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

[Posted: 9:30 AM EDT] | PDF

Good morning on the eve of a major lunar eclipse! U.S. equity futures are moving higher this morning, and oil prices are ticking higher as well, despite U.S. pressure for a wider SPR release.  Our coverage begins with comments on debt market stability.  There is a lot of China news as we try to analyze recent CPC meetings.  Up next is economic and policy news, with the international news roundup afterward.  We close with our regular pandemic update.

Market stability:  One area we watch closely is the resiliency of the Treasury market.  Treasuries are the backbone of the financial markets and the internal financial plumbing of the financial markets.  Recent market events, such as the repo crisis in August 2019 and the March 2020 financial freeze, are all tied to the market’s inability to manage the flow of credit.  We are seeing some hints of problems now.  Our take is that the massive borrowing by the Federal government, coupled with capital requirements of the primary dealers, is leading to instability.  The recent poor 30-year T-bond auction appears tied to this issue.  Regulators are attuned to the problem but seem to lack a deep understanding of how to address it.  Regulators met yesterday to discuss the issue.  The general conclusion is that central clearinghouses are the answer.  Perhaps.  We have long experience with futures clearinghouses, and we know they are very good at protecting the exchanges and the clearinghouses themselves but generally don’t care about the participants.  At the same time, a properly functioning clearinghouse can force participants out of positions before they become a systemic problem.  Another potential response is to fortify the Fed’s lender of last resort to become a dealer of last resort.  However, until these issues are resolved, the financial system will remain susceptible to sudden stops in liquidity that can trigger financial crises.

China news:  A crackdown on crypto, an easing on real estate lending, and more on the recent party conference lead today’s comments.

• The crackdown on crypto mining in China snared a high-ranking CPC provincial official in Jiangxi. According to party documents and reported in the media, Xiao Yi was accused of taking bribes and other nefarious activities in allowing crypto mining operations to be established in the province.  Although Texas has seen an influx of mining operations, Chinese operators are apparently moving their talents to Singapore, which has a large Chinese diaspora.
• In the face of continued pressure in the real estate market, Chinese officials appear to be easing regulations to increase available liquidity to the sector. State-owned real estate developers are boosting land auction activity, a key funding source for local governments.  Regulations on asset-backed security (ABS) sales appear to have eased as well, leading to increased issuance.  The ability to borrow using assets as collateral will increase available liquidity.
• The recent party meetings where Xi was portrayed as the natural successor to Mao and Deng are still resonating; analysts are combing through the lengthy documents for clues to future behavior.
  • The “throwback” references to the Mao era in Xi’s writings are remarkable. Deng was able to move on from Mao by openly discussing his failures.  Xi appears to be using Mao’s nostalgia to undercut Deng’s policies.  It is clear that Xi is portraying himself as the next major CPC figure.  He has indicated that his drive to consolidate power was all about moving the country forward and making sure he stays in office as long as he likes.
  • Xi seems to be downplaying the role of GDP targets. If China is going to bring its debt growth under control, investments driven by debt will likely need to stop.  The downside is that this action will lead to slower economic growth.  If the GDP targets are deemphasized, there is a better chance that economic restructuring can occur.
  • There also seems to be a return to the earlier position on Taiwan, which is that unification can happen naturally in the future. Xi did warn that any action to declare independence would trigger a military response.
• Although recent actions suggest China may be trying to walk back recent belligerence, the U.S. is moving in a direction that assumes a hostile relationship with China.
  • The U.S. is looking to bolster trade relations in Asia, although not joining the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) undercuts the effort.
  • A Congressional commission recommends the U.S. scale back commercial relations with China.
  • We are seeing financial firms getting increased access to China, but it is unclear how long this opening will last. It is possible the U.S. may be the bigger obstacle.  Meanwhile, it is abundantly clear that Beijing sees the U.S. business community as an ally and pressure point against China hawks.
  • We see one area of cooperation; Washington has asked Beijing to release oil from their SPR in a bid to lower prices.
  • At the same time, this potential “thaw” should be treated with caution. China is still trying to expand its reach across the globe, especially in data control.  This data control is also affecting global shipping.
• The EU is delaying its trade upgrade legislation regarding Taiwan.
• The World Tennis Association continues to express concern over Peng Shuai, the Grand Slam doubles champion linked to a sex scandal with a high-ranking CPC official. There has been a new release purporting to be from Peng, but there is little confidence she actually issued the press release.
• Tsinghua Unigroup (600100.ss, CNY, 5.68) is seeking a deep-pocketed buyer. The company is an important element in China’s goal of tech independence.
• The U.S. has named a director for AUKUS.
• Australia has named 63 areas of technology that won’t be shared with China.
• Longer-term, China is facing a nearly insurmountable demographic problem.

Economics and policy:  Inflation dominates the newsflow.

• The White House is growing increasingly worried about inflation. Unfortunately, the executive branch has limited tools to affect price levels.
  • Oil prices have become a sensitive issue for the administration. Not only has Washington asked Beijing to release SPR oil, but other Asian nations have received similar requests.
• An increasing number of FOMC members are pushing for tighter policy. It remains to be seen if Chair Powell can overcome growing opposition to accommodation.
• We are starting to see mainstream center-left economists calling for rate hikes. Jason Furman is a potential candidate for a Fed governor role, but a recent op-ed may eliminate him as a nominee.  Or not.  If President Biden is serious about controlling inflation, he should be looking for a hawk to replace Chair Powell.  Presidents supporting hawkish monetary policy are quite rare; President Carter was arguably the only one since Fed independence since 1951 (even President Truman, who approved the deal for independence, was uncomfortable with the arrangement).  The political cost Carter paid should be a cautionary tale for any president.
• As prices rise, households are adapting. Retail traffic is rising at discount stores as shoppers try to stretch their incomes.  The nascent goods exchange network reports increased activity as well.
• Saule Omarova, the nominee for comptroller of the currency, is scheduled to appear before the Senate Banking Committee. She is a controversial selection, supporting ideas like government saving accounts for the unbanked.  Given that she won’t get any GOP support needed to be approved by the committee, she will need all the Democrats to sign off on her nomination.  That may not be possible.
• Banks are boosting credit card offers, hoping to encourage households to carry balances. Balances fell sharply during the pandemic, as households used their support payments to pay down balances.

• Despite calls for 24/7 port activities, in practice, it isn’t happening. Truckers who handle container shipments to warehouses have not been coming to take cargos at night.  Part of the issue is due to truckers wanting to avoid night work.  Another factor is that warehouses are not structured for 24/7 activities.  In some cases, local community rules prevent night work.
• John Deere (DE, USD, 353.52) workers have ended their strike after the company boosted its base productivity pay offer.
• National defense legislation appears poised to move through Congress.
• The population center of the U.S., from the most recent census, is Wright County, MO.

International roundup:  The Turkish lira plunges, the “three amigos” meet today in Washington, and Belarus is starting to ponder a plan for all these refugees.

• Turkey’s central bank cut its main policy rate by 100 bps to 15%, sending the TRY to new lows against the dollar. President Erdogan holds the position that high-interest rates contribute to inflation and has undercut the central bank’s independence to force unorthodox rate reductions.
• The dollar has been stronger recently across the board, mostly on ideas that the Fed will need to raise rates sooner than other central banks.
• As we have been discussing recently, Belarus has been using Middle East refugees as a weapon against EU sanctions. However, one problem with this policy is that if it fails and the refugees can’t enter the EU, what does Minsk do with all these people?  We doubt he can send them back, and the country doesn’t really have the resources to house them.
• Leaders of the USMCA meet today in Washington in what could be an acrimonious summit. Canada and Mexico are deeply intertwined in the U.S. auto industry supply chain, and recent legislation that would give higher tax credits to U.S. UAW EVs is a sore point for both nations.  It’s not popular with non-UAW auto firms either.
• The EU’s top court says Poland’s rules on appointing judges violate EU law, setting the stage for a confrontation between Warsaw and Brussels.
• The U.S. and U.K. say Iran is behind recent cyberattacks.

COVID-19:  The number of reported cases is 255,174,017, with 5,127,127 fatalities.  In the U.S., there are 47,421,879 confirmed cases with 767,439 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 558,460,315 doses of the vaccine have been distributed, with 444,789,186 doses injected.  The number receiving at least one dose is 228,175,638, while the number receiving second doses, which would grant the highest level of immunity, is 195,612,365.  For the population older than 18, 70.7% of the population has been fully vaccinated, with 58.9% of the entire population fully vaccinated.  The FT has a page on global vaccine distribution.  The Axios map shows rising cases as colder weather increases indoor gatherings.

• One downside of lockdowns is that they increased the incidence of mental health problems. In the 12-month period ending in April 2021, drug overdose fatalities topped 100,000, a new record.  This map shows the distribution of drug overdose deaths.
• Pfizer (PFE, USD, 50.87) announced it will allow developing nations to acquire its antiviral drug at a low cost. The U.S. is also pressing vaccine makers to expand global supplies.
• The FT has an in-depth investigation of “gain-of-function” gene experiments. Not only is the lax security and safety precautions worrisome, but the reason for doing such work is hard to justify.
• Europe is facing a new surge in cases, especially in central and eastern areas of the continent. Already, nations are imposing various levels of lockdowns and other restrictions.
• Reports indicate that schools inadvertently purchased air quality systems that either failed to work or were dangerous.

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

[Posted: 9:30 AM EST] | PDF

Today’s Comment begins with a range of U.S.-related developments, including news that Monday’s summit between Presidents Biden and Xi opened the possibility of negotiations for a nuclear arms control deal with the U.S. and China.  We next turn to several international developments before wrapping up with the latest news on the coronavirus pandemic.

United States-China:  National Security Advisor Sullivan announced that Presidents Biden and Xi agreed in their virtual summit on Monday to explore the possibility of a nuclear arms control deal between the U.S. and China.  The White House offered no further details, and any such deal would likely take years to negotiate, especially since Russia would almost certainly have to be included in the talks.  Nevertheless, any commitment to launch such discussions is a step toward cooperation that could help manage the growing geopolitical rivalry between the U.S. and China.  On balance, it’s probably a positive for investors in risk assets.

U.S. Monetary Policy:  President Biden hinted to reporters that his decision on reappointing Federal Reserve Chair Powell to another term would come around the end of the week.  Powell still appears likely to get another nod, which would likely be taken well by the financial markets.  However, there is still an outside chance Biden will tap the more liberal Fed governor, Lael Brainard.  In that case, the announcement would likely spur sharp volatility, at least in debt markets.

U.S. Fiscal Policy:  As a reminder that the U.S. still could face a debt crisis in the coming weeks unless the nation’s borrowing limit is raised, Treasury Secretary Yellen warned in a letter to Congressional leaders that the government may run out of money to pay its obligations by December 15.  Without a doubt, the next negotiations to raise the limit will involve the usual brinksmanship on the part of both Democrats and Republicans.  Any resulting standoff could be disturbing to the financial markets.

European Union – Financial System:  In its latest semiannual financial stability report, the European Central Bank warned that increased “exuberance” in housing markets, junk bonds, and crypto assets have created vulnerabilities that will be exposed if higher-than-expected inflation leads to a sharp rise in interest rates.  Echoing what we and many other analysts have noted, the report states that rising inflation and falling real interest rates have prompted investors to take greater risks in their search for yield, leaving parts of the property, debt, and crypto asset markets more susceptible to corrections.

European Union – Trade Policy:  In a further sign that environmental protection concerns are becoming more entrenched in trade policy, the EU said it drafted an anti-deforestation law that will ban the import of six products that are often associated with land-clearing in less developed countries: beef, soy, palm oil, coffee, cacao, and timber.

• The six products alone account for approximately 19% of all EU commodity imports.
• The regulation would force companies to prove that products they sold into the EU did not contribute to legal and illegal deforestation or forest degradation.

India:  Amid a wave of dangerous air pollution, the Indian government has closed six of the 11 coal-fired electricity plants within a 300-kilometer radius of New Delhi.  The Commission for Air Quality Management also closed schools and colleges until further notice, banned private construction work, and restricted the entry of trucks into the city until November 21.  Based on the experience in China, where authorities also recently closed many power plans to cut pollution, there is some risk that the Indian move will disrupt economic activity, at least around the capital city.

Iran:  Diplomatic reporting indicates Iran has resumed producing equipment for advanced uranium centrifuges at a site in the city of Karaj that the UN atomic-energy agency has been unable to monitor or gain access to for months.  The renewed work has raised concerns that Iran could start secretly diverting centrifuge parts if Tehran chooses to build a covert nuclear-weapons program, although they say there is no evidence at this point that it has done so.

COVID-19:  Official data show confirmed cases have risen to 254,589,111 worldwide, with 5,118,866 deaths.  In the United States, confirmed cases rose to 47,312,411, with 765,919 deaths.  Vaccine doses delivered in the U.S. now total 556,077,145, while the number of people who have received at least their first shot totals 227,691,941.  Finally, here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• According to the latest CDC data, 68.6% of the U.S. population has now received at least one dose of a vaccine, and 58.9% of the population is fully vaccinated.
• Before Japan started administering shots, it had one of the lowest rates of vaccine confidence in the world.  Now, the country — which started doling out immunizations months after the U.S. — has the highest inoculation rate among the G7 nations, without mandates of any kind!
  • Japan had now fully inoculated 75.5% of its population of 126 million people.
  • That pushed the country just ahead of Canada, with 75.3% of its population fully vaccinated.
• Pfizer (PFE, $49.60) has asked U.S. health regulators to authorize its oral protease inhibitor drug (which differs from its vaccine) for high-risk COVID-19 patients.  That puts the pill, Paxlovid, on course to be available for people to take at home by the end of the year.  The pill has been shown to be an easy-to-use treatment to keep people out of the hospital in the early course of the disease.

 Economic and Financial Market Impacts

• Nurses are winning enormous salary increases across the country, reflecting not only the tight labor market as pandemic lockdowns ease but also the need to compensate nurses for heavy COVID-19 caseloads in some areas.  According to healthcare consultants Premier, Inc., the average annual salary for registered nurses, not including bonus pay and overtime, grew about 4% in the first nine months of the year to $81,376.
• The tight, post-pandemic labor market also helped fuel widespread increases in state and local governments’ minimum wage.  While there’s still plenty of debate on whether or not those minimum wage hikes have an effect on hiring, a new study shows that higher minimum wages tend to result in better service.

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

[Posted: 9:30 AM EST] | PDF

In today’s Comment, we open with a few important international developments, including last night’s U.S.-China virtual summit and a potential worsening of Europe’s energy crisis.  We also cover several other U.S. and foreign economic and political developments.  We wrap things up with the latest news related to the coronavirus pandemic.

United States-China:  In their three-and-a-half-hour virtual summit last night, Presidents Biden and Xi reportedly talked extensively about China’s threatening stance toward Taiwan, with Biden calling for “guardrails” that could keep the situation from veering into outright conflict.  However, the two leaders were unable to agree on any such measures.  Indeed, on the Chinese side, Xi warned Biden that advocates of Taiwan independence and anyone supporting them were “playing with fire” and would “burn themselves,” according to state news agency Xinhua.

• Importantly, the initial statements by Biden and Xi were conciliatory, and press reporting so far suggests the meeting may have helped stabilize the U.S.-China relationship.  All the same, it achieved little else beyond mutually vague pledges to improve cooperation.  As signaled before the meeting, the two sides didn’t even try to agree on a joint communique after at summit’s end.
• In addition to Taiwan, the U.S., the White House said Biden had raised concerns about Chinese policy in Xinjiang, Hong Kong, and Tibet, and more broadly, on human rights.  He also brought up longstanding concerns about unfair Chinese trade tactics and technology theft.  There was also apparently some discussion of strategic nuclear weapons held by the two sides.  However, as mentioned above, there were apparently few, if any, breakthroughs.  The main benefit of the meeting was simply for Biden and Xi to improve their understanding of each other.
• U.S.-China relations will likely remain competitive and tense, with some risk of an accidental crisis at some point.  On the other hand, the summit serves as a reminder that the U.S.-China competition will probably involve periods of both intense friction and détente.  Risk markets could be swayed by the ebb and flow of tensions, making it difficult for investors to know how to respond.  It will put a high premium on closely watching and analyzing the evolving relationship over time.

United States-Russia:  The U.S. government has slammed Russia for conducting a missile test that blew up a Russian satellite, creating a debris cloud that endangered the seven-member crew, including two cosmonauts, aboard the International Space Station (ISS).  According to the State Department, the test generated over 1,500 pieces of trackable orbital debris and hundreds of thousands of pieces of smaller orbital debris that now threaten all manner of satellites and spacecraft.

U.S. Fiscal Policy:  As expected, President Biden signed into law his centerpiece “hard” infrastructure bill, which will spend some $1 trillion in the coming years to repair, expand, and modernize multiple types of physical public works facilities, from roads and bridges to mass transit systems and broadband communications networks.

• Notably, Biden signed the legislation shortly before his virtual summit with President Xi, underscoring how the administration sees the bipartisan political victory as strengthening the U.S.’s hand in its geopolitical rivalry with China.
• One impact of the legislation has been to boost prices for municipal bonds, given that provisions that would have expanded the supply of such bonds were ultimately dropped from the bill.

U.S. Labor Market:  The International Alliance of Theatrical Stage Employees, which represents more than 150,000 film-studio workers, narrowly approved two key contracts with Hollywood studios yesterday.  Although pay rates weren’t a major issue in the negotiations, the contracts did involve a number of improvements to working conditions, illustrating the increase in workers’ market power at present.

European Energy Crisis:  Speaking at a commodities conference, the chief executive of one of the world’s top commodity traders warned that a lack of natural gas in storage means that Europe risks rolling power outages if there is a prolonged period of cold weather this winter.

• Last month, President Putin ordered Russia’s state gas giant Gazprom (OZGPY, $9.32) to begin filling the storage facilities it controls in Germany and Austria, boosting hopes that exports to Europe would rise.  However, there have been only limited increases in supply from Russia over the past week, and on Monday, Gazprom booked lower pipeline capacity for December.
• Russia’s shipments have been widely seen as a way to pressure Germany to speed up certification of the newly completed Nord Stream 2 gas pipeline between the two countries.
  • However, Germany’s energy regulator today said it could not yet approve the project because its owners had not yet properly set up an operating subsidiary according to German law.
  • In response to the delayed certification, U.K. gas contracts for December delivery jumped almost 10% to £2.24 per therm, while the European benchmark gained 8% to €87.80 per megawatt-hour.  Both contracts are now trading near their highest level in the past month.
• The delayed certification could be the result of behind-the-scenes political maneuvering by countries or politicians wary about Russia’s stranglehold on Europe’s energy supply.  In any case, the key message here is that Europe’s overall energy supply situation remains fragile going into the winter.  A long cold snap or intensifying energy politics could present a substantial risk of economic disruptions that would be negative for European risk assets.
• On a more positive note, the International Energy Agency said in its monthly report today the tight supply and demand balance in the global crude oil market could be about to ease.  This could result from rising production and moderation in fuel demand as prices rise and winter coronavirus waves cause some economic lockdowns.

United Kingdom:  The British government raised the country’s nationwide terrorist threat level to severe yesterday after a would-be attacker in Liverpool killed himself when he detonated an explosive device in the back of a taxi on Sunday.

Armenia-Azerbaijan-Russia:  Armenia has asked Moscow for assistance in defending against Azerbaijan amid renewed clashes along the border, a year after a cease-fire stopped an intense war over the breakaway region of Nagorno-Karabakh.

Cuba:  The government deployed large numbers of police and plainclothes security forces to thwart a mass pro-democracy protest planned for yesterday.  However, despite the government’s success in short-circuiting the protests, anti-government sentiment has been percolating and poses the risk of instability if it grows further.

Global Financial Markets:  In an interview with the Financial Times, former PIMCO bond guru Bill Gross warned that ultra-low interest rates and massive bond-buying by the world’s major central banks have created a “dangerous” bout of financial euphoria in everything from stocks to digital assets.  According to Gross, “It’s all dreamland that’s been supported by interest rates that aren’t where they should be.”

• At the same time, ultra-low interest rates and high asset prices continue to make it harder for public pension funds to hit their return targets and cover their obligations.
• In response, the board of the California Public Employees’ Retirement System (CalPERS) has voted to let the fund use borrowed money and alternative assets to meet its investment-return target of 6.8%, even after lowering that target just a few months ago.

COVID-19:  Official data show confirmed cases have risen to 254,017,862 worldwide, with 5,110,909 deaths.  In the United States, confirmed cases rose to 47,222,900, with 764,427 deaths.  Vaccine doses delivered in the U.S. now total 553,705,305, while the number of people who have received at least their first shot totals 227,133,617.  Finally, here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• According to the latest CDC data, 68.4% of the U.S. population has now received at least one dose of a vaccine, and 58.8% of the population is fully vaccinated.
• Several cities and states have begun to offer boosters to all adults, moving beyond federal guidelines in a bid to prevent another wave of cases as people head inside during the cold weather.
• Pfizer (PFE, 49.65) has agreed to a royalty-free licensing deal with the UN-backed Medicines Patent Pool to expand low-cost access to its COVID-19 antiviral pill (not its vaccine) throughout the developing world.
• In Japan, the government reportedly will relax its restrictions on vaccine booster shots, allowing them as soon as six months after the last initial shot if local authorities deem it necessary.

 Economic and Financial Market Impacts

• Businesses suing insurers for billions in losses from COVID-19 shutdowns are entering a new phase: jury trials.
  • Over the past year, judges have ruled in favor of insurers in hundreds of cases, backing up the carriers’ rejections of “business interruption” insurance claims.
  • Many of those rulings have involved policies with virus-specific exclusions, which can make the cases more open-and-shut for judges.
  • Now, however, more cases are moving to jury trials, which could expose insurers to many more large payouts.

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

[Posted: 9:30 AM EST] | PDF

Good morning and happy Monday!  U.S. equity futures are pointing to a higher open, while oil prices continue to decline.  President Biden will hold a signing ceremony for the infrastructure package today.  Our coverage begins with an overview of today’s leader summit with China and the U.S.  An update regarding tensions in Belarus and Ukraine follows.  We recap the COP26 next.  In our regular coverage, we begin with China and international news.  Economics and policy follow.  A word on crypto comes next, and we close with our usual pandemic update.

U.S./China virtual summit:  General Secretary Xi and President Biden will hold a virtual summit meeting today.  In some respects, this meeting is not really a summit.  In the past, summit meetings had agendas, and concrete decisions are usually made before the leaders meet.  That way, the summit is something of a signing event.  This meeting is much lower key.  The U.S. has been downplaying the event, and no clear objectives have been put forward.  We would expect several issues to be at least discussed.  First, the situation with Taiwan will almost certainly be on the agenda.  President Biden has, on more than one occasion, suggested the U.S will overtly defend the island from attack, which would be a departure from the strategic ambiguity that marks the relationship between the U.S., Taiwan, and China.  The second issue will be the intersection of Xinjiang and the Winter Olympics.  We expect Xi will invite Biden to come to the opening ceremony; all signs suggest that the U.S. president will decline.  However, we don’t expect a boycott from the U.S.

Although we don’t expect much from today’s meeting, we have seen some evidence of a thaw.  Recently, Xi sent a letter to the National Committee on U.S.-China relations suggesting China wants to enhance cooperation.  This missive was sent before today’s meeting.  The USTR has indicated that China is making progress on the Phase 1 trade deal.  It’s possible Xi has figured out that he has overplayed his hand.  The U.S. isn’t fading into the dark as quickly as Beijing thought, and the real estate issues in China are so bad that Xi needs to cool tensions with Washington to buy space and time to manage it.  If a thaw is underway, we may see more results today than we expect.

Ukraine/Belarus:  Although the Russian troop buildup on the Ukraine frontier isn’t directly tied to the refugee crisis on the Belarus/Poland border, they may be starting to affect each other.  Let’s start with Belarus.  Over the weekend, media reports indicate that Belarus is clearly weaponizing refugees.  Belarus is providing them visas, facilitating flights to Belarus, and encouraging them to go to the border with Poland.  Additional reports indicate Minsk transported these refugees to the border and provided them with “wire cutters.”  Conditions on the border are deteriorating rapidly.  There are an estimated 4,000 refugees from the Middle East on the border in a sort of “no-man’s land,” where the Polish border guards are pushing them back to Belarus, and the Belarusian counterparts do the same thing to the refugees on their side.  The EU is considering additional sanctions against Minsk for the ordeal, but it isn’t obvious that they will deter Lukashenko.  However, the EU has been able to use its influence to halt the boarding of Syrians and Iraqis to Belarus, which should slow the flow of refugees to the border.

Meanwhile, Russian President Putin reminded Belarusian President Lukashenko that the latter has no control over natural gas flows to the EU, even though the pipes transverse Belarus.  This chiding may suggest that Russia is finding Lukashenko’s actions tiresome.

In the midst of the border crisis, the U.S. is sending high-level warnings to the EU that Russia may be planning military actions against Ukraine.  SoS Blinken apparently discussed the situation with his French counterpart.  We know that Ukraine controls Crimea’s water supply, and we would not be shocked to see Russia use military force to secure flows to the area.  We don’t see the U.S. and Europe moving to support Ukraine with direct military intervention, and the Kremlin may have concluded it can force Ukraine back into its sphere of influence.

COP26:  The climate meeting ended over the weekend with disappointment, which says more about the optimism of the participants than the realistic expectations of what could be accomplished.  There was some progress on methane, but the ending of coal use was scotched by India and China.  International cooperation on climate issues suffers from the free-rider problem.  Thus, there are many comments on what needs to be done and how other nations need to take the painful steps to achieve that end.

China news:  Australia says it will support Taiwan.

• Australia says it will support the U.S. in defending Taiwan if China attacks the island. It is further evidence the U.S. is building a coalition around China, attempting to isolate Beijing.
• China is accusing the EU of upending global trade. The EU, like the U.S., is in the process of deglobalizing and building resilience into supply chains, which looks to China like trade barriers.  The EU, realizing the U.S. is serious about its pivot to Asia, is attempting to build relations in Southeast Asia.
• As China tries to contain debt growth in its real estate sector, home prices are falling, a notable risk to its economy. As the sector retreats, there are growing worries the shrinkage will adversely affect other industries as well.
• In response to the logistical problems, shipping firms are increasing orders for ships, which is boosting the fortunes of China’s shipbuilders…and maybe the PLA Navy.
• Although the U.S. political class is turning against China, major American businesses have apparently not gotten the message or are choosing to ignore it. This divergence is a potential risk factor for these businesses.

International roundup:  Cuba sees rare protests, and a familiar name emerges in Libya.

• There will be a day of protest in Cuba against the lack of food. Although the latter isn’t anything new, the former is unusual in Cuba and is usually met with repression.  Security forces are detaining protest leaders before the scheduled protest.
• Libya is expected to hold elections next month, and Seif al-Islam el-Qaddafi has announced his candidacy. The son of the late dictator filed papers to participate in the election.  His candidacy is a bit awkward since an international arrest warrant is outstanding for two crimes against humanity.  It is unclear if he has much support.  Libya is still in a civil conflict, and no polling is being conducted.  He clearly has name recognition and would create a problem for the West if he wins.
• The EU and U.K. remain at loggerheads over trade in Northern Ireland. The EU is preparing retaliation measures, a signal to the U.K. that Brussels is serious about the issue.
• There have been widespread protests against the junta in Sudan; security forces have reportedly opened fire on protestors in response.
• The Peronists suffered huge losses in the midterm elections held over the weekend. The country is dealing with 50% inflation, and the Peronists have not been able to bring prices under control.

Economics and policy:  Supply disruptions continue, and labor is gaining power.

• Logistical snarls are affecting a wide variety of industries. Farmers are being adversely affected by the inability to export.  High-end bicycle manufacturers are warning that parts shortages will lead to fewer bikes.  On the other hand, there was a glimmer of good news.  Pacific shipping rates are falling.
• Remember how John Deere (DE, USD, 358.86) told the UAW that it had made its last, best offer? Apparently, that wasn’t the case.  There are multiple causes for the labor shortage, but the one having a significant impact is the retirement of workers over age 55.
• The U.S. isn’t the only nation seeing workers opt for working from the country. Japan appears to be having a “Green Acres” moment.  Also like the U.S., Japan’s Q3 GDP slumped.
• Manufacturing firms are facing a shortage of magnesium, and China supplies 80% of the market.
• Mary Daly, President of the San Francisco FRB, has turned down a nomination for an open FOMC governor seat.

Crypto news:  The SEC has rejected a bitcoin-backed EFT.  The U.S. has approved ETFs that are futures based but refuse to allow for those backed by bitcoin, fearing that the providers won’t be able to source the coin.  A Florida court case could reveal the real name of bitcoin’s creator.

COVID-19:  The number of reported cases is 253,474,331, with 5,103,223 fatalities.  In the U.S., there are 47,074,698 confirmed cases with 763,092 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 553,802,305 doses of the vaccine have been distributed, with 440,559,613 doses injected.  The number receiving at least one dose is 226,607,653, while the number receiving second doses, which would grant the highest level of immunity, is 195,120,470.  For the population older than 18, 70.5% of the population has been vaccinated.  The FT has a page on global vaccine distribution.

• As we noted last week, as the temperatures fall in the upper tier of states, infections are rising as people move indoors. As temperatures moderate, the south is seeing falling cases.
• Austria has announced lockdown orders for those unvaccinated.
• The anti-viral treatments show promise, but we note that the tests were conducted on unvaccinated patients. It is uncertain whether they will work on those who have been vaccinated.

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

[Posted: 9:30 AM EST] | PDF

Good morning! U.S. equity futures are signaling a higher open this morning. Today’s report begins with U.S. economic and policy news, followed by our roundup of China-related stories. International news is next, and we conclude with our pandemic coverage.

Economics and policy:

• Senator Joe Manchin (D-WV) stated he opposed the tax credit for union-made electric vehicles. He argued that the credit would unfairly allow automakers to offer steeper discounts than their competitors. Manchin is a key vote needed to get the social spending bill passed, so his opposition to the tax credit could mean that it gets dropped from the bill.
• Jerome Powell’s chances of being reappointed as Federal Reserve Chair received a boost from the White House on Thursday. An official from the Biden administration suggested that his stock sales will not disqualify him from being renominated. Prediction markets currently show that Powell is still favored to retain his seat.
• Miami’s mayor plans to give residents the proceeds from the city’s cryptocurrency. Residents will be able to collect their crypto by registering their own digital wallets.
• The social spending package pushed by progressives is expected to cut taxes for most millionaires, according to the Tax Policy Center. If passed, The bill will give 65% of millionaires an average tax cut of about $17,000. The reduction in taxes is largely due to the removal of the cap on state and local tax deductions. Although lower taxes for millionaires undermines the progressives’ goal of raising taxes on the wealthy, we suspect that the removal of the SALT cap deduction is a key reason moderates are still considering passing the spending bill.
• The global push to fight climate change has encouraged investors to divest from fossil fuels. Six European firms have announced plans to stop investing in shipping carriers that transport coal. The move comes after the countries agreed to begin the complete phaseout of coal at the COP26 conference.

China:

• U.S. Trade Representative Katherine Tai stated China has not made the agreed-upon purchases of Boeing (BA, $219.26) aircraft. The critique comes as the White House prepares for discussions with Beijing over the progress of the phase-one trade deal. According to the agreement, China was supposed to boost purchases of U.S. goods by $200 billion during 2020 and 2021. Right now, China is expected to stand at more than 30% below the agreed-upon target for purchases. Here is a breakdown of China’s imports of U.S. goods.
• Chinese e-commerce retailer Alibaba (BABA, $$167.85) recorded slower sales growth during its Singles Day shopping events. Sales rose 8.5% from the prior year, much lower than the 26% increase in 2020.
• The long-awaited virtual meeting between Chinese President Xi Jinping and President Joe Biden is expected to take place on Monday. In the meeting, the two will discuss trade relations, human rights, and military practices.
• A major Chinese city has decided to ease permit restrictions to boost the number of people qualified to buy homes and shore up the local property market. The move comes as China looks for alternative ways to address the real estate crisis.

International news: 

• The U.S. warned the European Union that Russia could be considering an invasion of Ukraine. Over the last month, Russian troops have amassed along its shared border with Ukraine. The U.S. fears Russia could manufacture a crisis in order to justify invading its border rival. In its defense, Russia has vehemently denied those claims and has accused the country of making provocative moves throughout the Black Sea.
• On Friday, Belarus’s national airline announced it would no longer accommodate flights from Turkey to Belarus for refugees. The move comes a day after Belarus threatened to cut off the gas transit to the European Union if it imposed additional sanctions on the country due to its immigration policy. The EU has accused Belarus of trying to orchestrate an immigration crisis along its border to cause instability among the group’s members.
• Brazil became the first country to allow the import of genetically modified wheat flour. The wheat is expected to be resistant to drought and is made with a common herbicide.
• Hungary is set to impose price controls on petrol and diesel on Monday. The cap on prices comes as the country struggles to contain rising inflation.
• In a rare sign of unity, China, Russia, and the U.S. have all urged the Taliban to cut ties with terrorist groups. The concerted push was in response to a growing number of attacks throughout the region that have been linked to the Islamic State.
• South Korea’s primary opposition presidential candidate, Yoon Suk Yeol, has advocated that the country should strengthen its military ties with the U.S. and Japan to better cope with North Korea’s nuclear threat. Elections will take place on March 22, and current polls show that Yeol is the frontrunner to replace liberal President Moon Jae-in.

COVID-19:  The number of reported cases is 252,044,337, with 5,082,431 fatalities. In the U.S., there are 46,852,796 confirmed cases with 759,677 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 541,361,525 doses of the vaccine have been distributed, with 434,486,889 doses injected. The number receiving at least one dose is 222,591,394, the number of second doses is 194,382,921, and the number of the third dose, the highest level of immunity, is 26,087,147. The FT has a page on global vaccine distribution.

• Hospitals in Western states are running out of ICU beds due to an increase in COVID cases.
• Nearly half of the total share of COVID-related deaths are coming from Europe. The rise in cases has led some countries to reinstate lockdowns. Austrian chancellor Alexander Schallenberg has stated that lockdowns could be unavoidable for the country. The Netherlands is also expected to implement partial lockdowns starting Friday.
• Colorado has made the COVID-19 booster shots available to all adults.

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

[Posted: 9:30 AM EST] | PDF

Good morning; it’s Veterans Day.  A sincere thanks to all who served.  It’s also Single’s Day, but the Chinese celebration is lower key this year under conditions of shared prosperity.  Risk markets are higher this morning, with gold continuing to rally.  Our comments begin with a brief discussion on inflation.  Concerns about rising prices are escalating and may force the Fed’s hand to raise rates sooner than it projected.  In China news, there is some evidence of cooperation between the U.S. and China and growing optimism that regulators will ease back on property restrictions.  The international roundup is next, with the situation on the Poland/Belarus frontier in the news.  Economics and policy follow, and we close with the pandemic overview.

On inflation:  We have waited for the regional FRB to update their various calculations attempting to determine the underlying trend in inflation before commenting on this issue.  Here is a chart worth mentioning.  The Cleveland FRB’s trimmed mean[1] yearly CPI is up to levels last seen in 1991.  This measure is up 214 bps since January.

It’s hard to argue that the inflation readings are being distorted by one-off price increases in a small subset of goods.

The key concern is what policymakers will do about it.  Although there are concerns that the current fiscal programs will simply add to inflation pressures, that’s probably not true.  Most of the spending won’t occur for a couple of years.  The fiscal problem was the last pandemic package, and that one can only be reversed with tax increases.  The Fed can raise rates to try to slow down demand, but it would need to raise rates aggressively to have an impact.  Given leverage in the economy, such actions will more likely destabilize the financial markets and may not have much impact on spending.  At the same time, if policymakers show a lack of concern about inflation, that in itself could become destabilizing.  The problem we face is excess demand relative to supply.  The latter is constrained and won’t get better by policy actions, only with time.

Although it doesn’t seem like it now, one concern for next year is that there will be a strong fiscal drag as fiscal spending slows.  It’s important to remember that GDP is a flow measure.  Even with the current spending proposals, we won’t repeat this year’s fiscal largess, so government spending will lower growth next year.  If policymakers aren’t careful, they could overcorrect and run the risk of inadvertently triggering a recession.  The fact that firms and households are trying to restock could exacerbate this issue but lead to an event we really haven’t seen since the 1950s—an excess inventory recession.  We suspect the current budget proposals are in serious trouble.  The political ramifications will be worth watching.

At the same time, it’s important to note that equity gains are outpacing inflation.

Even with rapidly rising inflation, the S&P is rising faster.  As long as equities do better than inflation, flows into stocks will probably continue.

China news:  The Sixth Plenum has wrapped up.  It will be several weeks before we know for sure what happened, but we suspect it’s another term in office for Xi and an elevation to the level of Deng and Mao.

• In the runup to a virtual summit between Presidents Xi and Biden, the Chinese leader is indicating he is ready to “properly manage differences.”
• In this vein, we are seeing unexpected cooperation on climate issues. The U.S. and China issued a joint declaration on climate change action.  Earlier this year, Chinese officials refused to separate climate issues and other foreign policy aims, so this announcement is a surprise.  Of course, promises are one thing but doing is another.
• Yet, differences remain. China opposes U.S. moves to build encircling relationships with other Asian nations.  It comes as the EU is increasing ties to Taiwan, further isolating Beijing.  A long interview with SoS Blinken sheds some light on how the U.S. is trying to manage the relationship with China.
• Four senators and two representatives, all from the GOP, made a trip to Taiwan this week. China was not happy with the visit.  In response, China held combat readiness patrols.
• One key unknown with China is whether policymakers will maintain their crackdown on excessive lending, especially in the real estate sector, or if they will relent and ease restrictions. There is some evidence that an easing is underway.  For example, Chinese real estate firms are being allowed to issue interbank debt.  Residential real estate represents between 25% to 35% of China’s economic activity, so staying the course will almost certainly lead to slower growth.  There is a long history of Chinese regulators easing restrictions when growth declines.  At this point, we don’t know if what is happening now is a regime change or simply another cycle.  If it is a cycle, we may be close to the bottom of it, and lending will resume.  But, at some point, China will have to deal with its debt issues, and they won’t get better over time.
  • There is some dispute as to whether or not Evergrande (EGRNF, USD, 0.30) has defaulted. The company claims it made a last-minute payment, staving off official default.  However, a German firm claims it is preparing bankruptcy proceedings against the company.  There is a growing consensus that Chinese authorities are planning a slow dissolution of the company.  Such dissolutions are common with bank-centric financial systems.  Commercial banks in the U.S. used to have standing “work out” groups that would be assigned a non-performing loan; these groups would slowly resolve the non-payment.  In a bond-centric system, such slow workouts are usually not tolerated, or they are done (at least in the U.S.) in a Chapter 11 setting.
  • Evergrande isn’t the only real estate firm in trouble. Fantasia (1777, HKD, 0.35) is also in default.
  • One of the more curious developments is the expansion of Chinese citizens buying “real estate” in the metaverse. At least there aren’t supply constraints.
  • China is borrowing in EUR to take advantage of negative rates. By doing so, it will need to acquire EUR to service these loans (at least pay back principal), which means it will need to run a trade surplus with the union.
• One of the monumental failures of U.S. intelligence was the 2017 capture and purge of intelligence assets in China. The disruption means the U.S. lacks insight into what is happening in China’s inner circles.
• A promotional film from the PLA hints at a new stealth aircraft.[2]
• The U.S. has extended Trump-era restrictions on U.S. investments in Chinese military-linked firms.

International roundup:  The Poland/Belarus border is a hot zone.

• Using refugees as a weapon has become something of a tool for regimes trying to affect EU policy. The EU struggles with refugees; an influx of foreigners is a political nightmare for policymakers, so they are phobic about uncontrolled border crossings.  Turkey has used this tool to gain funds from the EU.  Now, Belarus is using it in an attempt to gain sanctions relief.  So far, Belarus’s actions are bringing more sanctions, not less, but it remains to be seen if that trend will continue.  The EU is backing Poland’s defense of the border, which puts refugees in a difficult position.  They are being caught between the two states and have nowhere to go.  The problem has now escalated to the attention of the U.S. and Russia.  There are increasing worries that the situation could destabilize into a military conflict.
• The U. K. is clearly worried that the EU will retaliate over the trade dispute in Northern Ireland. Ireland is preparing for border issues.
• Sweden is likely to have its first female PM.

Economics and policy:  The EU hits tech.

• The EU has won an appeal over a €2.4 billion anti-competitive shopping case against Google (GOOG, USD, 2932.52). More actions are likely.
• Perhaps the biggest monetary policy question at present is when will the first rate hike occur. The deferred Eurodollar futures market is putting the two rate hikes over the next two years.  Chair Powell indicated that he wants an “inclusive” recovery, which would imply high levels of employment for minorities, women, and lower-income groups.  If this position remains in place, it will likely mean that rate hikes will be slower than the market expects.
• The CBO will not be providing a cost estimate for the budget in short order. That means a vote on the current spending plan won’t be happening anytime soon.  Business groups, who tended to support the infrastructure package, are much less interested in the budget proposals.
• Home prices are continuing to rise. Although home prices are not directly part of the CPI, they do, over time, affect owners’ equivalent rent.

In general, owners’ equivalent rents tend to lag home prices by about 18 months, meaning that the current increases will be affecting CPI for the foreseeable future.  Owners’ equivalent rent has a large weighting in the CPI, at 23.5%.

• One unpleasant side effect is that buyers are being forced to waive inspection or mortgage protections to make a purchase.

• Even Santa is demanding higher wages these days.

COVID-19:  The number of reported cases is 251,605,914, with 5,076,073 fatalities.  In the U.S., there are 46,792,138 confirmed cases with 759,062 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 541,361,525 doses of the vaccine have been distributed, with 434,486,889 doses injected.  The number receiving at least one dose is 224,660,6453, while the number receiving second doses, which would grant the highest level of immunity, is 194,382,921[3].  For the population older than 18, 70.3% of the population has been vaccinated.  The FT has a page on global vaccine distribution.  The Axios map shows rising cases in the west and the upper tier of states, and falling cases in the South.  It is likely due to the change in seasons.

• The Chinese city of Shenyang requires foreign visitors to spend their first 28 days in hotel quarantine and then have their movements restricted for an additional 28 days. This is an extreme example of China’s zero COVID-19 policy.
• Although not directly related to COVID-19, avian influenza has been confirmed in northeastern Japan, leading to a culling of 143,000 birds. So far, there is no evidence that this particular strain of the virus infects humans.

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[1] A trimmed mean removes a certain percentage of extreme measures on both the right and left sides of the distribution, reducing the potential distortion of these extreme measures.  The process is designed to create a better view of the underlying trend.

[2] See 0:30.

[3] The data likely looks similar to yesterday’s reporting.  The CDC didn’t update due to Veterans Day.