Thursday 14 November 2019

Brendan Keenan: That was nervous laughter at Trump's UN speech

US President Donald Trump during a news conference on the sidelines of the UN General Assembly in New York
US President Donald Trump during a news conference on the sidelines of the UN General Assembly in New York
Brendan Keenan

Brendan Keenan

You daren't take your eye off the ball these days.

I have no particular reason to follow the comings and goings of interest rates and it came as quite a surprise to see that, if you lend old Uncle Sam money for 10 years today, he will now pay you 3pc in return.

That seems pretty reasonable and pretty normal, if a bit below long-term historical averages, but we haven't had normal in a long time.

I can understand why I was surprised. Lend the money to Berlin and you will get half a per cent for your trouble.

That is not normal, even though it has been going on for some years and is expected to go on a while longer.

It is even more strange when one looks at price rises, which were also near zero a few years ago. German inflation was 2pc in the twelve months to August (another surprise, but not as surprising as Greece's 1pc) and 2.7pc in the USA.

There are a lot of stresses, strains and tensions in such figures.

Only professional investors and wealthy people lend money directly to governments. But stresses in the euro area can be seen even more clearly in the rates most of us actually deal in.

In Ireland, mortgage rates are historically good value at 3pc - which makes for dearer houses - but ordinary rates are a different matter, with consumer loans costing 6pc.

For most people, wage rises will eat only slowly into the real cost of a fixed-term loan, and prices are rising at less than one per cent.

These interest rates compare with an average of less than 4pc in the rest of the euro area. It is an exacting question whether Irish banks still need this kind of cushion but, apart from An Post, and one Spanish bank, no-one seems in hurry to compete for the business.

Too much scar tissue from the 2000s, and perhaps growing fear about the future in general.

Those far-off 'normal' days, before the Celtic Tiger, the 'Greenspan Put' which promised no downturns, and the Great Recession was not all plain sailing.

Far from it. Something was always going wrong somewhere. Wise investors believed equilibrium was something one found briefly; either on the way up or the way down.

There are chilly reminders of all that in the present situation. Emerging market crises for one thing; especially one caused by that late 20th century innovation, US dollars for everyone in the audience.

Forty years ago, developing countries had to pay good interest on their dollar borrowings. For the last 10 years, they did not have to do even that.

Inevitably, they have filled their boots.

The all too familiar pattern is that, as US rates rise, markets switch back from emerging currencies into greenbacks. The affected countries have had to raise their rates to stem the outflow, which depresses their economies and makes their currencies even less attractive.

Turkey has been the canary in the mine this time, because of its size and sophisticated connections with the world economy. Interest rates are currently at 24pc. But it would not be this kind of problem without Latin America, and especially not without Argentina. Interest rates there are at 60pc and the head of the central banks resigned last week.

All this is eerily familiar but one thing is quite new: The Donald.

That titter during his UN speech was nervous laughter.

Mr Trump is quite right to say he has achieved more in two years than any previous administration. It is just that most, if not all of it, should not have been done. In the dictionary definition, achievement does not necessarily imply wisdom.

Expect more such achievements in next few years.

Mr Trump may be wrong in believing that the buoyant economy and booming economy are down to his policies, but he is right in thinking that they are his best chance of successful mid-term elections next month and re-election in 2020.

If there is a recession brewing, past patterns suggest that might be the year it arrives. If it shows any signs of doing so, Mr Trump will throw the bath after the kitchen sink he has already hurled at US public finances.

The budget deficit is now running at $1trn a year: a thousand billion, if you didn't know.

I'm sure you did know but it is still unimaginable; what a US senator famously called serious money. Mr Trump, though, is unlikely to take it seriously.

He has already tested the fabric of the US constitution to breaking point. One of the biggest, and most important, may involve testing the independence of the Federal Reserve - although many another president has ventured down that road.

Mr Trump may venture further; tax-cutting, spending and borrowing at will.

If he does, the Fed would be expected to raise interest rates to counter the effect - which might mean beyond historical averages.

If there is one thing financial markets hate, it is loose fiscal policy and tight monetary policy. Those who have borrowed heavily in dollars will hate it even more.

Despite what we all read and hear, there is as yet no such thing as artificial intelligence, just more powerful algorithms. Real intelligence would include investors who decide to get out of positions they perceive as risky and not worry if it turns out they could have made more staying in.

That sort of thing balances markets, but these days a fund manager who is beaten by the algorithms gets the sack.

We don't know when there might be a turn, but when it comes it may be severe.

A few brave souls in the forecasting profession have gone so far as to say that 2020 is the year that nerves will break.

It might be longer of course - and it might be next year. Recent experience suggests that markets have become more volatile, with upswings in particular lasting longer than would once have been expected, with downturns correspondingly more violent.

That is the background to the arguments about Irish fiscal policy.

The ESRI had an unexpected take on this last week; arguing not for a big surplus to guard against hard times, as has been the norm, but for a neutral budget to keep the economy running nicely.

They smell danger too: perhaps the ultimate danger of a global downturn combined with a bad Brexit. So better not risk that happening to an Irish economy already slowing because of tight fiscal policy.

It is worth remembering that a neutral budget implies indexing income tax bands in line with earnings, which could be portrayed by the government as a €200 'cut' for top rate taxpayers.

It would leave a tiny surplus in Budget 2019, which at least would break the long-standing ministerial taboo on such a thing but is otherwise pretty irrelevant.

Trouble is, past recessions have shown how leveraged the Irish public finances are to any change in economic growth. It would not take much to turn that small surplus into a deficit of 3-4pc of GDP, which might require corrective action, given Ireland's debt position.

As always, infrastructure spending would be the first casualty.

That is why the general call from analysts has been for surpluses of that magnitude to be built up over the past few years, when the economy was growing so strongly.

Those in the ESRI may not have changed their minds on the principle: they may just be saying time has run out.

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