Friday, February 27, 2015

Data Insight: US CPI

Key points:
  • US consumer prices fell -0.7% in January, their third consecutive decline.  A further decline in energy prices was the key contributor to the weakness.   This has pushed the annual rate of headline inflation into negative territory with a reading of -0.1%.
  • The more important core inflation measure came in modestly stronger than expected at +0.2% over the month and +1.6% for the year.  Core goods prices remain weak with the annual rate of increase running at -0.8%.  That’s thanks to the stronger dollar and some degree of spillover from lower petrol prices into lower costs of transportation of goods.
  • However core services inflation is looking increasingly sturdy.  That component (which makes up about 60% of the CPI) was up +0.3% over the month and +2.5% over the year.  That’s a sign of an economy that is continuing to strengthen and supports our contention that as output gap closes in the US, inflation will become broader based.
  • Energy prices have stabilised recently and petrol prices have risen over February in the US.  That supports Janet Yellen’s testimony at Congress this week where she said that many of the factors holding inflation down are likely to prove temporary.  So while headline inflation looks set to remain low for a few months yet, that won’t stop the FOMC from beginning the interest rate normalisation process.  But it does mean they can be a bit more patient.



Thursday, February 26, 2015

Data Insight: NZ net migration

Key points:
  • Net inward migration reached a fresh year-to-date peak of 53797 in January 2015, up from 50922 in the year to December 2014.  The total appears on a trajectory towards 60000 over the next few months.
  • The high net inflow continues to reflect New Zealand’s strong relative economic and labour market performance, especially when compared with Australia.
  • Strong population growth will continue to support growth in retail spending and contribute to the current supply/demand imbalance in the housing market.
  • At the same time, it will continue to contribute to growth in the labour force which is helping keep skills shortages and wage pressures in check at a time of strong employment growth.
  • That means there are both pluses and minuses for the Reserve Bank which supports the case for monetary policy remaining on hold for the foreseeable future. 

Global growth update

I’ve made a few tweaks to our global GDP forecasts since we published Quarterly Strategic Outlook last month.

Some estimates for 2014 have been revised with the release of Q4 data in a number of countries including Japan and the Euro zone.  Weaker than expected growth in Japan sees annual average growth for 2014 at 0%, down from our earlier estimate +0.3%.  Euro zone growth ended up coming in slightly better than expected at +0.9%.

In terms of the outlook the most significant changes are for India and Brazil.  Historical Indian GDP growth has recently been revised upwards which has resulted in us raising our growth forecasts too (see the post below on India’s Economic Resurgence).  

That lifts emerging market growth throughout the projection period, except for 2015 where the increase in growth in India has been offset by a deterioration in the outlook for Brazil.  The near-term outlook there remains challenging due to fiscal tightening, higher interest rates and a disappointing rainy season.  Possible power rationing may yet push the Brazilian economy into recession this year.

We continue to see global GDP growth to be modestly higher this year at 3.5%, up from 3.3% last year.  A further modest improvement to 3.8% is expected in 2016.



Saturday, February 21, 2015

Progress - of sorts - on Greece

An agreement has been reached between the new Greek government and the Euro zone bailout troika (the International Monetary Fund, The European Central Bank and the European Commission) that will, pending resolution of some still critical and potentially problematic conditions, extend the country's bailout for four months.  

Critically this agreement will see Greece through its end-of-February funding requirements that would, if not met, have precipitated the country's potentially messy exit from the euro zone.

But there are still significant challenges to be met, not the least of which is the requirement for Greece to provide a list of reforms it proposes to enact in order to successfully complete the current bailout agreement.  

That list of proposed reforms must be provided to the troika on Monday their review.  If acceptable the next step will be ratification by Euro zone member countries which must be completed by the end of April.  The Greek Parliament must then enact the reforms - itself challenging given the promises the new Prime Minister has made about renegotiating the bailout agreement.  

At the end of June the troika will review the Government's progress on enacting reforms which if completed successfully will unlock the next disbursement of bailout funding.

There are two key challenges in what has been laid out in the bailout extension agreement.  The first is the immediate challenge of providing a list of reforms on Monday to the troika that they are prepared to agree too.  Once that is agreed I think the member state ratification process will go relatively smoothly.

The second challenge will be getting new reforms through the Greek Parliament.  Prime Minister Tsipras was elected on promises to renegotiate the bailout agreement and to cut Greek debt levels - neither of which he has achieved.

What he has achieved is an agreement to draw down on the projected 2015 primary budget surplus on the acknowledgment of poor domestic economic conditions.  This will enable Greece to enact some of its promises to alleviate some of the high social cost of austerity.  As I said here in January, the requirement for the Greek Government to run large primary surpluses ignored the political reality of high unemployment and reduced quality of life.    

So we have a way forward, but there are still challenges.  Suffice to say it appears likely Greece will remain in the news for a while yet.

Thursday, February 19, 2015

India's economic resurgence

It has been a fascinating 18 months for the Indian economy.  During the taper tantrums of 2013 India was anointed one of the so called “fragile five”.  That gave the depreciation in the real effective exchange rate a further nudge lower.  Since then the current account deficit has narrowed considerably from -4.7% of GDP in 2013 to -1.3% in September 2014, reducing India’s external vulnerabilities.


2014 was notable for the decline in inflation and the election of the business-friendly Narendra Modi as Prime Minister.  Modi was previously the Chief Minister of the state of Gujarat – a state that has recently been outpacing growth in the national economy.  Modi was elected on a platform of doing for India what he had done for Gujarat.

Inflation halved from over 10% at the end of 2013 to 5.1% in January 2015 (a new rebased series).  The adoption of a new inflation targeting regime and supply side economic reforms has assisted the disinflation although it’s important not to overstate their importance, at least not in the short term – it takes time for structural reform to have an impact. 


The more recent decline in inflation has been due to lower commodity prices, particularly oil.  India is a major beneficiary of lower oil prices.  The Reserve Bank of India (RBI) has responded to the improved inflation environment by cutting interest rates with further rate cuts likely over the next few months..

In 2015 revisions to historical GDP data means the growth rate in the economy has been significantly higher than previously estimated.  Annual growth that was initially reported at 5.3% for the year to September 2014 has revised up to 7.8% in the new series.  Growth came in at 7.5% for the year to December.  I thought it would be 2016 before we saw India outpacing China when it was already there!


I’ve been upbeat about the prospects for the Indian economy recently, expecting that growth would accelerate this year.  Growth appears likely to continue to benefit from the clearing of roadblocks to major infrastructure investment projects, easing in monetary conditions and continued supply-side reforms including tax, land acquisition and the in the finance sector.  So I’m sticking to the story that growth will accelerate this year with 8.0% likely in calendar 2015.

Longer-term it is the labour market that is India’s greatest opportunity and the greatest threat to its long-held ambitions of outpacing China growth on a sustained basis.

Unlike China, India’s working age population (WAP) is expected to continue to expanding.  The United Nations is projecting India’s WAP to increase at around 1% per annum until 2030 while China’s will show a small decline over the same period.  If you think about growth being the sum of growth in the labour force and growth in productivity, India appears to have a head start.  But India’s labour market is highly inflexible leading to high reliance on informal labour.  Efforts to lift the participation rate, especially for women, will be essential if the advantage of a growing WAP is to count for anything.

On the productivity side of the equation strong investment growth is necessary.  In that respect efforts to unblock infrastructure projects are welcome but further work is required on attracting higher levels of Foreign Direct Investment along with measures to boost household savings to help keep the current account deficit in check.
Graph: saving and investment

So there is good reason to remain optimistic about the outlook for India, but that requires the Modi government to deepen the reform efforts.  If they achieve that successfully I see no reason why India shouldn’t enjoy a sustained period of growth in the 7-8% range.  


In terms of India’s imbalances I expect we will see further improvement in the current account deficit while improvement in the fiscal deficit will be harder work.  That will continue to require tax reform and strong expenditure control although higher growth will help.  

Monday, February 16, 2015

Data Insight: Japan GDP

Key Points:

  • December quarter data saw the Japanese economy grow +2.2% (qoq annualised) following two consecutive quarters of contraction. So the economy is out of recession although the result came in weaker than expected.  The consensus market expectation was for growth of +3.7%.
  • As expected there were positive contributions from net exports and consumption while capital expenditure was positive for the first time since the first quarter of 2014.  That said, growth in all three components was weaker than expected.
  • We expect continued modest growth in the period ahead.  While it was great to see growth in capital expenditure we expect this will remain subdued.  At the same time consumption will get a boost from lower oil prices and exports are expected to continue to expand on the back of the weaker Yen and stronger growth in the US.
  • This result along with the Euro zone data released over the weekend (see post below) supports our expectation of continued divergent growth in the key developed economies in 2015 with the US and the UK expected to growth around 3.0-3.5% while Japan and the Euro zone are expected to remain in second gear at around 1.0-1.5%.


Data Insight: Euro zone GDP

Key points:

  • December quarter Euro zone GDP came in at a better-than-expected +0.3%. The market consensus expectation was for an increase of +0.2%. Annual growth now stands at +0.9% for the calendar year, up from +0.8% in the year to September.
  • The country breakdown fits our go-forward expectation of relatively strong growth from Germany (a better-than-expected +0.7% over the quarter), strong growth off a low base in the countries that have been hit hardest by austerity (Spain +0.7%, Portugal +0.5%) and low growth from the serial non-reformers (Italy 0.0%, France +0.1%).
  • There is not much in the way of component data at this point apart from France which showed strong export growth, while it appears Germany saw both strong private consumption and investment spending.
  • Looking ahead we expect a continuation of low positive quarterly growth rates supported by easier monetary conditions and stronger personal consumption as a result of the lower oil price. We continue to expect annual average growth of 1.2% in 2015.

Wednesday, February 4, 2015

Data Insight: New Zealand labour market

Key points:
  • New Zealand’s December quarter Household Labour Force Survey recorded strong employment growth of 1.2% over the quarter, better than consensus market expectations of +0.8%.  Annual employment growth stands at +3.5%.
  • The labour force grew a seasonally adjusted 36,000 over the quarter to a record high thanks to a rise in the working age population and an increase in the participation rate to 69.7% which also a record high.  While this is a sign of a healthy well-functioning labour market these factors conspired to deliver an increase in the unemployment rate to 5.7%, up from 5.4% in the prior quarter.
  • Wage inflation remained benign with the Labour Cost Index for all salary and wage earners up 1.8% over the year.  While this might appear surprising given the strong growth in the economy, it remains a function of strong employment growth currently being met by the rising supply of labour.
  • This result paints a picture of solid growth in the economy leading to strong employment growth but still benign inflationary pressures.   This supports the story that the RBNZ is on hold for the foreseeable future.

Monday, February 2, 2015

January 2015 QSO

We recently released the January 2015 edition of Quarterly Strategic Outlook.  This covers the broad economic and market themes we expect to play out in 2015 with asset class commentary from our Head of Investment Strategy Keith Poore.

The December quarter and year was a rewarding one for diversified fund investors. Fixed interest produced healthy returns on the back of some softer global activity data, increased asset purchases from the Bank of Japan, a sharp decline in oil prices and associated lower inflation expectations.

Returns from global equities were also generally solid thanks to gains in US and Japanese shares with both markets continuing to experience earnings growth and policy support. Returns from New Zealand shares were strong which coincides with the robust local economy; relatively high dividend yields and a low exposure to commodity stocks also contributed to local market gains. In contrast, a higher commodity exposure held back the Australian market.

Property and infrastructure were the best performing asset classes over the quarter. Given their income characteristics these assets continue to benefit from lower bond yields. A fall in oil prices led a large decline in commodities over the quarter. This was largely due to OPEC’s decision not to cut production in the face of slowing global oil demand. The New Zealand dollar moved higher over the quarter, especially against the Japanese yen, euro and Australian dollar as the market priced in central bank easing of one form or another from these regions.

2015 looks set to be characterised by continued ‘low-flation’ and the battle to avoid deflation.  The slump in the oil price has added a further dimension to the inflation story, while at the same time providing a welcome boost to growth in those economies continuing to struggle with weak demand.  Global growth is expected to be modestly stronger in 2015, although there are both upside and downside risks.

Oil presents a key upside risk to growth especially in the key oil importing economies.  But that will be determined by how much further the oil price falls and where it eventually settles.   Downside risks include a sharper property-related slowdown in China and continued sluggish demand in the Eurozone and Japan.  When the numbers are in and the dust has settled global growth for 2014 is likely to come in at around 3.3%, the same as last year.  In 2015 we expect growth will be slightly higher at 3.5%, followed by 3.7% in 2016.

Global bond yields surprised on the downside in 2014 and this is a major reason why the higher dividend asset classes (property, infrastructure, New Zealand shares) were the top performers in 2014.  We expect bond yields to move modestly higher over the next twelve months as the US takes the first small steps toward policy normalisation. Bond purchases by Japan and Eurozone central banks should limit the rise in yields globally.

We also expect the subdued inflation backdrop to be around for some time, so any rate rise in the US this year will be associated with higher growth. This will be positive for earnings growth and share prices given valuations are not overextended. Quantitative easing in Japan and Europe should also support shares in these regions. Nevertheless, global shares entered a flatter and more volatile return profile over the second half of 2014 and we expect this pattern to continue over 2015. A modest increase in bond yields should also result in a modest underperformance by higher yielding shares this year.

We expect the US dollar will follow US rates higher over 2015, and by implication push the New Zealand dollar lower. The recent sharp decline in commodities, while explainable, is now looking overdone given global growth will approach potential this year. Although commodity prices could go lower in the near term we believe the balance of risks have moved to the upside over a medium term horizon.

For the full document click here.