset (real and financial), energy, and commodities prices.

As an analyst, it is critical to examine the vast mosaic of Credit, pricing, economic, and financial flows data and come to some determination as to the underlying inflationary biases in play throughout sectors, markets, and economies - and the inflationary backdrop generally. (Inflationary biases include sector Credit Availability, abundant marketplace liquidity; heightened expectations; the propensity for investor and speculator financial flows; and a general propensity for self-reinforcing spending and financial flow dynamics.) This comprehensive analysis must incorporate views on respective domestic and global backdrops. During much of the nineties, for example, the general backdrop in the U.S. was moderately inflationary, while the global environment was best characterized as atypically unsettled and "disinflationary" (The collapse of the Soviet Union, post-Bubble Japan, and the series of wrenching emerging economy booms and busts).

Especially during the 1998-2000 period of heightened U.S. Credit expansion, the inflow of cheap imported goods and energy, along with "King Dollar" financial flows into U.S. securities markets, played an instrumental role in both softening and containing mounting inflationary pressures. It was an aberrational period characterized by a phenomenal confluence of slack in global goods and resource markets, massive investment concentrated in computer-related technologies, and overwhelming global financial flows directed to (recycled back) U.S. securities markets.

Inarguably, the U.S. domestic backdrop today demonstrates heightened inflationary pressures. Whether the global backdrop remains "disinflationary" is today a critical analytical bone of contention. Many point to "globalization" and the seemingly limitless cheap labor available in China and India as support for the sanguine disinflationary view. But sound analysis requires diligent and comprehensive examination of the "mosaic" of (pricing, economic, and financial flow) data and indicators.

Fundamentally, global Credit systems are these days dynamic and Credit growth rapid (double-digit growth in the U.S., Europe, China, and throughout many of the "developing" economies). Asset inflation absolutely pervades the global backdrop, outdone only by surging energy and commodities prices. Spending and investment excess are in no way contained in the (highly "productive") technology sphere. And similar to how "core" consumer prices have proved an especially poor indicator of general financial conditions and inflationary pressures domestically, I would argue that Chinese/Indian labor costs are in no way today reflective of the true global inflationary backdrop.

Mexican 10-year government dollar yields ended today's session at a two-month low 6.13% and Brazilian yields at a two-month low 6.98%. Developing currencies and debt markets have for the most part demonstrated impressive resilience in the face of rising U.S. rates and even the recent bout of market tumult. Importantly, acute currency vulnerability played a prominent role in the prior "disinflationary" global phenomenon. The intense international bias for trading into dollar-denominated securities/markets that unfolded throughout the '90's sternly disciplined domestic Credit systems across the globe (but certainly not our own).

Today, many of the economies that suffered the greatest from sinking export prices, depleted currency reserves and susceptible currencies now enjoy a spectacular reversal of fortunes. Expectations have changed profoundly, along with spending plans and appetites for energy and resources. The days of the Russians dumping crude and the Brazilians taking whatever they can get for iron ore and sugar are a thing of the past. And the Chinese will now buy whatever they want whenever they want it. In many respects, the notion of grounded inflationary expectations is today pure fantasy.

There is the view that the emerging markets, commodities, and global energy prices are speculative Bubbles just waiting to succumb to - and then exacerbate - dis/deflationary forces. Clearly there is a speculative component to these markets, as there is in virtually all markets these days - certainly including U.S. fixed income. Yet I believe the inflationary ramifications with respect to ongoing $800 billion U.S. Current Account Deficits will continue to buttress the markets for foreign securities, commodities, energy and things non-dollar generally. These massive deficits provide an ongoing source of global liquidity, while also weighing on dollar confidence and prospects. Relatively strong competing global currencies foster robust Credit systems, along with the positive feedback associated with global financial inflows and economic growth. And while such an unsettled monetary backdrop is conducive to financial market uncertainty and volatility, I continue to see evidence supporting the view of a robust global Credit boom incompatible with the notion of disinflation.

How major of a role has the emergence of unlimited "contemporary finance" played in "globalization"? To what extent is today's global boom a Credit phenomenon? These are key questions not even contemplated by the bullish consensus. To be sure, the endless availability of "Wall Street" finance has played the seminal role in the U.S. economy's resiliency to shocks, Fed rate hikes, surging energy prices and, of late, slowing housing markets. And with "contemporary finance" having so taken the world by storm over the past few years, we should factor in expectations for similar "resiliency" from global economies.

Today, I would strongly argue that the U.S. domestic economy and the general global economy are enveloped by Credit Bubble Influences and Dynamics. Most importantly, this infers powerful propensities toward ongoing Credit excess, heightened inflationary pressures, unwieldy speculation, and maladjusted economic expansion. Credit systems and economies that have attained marked momentum will be restrained only by a significant tightening of financial conditions - today either by concerted and aggressive central bank rate increased and/or financial dislocation. Current market yields are not sufficiently restrictive and become only less so as bonds rally to the idea of the end of the Fed "tightening" cycle.

That bond markets seem so willing to dismiss the possibility on an intransigent global inflationary boom has me rather fascinated. I would suggest, however, that any decline in market yields at this point plays right into the hands of ongoing Credit Inflation and Problematic Excess (not to mention $80 crude!). And whether it is willing to accept the responsibility or not, it appears it will be the bond market that must at some point wrest power away from the brutish inflationary boom. This is not the '90's; there's no slack left in global resource markets; $800 billion Current Account Deficits are a disaster in the making; dollar prospects are a serious global issue; and this synchronized global boom has "trouble" written all over it. And that's about as concise as I get.

 


 

Doug Noland

Author: Doug Noland

Doug Noland
The Credit Bubble Bulletin
PrudentBear.com

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