US + Brazil Financial News (6/12)

UNITED STATES  

In a week with few additional data points, the market will rekindle the old debate about the Fed, after Friday’s disappointing NFP and earnings data, increasing concerns about the Trump agenda and the ability of the Republican Congress to approve meaningful tax-reform, and the last reading of core PCE inflation, showing it further away from the FMOC’s target. Treasuries rallied Friday, with the 10-year yield closing the week at 2.16%, an amazing low point for this stage in the cycle. A hike in June is near certain, and this brought the 2/10 spread down to 87bp with a significant flattening of all relevant Treasury curves. Clearly, there is increased uncertainty about what the FMOC will do in and post-September. On question is not only the path of future rates, but also the onset of tapering. As one commentator noted in a Bloomberg interview, “For bond traders, it’s shaping up like a Goldilocks situation in terms of the economy: Everything is just right for the Fed to continue to normalize, while not hot enough to trigger major losses in Treasuries.”

• Monday, June 5: Nonfarm Productivity and Unit Labor Costs. The first reading for productivity in Q1/17 was a disappointing -0.6%saar. The second reading is expected to be better (consensus at -0.2%saar) but still far from showing a dynamic recovery in productivity, hence underlying long-run potential growth, given the known facts of low growth in the labor force and a structural downward shift in labor force participation. Some analysts are encouraged by the annual comparisons (1.1%yoy) but, in fact, they merely reflect the even lower trend last year. Perhaps more encouraging are signs of emerging labor scarcity that combined with higher profits could lead to a rise in the capital/labor ratio. TFP, or Total Factor Productivity, a reading of “true productivity” independent of factor accumulation, and thus a more accurate sign of technical progress, remains, however, in the doldrums. So far, there is nothing to indicate that long run growth is faster than 1.50-1.75%pa. In this context, the rise in ULC could be a concern. In the first reading, ULC rose 3%saar in Q1. Labor costs are picking up, which is good for consumption (and family welfare) but, without productivity gains, may short-circuit the expansion. Given the revised gain in output for Q1, this second reading should show a slower pace of increase in ULC, 2.4%saar.

Other indicators for the week, with expected non-trend altering readings, are: Monday, ISM Non-Manufacturing Composite, Factory Orders and Durable Goods Orders; Wednesday, MBA Mortgage Applications and Consumer Credit; Thursday, Initial Jobless Claims; Friday, Wholesale Inventories.

Another week dominated by political headlines. On Tuesday, begins three days of hearings at the Supreme Electoral Court (TSE) to judge the outcome of the 2014 presidential election, to impugn and possibly declared it void. At issue is the funding of the Dilma+Temer campaign. Both may be guilty, or Dilma alone, on the argument that Temer, as the VP-candidate, was not involved in the dealings of the PT, the party heading the slate. Alternatively, the judges may find no wrong doing; or they may postpone, yet again, a decision. The judgement has been ongoing for over two years. If found guilty, Temer will appeal. The TSE is a subset of the Supreme Court and he can call for a hearing before the full court, a process that could take several months to conclude. Thus, whatever the outcome, the Court’s decision will not seal Temer’s fate, or force him to resign. What could induce him, is a decision by the PSDB to walk away from his coalition, and this decision may come this week, after the TSE. Without the party’s support, Temer’s capacity to control Congress would rely heavily on the “Centrão,” the same amorphous and venal group of disparate interests that ultimately forced Dilma’s impeachment. This would be the worse outcome. An enfeebled yet recalcitrant President supported by factions of the PMDB and the whims and interests of the “Centrão,” surviving until the end of his mandate. It is not the most likely outcome. However, for him to resign, two set of incentives must align. First, those concerning his personal interests, and those of his closest collaborators. Second, and more problematic, those leading to the selection of the PMDB-PSDB coalition candidate for the presidential election in 2018. The current political/juridical crisis anticipated and narrowed the choice, in the worse of circumstances.

• Tuesday, June 6: Minutes of last week’s COPOM meeting. Together with a 100bp cut in the policy rate to 10.25%, the committee’s post-meeting statement signaled that “a moderate reduction in the pace of monetary easing relative to the one adopted today will likely be adequate in the next meeting.” This is an unusually blunt statement for the COPOM, and there was no mincing of words about the cause: risks to the reform agenda (i.e.: the vote on social security reform) given the political crisis. A “moderate reduction” in COPOM-speak is 25bp. So, the market now expects 75bp in July, to 9.50%. Likely, two additional cuts of 50bp will follow, in September and October, for a terminal rate of 8.50%–moderate enough to transverse 2018 without change.

IMPORTANT NOTICES:

This report is a general discussion of certain economic and geopolitical trends and forecasts.  It does not constitute investment advice of any kind or constitute a recommendation to buy or sell any security or other financial instrument.  Investors may not rely upon any of the conclusions or other statements contained herein.

Certain of the factual information contained herein was obtained from third party sources which the author considers reliable, but the accuracy of such information cannot be guaranteed.