We have all noise, no signal

Outlook:

Trump’s erratic conduct would have any regular CEO or other public servant fired or carted off to the loony bin. The kaleidoscope outlook for the economy is just as hard to judge.

Trump’s trade war with China has the potential power to drive the US economy into recession, something Fed chief Powell acknowledges. As things now stand, however, the likelihood of recession is only about 35%, according to a Bloomberg survey (Aug 19). But economists disagree. Moody’s Analytics’ Zandi sees the probability at 90%. Ken Rogoff says “less than 50%.” This is not a commentary on the competence of economists, but rather on uncertainty over the point at which anxiety transforms into panic. 

Business uncertainty is already bad. See the chart from the Atlanta Fed. It started to fall in Jan, then moderated, and is falling again. We get an update on Wednesday.

 

Even the inverted yield curve comes and goes, and if inflation comes back, can go away and stay away. This is why the contrarian bond strategy of Franklin Templeton, Guggenheim Partners, and others, outlined in Bloomberg Business Week, is so interesting. These outfits hold the view that rates should rise (and prices fall) because inflation is coming back, so shorting Treasuries is the way to go. We may think this in an outdated view from before last December’s tantrum. It does rely on evidence of rising inflation and decent growth rather than only imagined recession. A single Fed rate cut in September shores up the economy and doesn’t invalidate the outlook.

The US may have gotten some disinflation from the strong dollar and a faltering global economy, but as Powell himself said, US inflation is near the 2% target, implying that additional rate cuts may not be justified according to the Fed rules. In July, headline CPI was up 1.8% y/y and core was up 2.2%. Never mind this is not the PCE version the Fed prefers. Something Mr .Powell did not say, but Ken Rogoff did, is that in past recessions the Fed cuts a total of 5%. We don’t have 5% left on the stick. We await the re-emergence of the term “stagflation,” by which growth flops down to barely breathing but inflation ramps up to well over 2%.

The latest escalation in the trade war is Trump cutting off his nose to spite his face. The tariffs raise prices, contributing to higher inflation and making the Fed more stubborn about additional cuts—and if those cuts do come later this fall, accompanied by the Fed openly blaming Trump for setting off a recession. Trump thinks his ace card is a strong economy, and he just lost it, meaning he has a pressing need for more disruptions and manufactured turmoil.

He has two choices along these same themes, although he can easily start a new thread. First is firing Powell and or the whole Fed board, which will get institutional traditionalists riled up. Second is outright intervention. Some analysts point to the puny sum in the Exchange Rate Stabilization Fund, but that’s not the real issue—the real issue is that other countries would not join the US against their own self-interest. The best intervention is coordinated intervention. If the US acts alone and in a small amount, intervention would have a big fat announcement effect for a few days—and then fail. A failed intervention just brings out the wolves.

Trump backed himself into a corner and that makes him dangerous. To avoid the nuclear options described above, it’s highly likely Trump lied about China calling. And Trump’s desperation is near boiling point. He absolutely needs the China trade deal to distract attention from other forces crowding in on him.

First are the candidates for the Democratic nomination, many of whom would beat him if the election were called tomorrow. Polls this early in the cycle may not be worth much, but maybe they are. 

Secondly, the court cases that will force disclosure of his lies about his finances are coming to a judgment in the next few weeks. The public may not care whether he cheats on his taxes, but maybe they do. T

hird, the impeachment movement is growing. Of the 238 Dems in the House, 132 have come out for impeachment, or well over half. It’s a painfully slow-growing movement, but it’s alive. Fourth, no fewer than three Republicans intend to try for the primary. This almost never happens to a sitting president. The only elected president to lose the nomination for a second term was Franklin Pierce (an anti-abolitionist who served before the Civil War).  Four others who failed to get a nomination for a second term had gained office not through election but as vice presidents getting the office through the death of the president.

And fifth, Trump’s anti-Semitic rant (despite thinking he is looked on “like a king” in Israel) and possibly aiming to appeal to evangelicals (as the Chosen One) are bringing the shrinks out for TV interviews—again. We had the psychologists and psychiatrists within thirty days of the inauguration. Trumps’ mental health and stability are very much in question.

If China backtracks on pretending it called Trump to ask for a trade deal, Trump is going to lash out again. Lashing out is his only choice to avoid looking like a failure. National emergency? Embargo? Mexico needs to watch out. It got a tomato deal but Mexico is the obvious target and favorite punching bag.

Assuming the rest of the world is willing to buy into Trump’s lie about China coming back to the table, we can get a momentary respite. We see it already in US equity index futures in the green this morning. That means the dollar can hold its retracement a little longer—maybe. But as uncertainty re-emerges, as it is sure to do given the unstable president, it’s hard to see how havens can fail to benefit. And the first haven in the dollar, Friday’s weird reaction notwithstanding.  We do not have risk-off, as the falling dollar would suggest. We have risk-on at nuclear levels. We just don’t see it yet. 

For a while at least, we can look at economic data. First up is July durable goods orders (preliminary). The problem with durables is they are as erratic as Trump. See the chart. In June, durables jumped 2% m/m, the most since the previous August, reversing a 2.3% crash in May. Contributing to variability are Boeing and oil field investment as well as corporate sentiment.

 

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