Blain’s Morning Porridge Feb 20th: Central Banks, Recession landing risks, and why China is the issue to watch
“A great landing in one when you can fly the plane the following day..”
This morning: The market is talking about a no-landing scenario – but should be watching what Central Banks are saying, and China’s position re Ukraine. The market remains vulnerable to recession and rising geopolitical tensions. They are very closely linked.
Last week the market was weighing up a soft-landing vs hard landing – to what degree a global recession might be skirted. Last Monday I was writing about Fairy Tales, specifically The Three Bears, and how the market is hoping we’ll be getting Baby Bear’s porridge: not too hot, not too cold – but just right. Bloomberg might have been reading me – my good chum Anthony Peters heard a TV anchor say: “They just murdered Goldilocks” when Fed Hawk Loretta Mester firmly laid down the line: “the fight against inflation is not done, and Fed Funds are heading higher.”
Pretty clear signal the Fed is not about to “pivot”… to use the most misused word of the decade! But, as usual, if all we are worried about are the trees of inflation, rates, yield curves and bond yields, then we are missing the real issues: the forest that is the global economy!
What external forces could trigger global slowdown and a deeper recession? For that you need to read the runes on yesterday’s spat between US secretary of State Anthony Blinken, and Chinese Diplomatic Chief Wang Yi in Munich. There is a lot of posturing underway. How geopolitics plays out is probably as important for global growth as what the Fed, ECB and Bank of England do on rates.
In recent days the market’s narrative has shifted. The commentariat is now talking about the “No Landing” scenario. This apparently means the global economy bounces around with high employment, annoyingly persistent (but not deadly) inflation, and no recessionary outcomes… Such a rosy outcome will occur on the back of China’s reopening, the resilience of western economies, easier energy costs, plus rising post-Covid consumption patterns all combining to power the global economy through this uncertain patch.
Really? What if that much anticipated China boost doesn’t happen because of a deepening Cold War?
This morning I participated in an economic expectations survey on Bloomberg giving the choice of a soft, hard, no-landing or the global economy flying into a mountainside. None of these are necessarily where we end up… but sure its engaging stuff.. Apparently the no-landing outcome is the most likely…
To be honest.. No Landing sounds like a market convincing itself of upside when the picture remains one of economic grief. There are a couple of key economic determinants missing from the rosy “no landing” picture. We may well miss a global recession, but not because the market hopes for it. We need to understand why the market looks increasingly convinced a no-landing may happen.
In uncertain will-they/won’t-they markets – like today, and immediately following 2022, a dismal year for markets… there are lots of market participants desperately trying to get rich again and show just how clever their investment strategies are. In fervid miasmic markets it only takes a few days for the malarial pestilence of irrational exuberance to embed itself, triggering an outbreak of FOMO: fear of missing out.
Bear Rallies can be stubbornly persistent. Out there… somewhere east of common sense, there are still folk who think ButtCoin is going to $1 million, Cathie Wood is an investment genius, Elon Musk slashing the price of cheapest Tesla makes it the most valuable company on the planet, that Central Banks exist to save markets, and the Tooth Fairy runs a hedge fund. Dream on.
The reality? Work out what others are deliberately not seeing. Start with what central banks are actually doing:
- Central banks have no incentive to cut rates early.
- Inflation is not licked. Last week Fed members Lorretta Mester and James Bullard both made clear rates are going higher.
- The only reason they are not more hawkish is to avoid a destabilising market panic.
- Central banks are not just fighting inflation.
- What they want is normalised rates to kick start the normal effective functioning of free market economies where investment goes into real job-creating, productivity enhancing, assets, rather than too-low rates creating a debt-fuelled tsunami of stock-buy backs and zombie firms.
- Despite 2022 being the year of the fastest, steepest monetary tightening – interest rates are still negative in real terms vs inflation!
- That is fundamentally unsustainable, but a host of market analysts are saying this is bond boom time…
What’s likey to set the market tone for the rest of 2023 is two factors:
- What Central Banks do
- How geopolitics play out
Big news over the weekend was the American’s saying the Chinese are going to start supplying Russia with ammunition. While Blinken and diplomat Yi were hurling insults at each other over balloons, the key issue is how to avoid a global slowdown a new cold war between China and the West would create.
It’s all about Ukraine. When the war broke out, almost one-year ago, the West expected widespread global condemnation of Russia for invading another nation to impose its will upon a people who had the temerity to democratically elect a government Putin disliked. Instead, much of the non-aligned world, and previously US leaning powers, particularly in the Gulf, chose not to support the West. They expected a tired and discredited US (embarrassed by the Afghan pull-out), the potential of a weaker dollar, and the Energy insecurity of Europe, would see the Russians quickly triumph, confirming a shift in global geo-political power away from the US towards China.
As we know, that’s not how it’s played out. Ukraine has proved the more resilient nation. Russia looks increasingly weak. One year after the war began Ukraine survives, and the West is gradually getting its act together to defend Ukraine. It looks likely to remain a long, drawn-out, bloody affair – dare I write stalemate?
The ball in now in China’s court.
If China declines to meaningfully supply Russia, that’s further humiliation for Putin but an opportunity for China to re-engage with the west – suiting President Xi’s kitchen-sink approach to reopening and growing the post-Covid Chinese economy. Not supplying Russia would also potentially suit the Chinese who will have seen how quickly Ukraine and Russia have burnt through war stocks, and how the Russians have underperformed on the field. China will have absorbed these lessons about command and control, and logistics, and factored these into its planning re Taiwan – and knows it will take years to effect changes in the People’s Liberation Army.
It’s a simple choice for Xi:
- Supplying Russia would eat into China’s war-stocks, keep the West military focused on Ukraine, but cause economic damage to China’s growth via Western Sanctions.
- Stepping back from supporting Russia gives China the prospect of stronger growth, reengagement with the West, and time to further refine its own forces and stocks ahead of “negotiations” on Taiwan.
The Russian planners (assuming there was much planning) assumed the West was hostage to Russian energy. The exceptionally mild winter has put paid to that. Over the weekend we were out for a walk wearing t-shirts, the daffodils are out a fortnight early, birds are nesting, and trees are budding. General Winter never showed up for Russia.
Although Europe will still struggle with energy insecurity – it’s not the only issue. There was a fantastic article on global chip supplies, and how a war in Taiwan will make Covid and Ukraine look like pleasant picnics. Now, that might get Xi thinking…
Uncertain times.. I am keeping my gold positions in place..
Five Things to Read Today:
Out of time, and back to the day job..
Strategist – Shard Capital