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Broadgate: Weekly Briefing 2/9

2 September 2013

Growth Beats Estimate as US Weathers Budget Cuts: Economy – The US economy expanded more than estimated in the second quarter, providing evidence that growth is picking up as the nation overcomes the effects of federal tax increases and budget cuts.

Gross domestic product rose at a 2.5 percent annualised rate, up from an initial estimate of 1.7 percent, Commerce Department figures showed on Friday in Washington. Other reports today showed claims for unemployment benefits dropped and consumer confidence weakened.

The improvement in growth shows the world’s largest economy gaining momentum after a drought, Superstorm Sandy and budget battles in Washington stalled growth in the last three months of 2012. Recent data have shown the labour market is gaining strength while home prices rise, bolstering household finances.

“The economy is doing fine,” said Brian Jones, a senior US economist at Societe Generale in New York, who correctly projected the gain in GDP. “It is going to weather the sequestration. Growth will accelerate in the second half.”

Japan’s Prices Rise Most Since 2008 in Boost for Abe – Japan’s consumer prices increased at the fastest pace since 2008 in July, as energy costs rise and Prime Minister Shinzo Abe makes progress in pulling the economy out of 15 years of deflation.

Consumer prices excluding fresh food climbed 0.7 percent from a year earlier, the statistics bureau said on Friday in Tokyo. Industrial output increased a less-than-forecast 3.2 percent from the previous month.

“Japan is moving into real inflation,” said Junko Nishioka, chief economist at Royal Bank of Scotland Group Plc in Tokyo and a former Bank of Japan official. “Today’s data is encouraging for the BOJ, and they are likely to keep monetary policy on hold.”

Higher energy costs following the shutdown of the country’s nuclear reactors drove prices higher as the BOJ rolls out an unprecedented easing that helped spur a third straight quarter of growth. The central bank’s pledge in April to double the monetary base over two years has weakened the yen, which has tumbled 20 percent against the dollar over the past year, making imported oil and wheat more expensive.

Malaysia Plans Projects-to-Subsidy Curbs to Contain Budget Gap – Malaysia said it plans to delay infrastructure projects, cut subsidies and may start a consumption tax, seeking to contain the budget deficit and bolster a shrinking current-account surplus.

Public building projects with high import content are most likely to be rescheduled, Idris Jala, a minister in the Prime Minister’s Department, told reporters in Kuala Lumpur on Thursday. The government may unveil plans to adjust subsidies as early as next week and is trying to include a goods and services tax in its 2014 budget, said Mohd Irwan Serigar Abdullah, secretary general at the finance ministry.

Asia’s policy makers are working to regain investor confidence as the prospect that the US will reduce stimulus spurs outflows from the region, with Indonesia’s central bank holding an unscheduled board meeting on Thursday. The ringgit has fallen 7.9 percent this year, and Fitch Ratings cut Malaysia’s rating outlook to negative last month, citing the Southeast Asian nation’s rising debt levels and lack of budgetary reform.

“The market expects us to manage our deficit and balance of payments in a way to ensure the market will have confidence in the macro and fiscal management of this country,” Prime Minister Najib Razak told reporters in Putrajaya, outside Kuala Lumpur. “The details relating to that will be announced when appropriate.”

The benchmark FTSE Bursa Malaysia KLCI Index has fallen 5.9 percent from a record on July 24.

Construction of a subway in Kuala Lumpur, the country’s biggest infrastructure project, won’t be among those projects held up, said Jala, who heads the government’s Performance Management & Delivery Unit.

Dialogues on the implementation of a goods and services tax have been underway, said Najib, who is also finance minister. “Whether this is included in the budget or not, we’ll have to wait for the budget,” said the premier, who is due to deliver his 2014 fiscal plans on 25 October.

GST would take 14 months from next year to implement if the government goes ahead, Irwan said. To ease the public’s burden, rebates would be given to some people and smaller companies, and some essential items like rice and baby milk could be zero-rated, he said.

A consumption tax is “a must not an option,” said Irwan.“We are trying our best to include it in this year’s budget.”

Malaysia is on target to lower its budget deficit to 4 percent of gross domestic product this year and to 3 percent in 2015, Irwan said. It aims to achieve a surplus in 2020, he said.

“The steps announced are reassuring and will help calm fears about the large fiscal deficit and debt, and worsening current-account position,” Chua Hak Bin, a Singapore-based economist at Bank of America Corp., said by e-mail. “What will probably help are also steps to address ballooning government spending and operational costs, and not just tax increases.”

Brazil raises interest rate to 9% to battle inflation – The central bank’s monetary policy committee, the Copom, voted unanimously for a third straight half percentage point rate rise. The Copom left the door open for more hikes by reiterating that the latest rise is part of an ongoing rate-adjustment process. A fall in the value of Brazilian real has stoked inflation, currently 6.15%.

The currency’s fall has been blamed on an outflow of capital triggered by expectation that the US Fed will end its stimulus policy, leading to a stronger dollar. The real has lost 20% of its value against the dollar since the start of the year. Other emerging nations, including in southeast Asia, have suffered similar currency problems.

Higher interest rates would help Brazil control inflation, and also bolster investors’ confidence, the International Monetary Fund said in a report on Wednesday. Fabio Akira, chief Brazil economist at JPMorgan, said further rate hikes were likely. He is forecasting a 50 basis points rise in October and another 25 points rise later in the year. Last week, the real fell to as low as 2.45 to the dollar, its lowest level since December 2008.

Spotlight On: Europe – Escape from Austerity

In Europe there are finally signs that the long nightmare of the debt crisis is drawing to a close, although few Europeans can have a positive perspective on current economic conditions. The unemployment rate at 10.9% across the European Union (and 12.1% in the eurozone) represents a colossal waste of human potential and accumulated misery. Moreover, two ugly recessions have left real output across the continent below its level of six years ago.

However, there are unmistakable signs that Europe is on the mend. The actions of the European Central Bank (ECB) in recapitalising the banking system and standing behind the government bonds of peripheral nations have convinced investors to bid down the yields on sovereign debt, reducing the risk of another financial crisis. In the real economy, the eurozone composite purchasing managers’ index (PMI) in July was at its highest level in two years, suggesting a return to positive real GDP growth. At a micro level, the economy is benefiting from improving consumer confidence, a return to trade surplus and plenty of pent-up demand.

However, the European crisis has never been about Europe as a whole but rather the radical difference in economic performance across Europe and how currency union has bound regional fortunes together. Total employment is still falling, deficits are still high and the debt-to-GDP ratio is still rising in most of the nations at the centre of the debt problems of the last decade.

This remains a significant risk for Europe. The advent of the euro led to a significant increase in the interdependence of European financial systems, and the various stuttering attempts to stem the problems in the periphery have only increased this mutual dependence. Even as a long-term proposition, an exit of a peripheral country from the euro due to domestic economic collapse would inflict painful losses on eurozone taxpayers and likely revive crisis conditions with their now well-known disastrous implications for lending.

For investors, however, this continuing risk needs to be considered in the context of some compelling valuations in European equities. The ECB’s very accommodative stance and its equally dovish guidance (in line with both the Fed and the Bank of England) have left both short-term rates and long-term Bund yields at extremely low levels. Indeed, the gap between the earnings yield on stocks and long-term term government bond yields is significantly wider in Germany than in either Japan or the US, suggesting there is value to be found in European equities.

BWB

The information set out herein has been obtained from various public sources and is by way of information only. Broadgate Financial can accept no liability of any sort in relation thereto and readers should obtain their own verification of any statement before making any decision which may have any financial or other impact.

Neither the information nor the opinions herein constitute, or are they to be construed as, an offer or a solicitation of an offer to buy or sell investments.

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