FIRST QUARTILE ECONOMICS |
Market friendly data were key in the U.S. this past week. First, November retail sales rose a mere 0.2 percent after a 0.2 percent decline in October. With 2 months of the quarter in, it appears a major deceleration has occurred in Q4 consumer spending growth and therefore real GDP. Second, Friday’s Producer Price report for November registered a 0.2 percent decline and a 0.1 percent decline at the ex food and energy level. This bodes well for the upcoming CPI report Tuesday. Yet another significant general development on the inflation side is the breakdown in oil prices to the $18/barrel level for West Texas Intermediate. Oil prices are down some 25 percent from year ago levels while the current weakness is unusual as winter begins to unfold.
There was more Asian fallout this past week as Asian equity markets gave back some of their recent rebounds and South Korea appears to need about double the recently lined up $55 billion (U.S.) IMF bailout. Against this background North American equity markets receded on the week. The most notable sign of potentially renewed equity market turmoil is the marginal new closing high set for the S+P 500 a week earlier may prove to be a double top. If interest rates in the U.S. are falling because of a sense of slower U.S. economic growth ahead either because of home grown or imported forces, this should not be a major positive for stocks as a whole.
In Canada, the economic data remain strong with Q3 GDP reported up 4.1 percent annualized, on Friday. In a fitting gesture, the Bank raised the Bank Rate shortly afterward as the currency had all the appearances of sinking lower. By my reckoning, the central bank is losing control of the situation as a 50 basis point hike in interest rates is not in keeping with the orderly rise suggested a few months ago. It’s a good thing the economy can take this kind of restraint but the result will still be a slowing down perhaps early in 1998 rather than the second half of 1998.
And what about the Canadian Dollar? December is rarely a kind month for the Canadian dollar and it is hard to know how legitimate the actual downward pressures are at this time. Nevertheless, given the still enormous Current Account Deficit reading in Q3, the basic pressure on the currency is down and money market spreads to the U.S. have to move closer before a sense of stability sets in.
Do you think the Liberal government wants to preside over the record low C$ being set during its term? I don’t think so. I think the currency can come close to the U.S. 1.4465 (69.13c) low set in February 1986, but the Bank of Canada is prepared to fight aggressively via a temporary spike in rates if necessary and via purchases of Canadian dollars in the open market with funds obtained from its massive foreign exchange reserve fund.
Unfortunately, this suggests the potential for some near term messiness in Canadian fixed income and equity markets but remember, the big picture remains bright. Canadian inflation remains in a straight-jacket and a moderation in consumer spending will quickly translate into a rebound in the trade surplus. We will get the October merchandise trade surplus report on Thursday, December 18 and hopefully it suggests the first signs of a recovery.
Finally, nobody expects the Fed to tighten at the FOMC meeting on Tuesday, December 16 although this was not a foregone conclusion following the employment report on Dec 5. I continue to believe it is possible the Fed will keep administered interest rates unchanged through all or most of 1998. This is because inflation will still get better before it finally starts to get worse. The break below 6 percent on 30 year Treasuries will now bring on a test of the 5.75 percent lows set in October 1993 and early 1996.
Friday, December 12, 1997.
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