by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

Good morning and happy Monday!  U.S. equity futures are modestly in the red this morning, taking a rest from recent new highs.  Our coverage today begins with China—lots of things going on in markets and geopolitics.  From there, we move to economics and policy.  GDP is out this week, and we get benchmark revisions to the data.  The FOMC meets, too, with divisions between hawks and doves widening.  Cryptocurrency news is next as bitcoin recovers.  Comments on technology and Tunisia follow, and we close with an update of pandemic news.

China:  Chinese stocks tumble, and U.S./China meetings show high tensions.

• As noted above, Chinese equities fell hard overnight after regulators moved to essentially end the for-profit tutoring industry. Chinese families often employ tutoring firms to help their children prepare for national exams.  CPC leaders have concluded that these firms have created an educational “arms race” and have decided to curtail the practice by limiting these firms through regulation.  The decision to move in this direction led to a fire sale in these equities, with declines ranging from 98% to 10%.  The government’s move against tutoring is part of a broader crackdown that has also affected the tech industry.
  • As we reported in our series on central bank digital currencies, the PBOC has been advancing quickly on establishing a digital CNY. It appears now that the government is co-opting tech firms to “help” the central bank in its quest, which will likely hurt the firms’ profits over time, as it will undermine their own electronic payments systems.
• Deputy SoS Sherman is in China today for meetings. So far, the talks have been acrimonious.  Vice Foreign Minister Xie Feng indicated that the U.S. was to blame for the deterioration in relations and called on Washington to change “its highly misguided and dangerous policy.”  China also warned against trying to contain its rise.
  • China has imposed sanctions on former commerce secretary Wilbur Ross and six others in retaliation for U.S. sanctions on various Chinese officials. It is the first use of a recently passed counter-sanctions law.
  • ProPublica has issued an investigative report on China’s practice of retrieving Chinese citizens living abroad.
• The U.K. government is looking to force China’s state-owned nuclear energy company from its new nuclear power plant and prevent Chinese firms from participating in U.K. utilities.

Economics and policy:  Negotiations on the bipartisan infrastructure bill continue, and rising used car prices lead to an unexpected benefit.

• Although deadlines have come and gone, talks on the bipartisan infrastructure bill continue. Discussions over the allocation of public transportation and roads along with how to fund the bill are currently underway.  We expect some sort of deal to be made, and then the focus will shift to the broader infrastructure bill that will be done in the reconciliation process.
• GDP for Q2 will be released on Thursday; current expectations would suggest that this quarter will mark the line between recovery and expansion. In other words, GDP will reach a new high with this data.  However, we do note that the government will issue revisions, and given the disruptions caused by the pandemic, we would not be surprised to see larger than normal adjustments to past data.
  • One element of the pandemic is that U.S. population growth slowed dramatically, mostly due to a drop in births. Falling population will tend, over time, to depress GDP.
• Railroads are facing a backup of shipping containers in the Chicago area, further evidence that the U.S. logistical system is in disarray. Supply chain problems may affect school lunches in the fall as districts try to restock after schools closed last year.
• Used car lenders face a structural problem; the collateral they lend on declines in value over time. In a current loan, this isn’t a problem.  Amortization usually at least keeps pace with the decline in value.  However, if a loan goes into default, the spread between the value of the collateral and the unpaid portion of the debt can rise, leaving the lender with a loss.  However, in a world where used care prices are rising, lenders are actually making money on repossessed vehicles.  Lenders are reporting positive net recoveries, which is unusual.
• Phoenix is seeing a boom in residential real estate as buyers flee higher-priced areas. Congress is starting to press the Fed into curtailing its balance sheet expansion.

Cryptocurrencies:  Bitcoin recovers, and regulators are circling.

• Unconfirmed reports that Amazon (AMZN, USD, 3656.64) may create its own digital currency sent bitcoin (BTC, USD, 39,544.29) higher overnight.
  • Meanwhile, state regulators are accusing BlockFi of offering unregistered securities in violation of securities law. New Jersey, Alabama, and Texas all accused the company of illegal activity.
  • Several hedge funds have stopped conducting business with Binance (BNB, USD, 318.68) as regulators scrutinize the firm’s activities.

Disinformation for hire:  Intelligence agencies have conducted disinformation campaigns for years.  The Soviets ran one of the most successful in the early 1980s, suggesting the CIA created AIDS.  Such programs use existing media to spread falsehoods designed to accomplish some goal.  Social media has improved delivery and reduced the costs of such campaigns.  And, it appears with increasing frequency that the activity has jumped from states to the private sector.  Of course, states still conduct this activity, and there is evidence that states are using this expanding private sector to expand its reach.  But, as these disinformation programs expand, it raises the likelihood that states will move to constrain social media.

Tunisia coup?  Tunisian President Kais Saied has reportedly sacked his prime minister and closed parliament for 30 days.  Tunisia’s economy has slumped because of the pandemic, and protests are rising.  The country traditionally celebrates its “Republic Day” today, and it has been marked by widespread civil unrest.  The president is at odds with parliament; Islamist parties dominate the latter.  Saied ran as an anti-corruption independent but had the support of the Islamist parties.  It would appear he has turned on them.  Although Tunisia has a modest economic footprint, it was the starting point of the Arab Spring, and thus, this situation will be closely watched by other regimes in the region.

COVID-19:  The number of reported cases is 194,296,614 with 4,162,124 fatalities.  In the U.S., there are 34,444,770 confirmed cases with 610,892 deaths.  For illustration purposes, the FT has created an interactive chart that allows one to compare cases across nations using similar scaling metrics.  The FT has also issued an economic tracker that looks across countries with high-frequency data on various factors.  The CDC reports that 394,948,975 doses of the vaccine have been distributed, with 341,818,968 doses injected.  The number receiving at least one dose is 188,472,188, while the number of second doses, which would grant the highest level of immunity, is 163,025,726.  The FT has a page on global vaccine distribution.

• One characteristic of COVID-19 is that it mostly seemed to spare children of the worst outcomes. However, reports from Indonesia suggest that the Delta variant may trigger higher morbidity among children.  Given that vaccines have not been tested on the very young, if higher death rates are a characteristic of the Delta variant, this would be a problematic development.
• Although the U.S. fiscal packages provided ample levels of rent relief, distribution has been very slow, and if it doesn’t rise, a wave of evictions is likely.
• In light of rising infections, the government is considering tightening mask guidance, recommending masks for the vaccinated. We note that St. Louis City and County have re-instituted mask mandates, effective today.  If re-instituted, we expect lower levels of compliance.
• Shionogi (4507, JPY, 5970), a Japanese firm, is starting small trials of a COVID-19 antiviral treatment that would be a once-a-day pill. Although vaccines have dominated the headlines, antiviral treatments are important as well.  It is becoming clear that current vaccines do not offer sterilizing immunity; recipients can become infected, although the likelihood of serious illness is reduced.  If effective antivirals were available, it would add another line of defense against serious illness.  Current antivirals require an IV.  Shionogi’s treatment would be in pill form, making distribution easier.
• Confirmed cases in the U.K. are declining rapidly after a sharp rise over the past seven weeks. The drop may suggest that the fast spread of the Delta variant may foster increased natural immunity.

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