My pre-holiday missive that FX volatility is making a comeback. Mr. Trump’s threat to slam tariffs on Chinese consumer goods earlier this month prompted the PBoC to step back and “allow” USDCNY to breach 7.0. This, in turn, drove the U.S. to label China as a currency manipulator. Markets now have to consider that the trade war are morphing into currency wars. This is significant for two reasons. First, it confirms what most punters already knew; the CNY is inclined to go lower if left alone by the PBoC. Secondly, it has brought us one step closer to the revelation of how far Mr. Trump is willing to go. The problem for the U.S. president is simple. He can bully his main trading partners with tariffs, “winning” the trade wars, but he is losing the currency wars in so far as goes as his desire for a weaker dollar. The veiled threat to print dollars and buy RMB assets, as part of the move to identify China as a manipulator, is a loose threat. Just to make it clear; it would involve the Fed printing dollars and buying Chinese government debt and/or stakes in SOEs, which would probably be politically contentious. Moreover, the PBoC could respond in kind; in fact, it probably would.
Read MoreThe Q1 earnings numbers have kicked up a lot of dust across sectors and individual companies, which is good news for stock-pickers eager to prove their worth. For markets as a whole, though, I see little change in the underlying narrative relative to what I have been talking about recently. Equity investors remain focused on what policymakers are saying rather than what they’re doing, sticking with the idea that central banks, and perhaps even politicians at large, have their backs. Bond markets are nodding in agreement. Solid labour market data in the U.S., and a robust Q1 GDP print, have not dented market-implied expectations that the next move by the Fed will be a cut. And in the Eurozone, markets have priced out an adjustment in the deposit rate through 2021. Blackrock’s Rick Rieder summed it up neatly last week by referring to the asymmetric outlook for policy. I am paraphrasing, but the idea goes something like this: “If central banks raise rates, they will do so slowly and hesitantly. If they have to cut, due to tightening financial conditions and a slowing economy, they will do so fast and aggressively.” I would even wrap in fiscal policy here, though this admittedly tends to operate more slowly, and over a longer timeframe than monetary policy.
Read MoreMarkets were mulling familiar themes last week. Will a wider U.S. twin deficit change the rules for the dollar and treasuries and is elevated volatility here to stay in equities? Judging by last week, the answer would be: probably and yes. The contemplation over these stories, though, were interrupted by politics. Mr. Trump announced his intention to apply tariffs on steel and aluminium—25% and 10% respectively—and Mrs. May attempted to give clarity on the U.K. government’s Brexit position.* I was unimpressed with both. Before I have a dig at Mr. Trump, I ought to provide an example of someone who supports it. I have great respect for Stephen Jen, but his argument here is like endorsing the idea of a diet by advising someone to eat nothing but kale and carrots for a decade. The analysis of Mr. Trump’s tariffs requires a distinction between the principle and the concrete measures. I concede that China is bending the rules of global trade, but Mr. Trump is stretching the fabrics of macroeconomic policy if he starts imposing tariffs on industrial goods. He is presiding over an economy close to full employment, a low domestic savings rate, and a medium-sized twin deficit. To boot, he is about to let fly with unprecedented fiscal stimulus.
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