Greek Accord: A Defining Moment, But Not the End of the Story

July 14th, 2015


  • Markets have rallied on news of a last-minute accord between Greece and its creditors, which lessens the risk of a “Grexit.” A key difference from previous negotiations is the requirement that the Greek government must pass mandated legislation by July 15 to be eligible for a new bailout package. 
  • This requirement, if enacted, would lessen the risk of back-peddling by Greece, and it also sets an important precedent for other countries that encounter debt problems. That said, it’s questionable whether the latest package will prove successful in transforming Greece’s economy.
  • The negotiations are a defining moment for the eurozone, as it marked the first time a member country was nearly expelled. As such, it sets an important precedent for other members, and it remains to be seen whether it has permanently altered the eurozone.
  • Amid these developments we have not altered our investment strategy, as we expect the fallout from Greece’s problems to be limited.

Greek Drama: Down to the Wire (again)

For fans of video thrillers or Greek tragedies, it’s hard to imagine a script that contains more twists and turns (including a surprise ending) than the negotiations between Greece and its creditors. Just a few weeks ago, the creditors were willing to make concessions to the Greek government on a bail-out package that would enable it to service its pending debt obligations. Instead, President Tsipras lambasted the offer and called for a referendum to demonstrate the public support it had to negotiate more favorable terms.  Read the rest of this entry »

Greek Drama

June 22nd, 2015


  • Time is running out for Greece to reach an agreement with its creditors. Without a deal, Greece will not be able to pay the €1.7 billion to the IMF that is due this month. Press reports indicate Greek officials submitted a proposal to European leaders over the weekend that include tax increases and spending cuts to hit budget targets, and markets have rallied on the news.
  • Assuming a deal is reached, it would not constitute a permanent solution to Greece’s problems: The country’s debt ratio of 175% of GDP is unsustainable. A deal would merely postpone the day of reckoning when Greece receives additional debt relief.
  • Should talks break down, Greece would likely resort to capital controls to stem the flow of money out of Greek banks. Ultimately, its fate in the eurozone would rest with the European Central Bank, which provides liquidity to the Greek central bank.
  • Thus far, the markets’ response to the drama has been muted outside of Greece and the euro has strengthened, as investors believe the eurozone is better equipped to cope with a “Grexit” today. However, such an outcome would also raise questions about the long-term viability of the eurozone.

Negotiations Reach a Critical Phase

Market participants once again are focused on Greece, as time is running out for the country to reach an agreement that would unlock funds so it can pay creditors. The IMF and European Commission (EC) are now preparing for the possibility that no agreement will be forthcoming for Greece to meet its obligations that are due at the end of this month. At the same time, Greece’s central bank urged the Greek government to accept a deal offered two weeks ago, or risk an “uncontrollable crisis” that might force the country out of the European Union.  Read the rest of this entry »

Is A Debt Problem Looming in Emerging Economies?

May 28th, 2015


  • Where is the risk of a financial crisis greatest today? This question is being asked in the wake of the 2008 Financial Crisis, and most analyses point the finger at emerging economies that expanded credit aggressively and whose property values and asset prices surged.
  • Market participants have been focusing on countries that are vulnerable to shifts in capital flows in response to weak commodity prices, rising U.S interest rates, and a stronger dollar. Two years ago, the focus was on the so-called “fragile five” consisting of Brazil, Turkey, India, South Africa, and Indonesia. More recently, plummeting oil prices and capital outflows have heightened concerns about Russia and Venezuela, while worries about India and Indonesia have lessened following presidential elections.
  • Meanwhile, researchers at the Bank for International Settlements (BIS) and the International Monetary Fund (IMF) are developing early warning systems to identify countries whose banking systems are at risk. The BIS economists find the financial systems of countries such as Brazil, China, India, and Turkey to be at greatest risk.
  • We believe much of the news about individual economies is already priced into markets, but the possibility of a global or regional crisis is not. Our assessment is the likelihood of a repeat of the experience of the 1980s and 1990s is low today, although problems in China and Brazil could spill-over to Asia and Latin America.

Concerns about Emerging Economies

In the wake of the 2008 Financial Crisis, investors have been on the lookout for the next crisis situation. For the past two years, market participants have been primarily concerned about how emerging economies would fare in a global environment where commodity prices are soft and U.S. interest rates and the dollar are rising. The reason: Emerging economies were the principal beneficiaries of strong commodity prices during the past decade and attracted record foreign capital inflows when the developed economies experienced severe recessions in 2008-09. In the meantime, however, growth rates in the emerging economies have slowed considerably, as commodity prices have softened, and their currencies have come under pressure.  Read the rest of this entry »

Market Reversals: What to Make of Them

May 13th, 2015


  • The past few weeks have witnessed reversals from trends of the past 12 months in European bond yields, the value of euro versus the dollar, and the price of oil. We investigate the factors contributing to them and assess whether they are likely to be sustained.
  • The spike in European bond yields appears to be a correction to markets that had become significantly over-valued after the European Central Bank (ECB) launched its quantitative easing program at the beginning of this year. That said, the situation is very different from the “taper tantrum” that occurred in the U.S. two years ago, as the ECB is committed to buy massive amounts of bonds at least through September of 2016.
  • At the same time, the euro has firmed against the U.S. dollar amid weaker-than-expected economic news in the U.S. and diminished expectations of Fed tightening. However, we believe the softening of the dollar will be temporary.
  • The rebound in oil prices of $15-$20 per barrel for West Texas Intermediate and Brent crude may stem from diminished supply in the U.S. However, U.S. oil production could increase later this year if prices stay at current levels, which would renew pressures on oil prices. In any case, we do not foresee a continued rise in oil prices this year.

Spike in European Bond Yields

Over the past few weeks European government bond yields have spiked by 50-75 basis points, with the 10-year German bund yield rising from a record low of 5 basis points to as high as 80 basis points. It is currently trading around 70 basis points. According to economists at J.P. Morgan, this is one of the largest and swiftest sell-offs of bunds during the Economic and Union Government Bond (EMU) era, and it appears to reflect an unwinding of positions that investors put on when the ECB embarked on a massive bond-buying program at the beginning of this year. Read the rest of this entry »

Fine-Tuning Monetary Policy in the Americas

April 13th, 2015

Remarks delivered at the International Economic Forum of the Americas on April 13, 2015.

Dear Mr. Chairman,

Thank you for the opportunity to be part of this distinguished panel and to share my views on the impact of international economic developments on Latin American economies and policies. My perspective is that of an international economist and global money manager. I am not an expert on Latin America, but I have observed the region over the past four decades both in good times and bad, including the lost decade of the 1980s, the 1994-95 “tequila crisis,” and the problems Argentina and Brazil confronted at the start of the last decade.

As the description to our session notes, Latin American economies proved highly resilient during the 2008 Global Financial Crisis. However, some observers are worried about storm clouds on the horizon stemming from falling oil and commodity prices, a strong U.S. dollar, and the prospect of Fed tightening later this year. Accordingly, the main issue I will address is: How concerned should investors and policymakers be about the external environment and its impact on the region?

An Unusually Complex Environment

In assessing the prospects for Latin American economies, one should first recognize how complex the global environment has become since the second half of 2014. Indeed, most forecasts that were made late last year are out–of-date in light of all that has transpired:

  • Oil prices have plummeted by 50%+, and other commodities have softened.
  • The U.S. dollar has appreciated by about 20% on a trade-weighted basis.
  • Interest rates in many European countries are negative now, as the ECB attempts to lessen the risk of deflation via quantitative easing.
  • At the same time, the Federal Reserve is preparing the market for an eventual tightening of monetary policy.

Normally, any one of these considerations would merit extensive analysis and debate. How, then, can anyone be confident knowing how they will play out in their entirety?  Read the rest of this entry »

Cross-currents in Financial Markets

April 7th, 2015


  • U.S. stock and bond markets fluctuated in broad ranges in the first quarter, as investors assessed a wide range of issues including the prospect for oil prices, the U.S. dollar, overseas interest rates and U.S. monetary policy. Economic news was mixed. Real GDP growth may have slowed to 1% in response to a severe winter, but jobs growth continues to be the strongest since the late 1990s, despite a softer-than-expected showing in March. 
  • The inter-play of forces makes the current situation unusually complex: Lower oil prices benefit U.S. consumers and most businesses, but hurt energy producers, while the strong dollar adversely impacts U.S. exporters and multinationals. Nonetheless, we look for the economy to regain momentum this spring and to sustain solid growth in the balance of the year.
  • At the March FOMC meeting, the Federal Reserve signaled that it is prepared to begin normalizing interest rates later this year. However, Fed officials also lowered their forecasts for economic growth and the path of the fed funds rate. Accordingly, the bond market is now pricing in only a 50 basis point increase in the funds rate this year.
  • We continue to overweight risk assets in investment portfolios on grounds that the economic cycle is likely to be prolonged and the Fed will move gradually in raising rates. 

Lower Oil Prices Are Supportive

U.S. economic growth appears to have slowed to about a 1% rate in the first quarter, but we continue to believe the underlying trend is stronger and view the 50%+ drop in oil prices since last summer as supportive. Some of the factors slowing the economy — notably a harsh winter in most of the country and a West Coast port strike — are expected to be temporary. Consumer spending may have moderated somewhat after growing at nearly a 4% pace in the second half of 2014. However, we expect it to grow at a healthy pace in the balance of this year, as strong jobs growth and low oil prices boost real disposable incomes, and consumer confidence stays high: Prior to the March report, payrolls growth had averaged 275,000 workers per month over the past year, which is the strongest since the late 1990s.  Read the rest of this entry »

The Fed’s in Play: What’s in Store?

March 11th, 2015


  • A series of strong jobs reports have lowered the unemployment rate to 5.5%, which could prompt the Fed to begin normalizing interest rates, possibly in the June-September time frame. Nonetheless, the Fed has considerable leeway, because inflation measures are still well below the Fed’s 2% target and wage pressures are absent.
  • Once the Fed makes its move, the markets will focus on the path of future interest rate hikes. The bond market is pricing in a more gradual path than what FOMC participants envision, with the fed funds rate reaching 1.5% by year-end 2016 compared with 2.5% based on FOMC members.
  • My own assessment is the Fed is likely to proceed very cautiously initially, but I expect the funds rate to peak at a higher level than what is priced into the bond market.   

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“Currency Wars”: Real or Imagined?

February 17th, 2015


  • Based on newspaper headlines, people may have the impression central banks today are pursuing actions similar to “beggar-thy-neighbor” policies during the Great Depression, when a series of currency devaluations culminated with protectionism and trade wars. 
  • The situation today, however, is quite different. While monetary policy easing in Japan, the eurozone, and other countries has weakened their respective currencies, officials from the Group of 20 recently endorsed these actions as helping to boost the global economy. In this respect, currency depreciations that result from monetary policy easing are not viewed as a zero-sum game. 
  • At the same time, there are limits to the effectiveness of quantitative easing (QE), and currency depreciation appears to be the primary channel for jump starting the Japanese and eurozone economies.
  • If so, investors need to assess when U.S. officials will object to a stronger dollar. My take is the dollar is fairly valued and will not be viewed as a problem as long as the economy grows satisfactorily and unemployment stays low. Therefore, the path of least resistance is for the dollar to continue to trend higher in 2015.

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The ECB Combats Deflation

January 21st, 2015


  • The European Central Bank (ECB) is expected to announce a program of mass purchases of government bonds this week in an attempt to counter the threat of deflation in the euro-zone. Nonetheless, while this action has long been anticipated, many observers (myself included) question whether it will succeed in jump-starting Europe’s flagging economies, considering how low bond yields in Europe already are.
  • The primary channel for it to operate is the currency markets, where the euro has fallen by more than 15% versus the dollar since last summer. In this regard, the ECB has taken a page out of the Bank of Japan’s (BOJ) playbook for combating deflation.
  • Meanwhile, the debate rages about whether countries such as France and Italy should be permitted to run larger budgetary deficits and whether Greece should receive additional debt relief. Absent any breakthroughs, my take is that the path of least resistance will be taken for the ECB to foster additional depreciation of the euro as a way of countering deflation. However, this will pose challenges for countries such as Switzerland that previously linked its currency to the euro.

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Will Japan Finally Overcome Deflation?

December 23rd, 2014


  • With his re-election as Prime Minister, Shinzo Abe will have a second try at jump-starting Japan’s flagging economy. The prevailing view among economists is there was progress towards combating deflation in the first term, but the decision to boost the national sales tax by 5% in April wound up weakening the economy. 
  • One of the purposes of holding early elections was to lay the groundwork for Abe to postpone a second round of value-added tax (VAT) increases slated for 2015, while the government embarks on a series of structural reforms. However, most economists are skeptical about what will be accomplished on this front. 
  • Meanwhile, the Bank of Japan’s (BOJ) efforts to expand its balance sheet in the past two months has contributed to a further weakening of the yen, which has now depreciated by nearly 45% against the dollar over the past two years. In my view, this is vital to improving Japan’s competitiveness and jump-starting the economy in 2015. 
  • My assessment is that the onset of deflation in Japan in the mid-1990s can be traced to an increase in the yen on a real trade-weighted basis of more than 60% over a ten-year period. Consequently, if the BOJ is able to engineer further yen depreciation, the prospects for ending two decades of deflation will be enhanced.

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