When Even Germany's Chancellor Looks Like Blofeld

By Michael Every of Rabobank

The market quietly digested US labour market data for most of yesterday’s holiday-thinned session. Some worried the labor market is still too hot, with nominal wage growth of 5% y-o-y (and the UAW asking for 46%) vs. productivity growth that’s negative. Others worried everything is too cold, with a weaker revised payrolls trend and a rise in labour force participation rates to where they were 20 years ago - which happens both when savings are depleted (i.e., immiseration) and when wage growth is strong (i.e., remuneration.) For many, however, it was a Gold-manSachs-ilocks release that said asset markets were just right to keep going up.

Except so did oil: Brent is now close to $90 despite recession looming and the labor market softening. Indeed, throw in that Chinese manufacturing is still expanding even if the Caixin services PMI today slumped back to51.8 from 54.1, and it’s far from clear that the usual narratives of ‘rates fall soon!’ or ‘stocks keep rising!’ still apply. The risk is instead of supply-side stagflation.

Russia and Turkey just failed to thrash out a new Black Sea grain deal; the Financial Times suggests the EU is “poised for a giant leap towards further integration” – and yet also expensive expansion; Indonesia rejected an offer to join the BRICS11, and said it wants to join the OECD; the US looks to sign a comprehensive strategic partnership with Vietnam, adding to renewed ties with the Philippines, and between South Korea and Japan; and China’s Xi won’t attend the G-20 in India, nor perhaps the APEC summit in the US – so much for the good will efforts. Meanwhile, we see that ‘China to Set Up New Agency to Promote Private Sector Growth’ and this “Bureau will track and analyze the state of private business”; and, of course, the state will then allow private businesses to do whatever they decide to, privately(!)

Yes, the Black Sea aside, none of those headlines translate to a direct move in stocks, bond yields, or commodity prices. However, the collective picture suggests structural shifts that carry fat tail risks for markets, as has been made abundantly clear of late (i.e., Brexit, Ukraine, China’s ‘common prosperity’).

Sometimes a picture speaks a thousand words. Mild-mannered, liberal-world-order, green-transition-loving German Chancellor Scholz just appeared with an eyepatch and scars that make him look like Blofeld from Bond, Number One from Austin Powers, Moshe Dayan from 1967, or Space Commander Travis from Blakes’ Seven. All Scholz needs is a white cat and a swivel chair: that might help him grasp the spectrum of conflated challenges he faces, as warnings rain down of threats to Germany’s auto sector, and as wind farms are dug up to mine coal, while imports of Russian LNG surge, due to a refusal to use nuclear power.

Sometimes a chart also speaks a thousand words too. While people argue about whether 2-year US Treasuries are a “screaming buy” or not ‘because rates will be cut soon’, or 10s are the same ‘because rates won’t be cut soon, but need to be”, look at the 30-year. It is now at 4.31%, when it started 2023 at 3.96%, 2022 at 2.02%, 2021 at 1.66%, and 2020 at 2.33% (i.e., pre-Covid).

There are two takeaways from that.

• First, barring a sudden collapse in US data, this could indeed be a third consecutive year of losses for those long bonds, which some have recently pointed out has not happened to the US Treasury market in general since the American Revolution. Talk about usual models not applying!
• Second, the bond market is saying long-term US growth is going to be higher ahead with low inflation; or growth will be the same as now or lower, but with higher inflation; or what-we-can’t-explain-so-call term premiums have risen due to “uncertainty”… like the UAW asking for a 46% pay rise, the US running a massive fiscal deficit even before the onset of recession and a need to rearm again, and worrying shifts in the geopolitical and geoeconomic architecture.

In short, put on an eyepatch like Scholz and squint at the US 30-year if you want an idea of the future.

This is the backdrop for the last policy meeting for RBA Governor Philip Lowe today. Before heading off into the staggeringly well-remunerated sunset --because he isn’t going to go build low-income housing-- he is widely expected to keep things as they are at 4.1%, though our AU/NZ strategist Ben Picton expects another 25bp hike to 4.35% later in the year. As such, Lowe will depart with the rare accolade (for now, but not for long!) of having left with higher policy rates than he started with, so his monetary policy was not eponymous after all.

When Dr. Phil joined the RBA in September 2016, Australia was already in the New Normal following the end of the China commodity boom - which the RBA had not seen coming despite warnings from yours truly. The overnight cash rate was already at just 1.5%, and Lowe left it there for almost three years, before cutting to 1.25% in June 2019, to 1.0% in July 2019, to 0.75% in October 2019, all pre-Covid, and then to 0.50% and immediately to 0.25% in March 2020, and again to 0.1% in October 2020 once the virus struck. Then we got pointless QE, pointless yield curve control, and the infamous “Rates won’t rise until 2024” promise. Which ended up with the RBA on the government’s Naughty Step.

The RBA’s subsequent review will see fewer rate meetings under new Governor Bullock, who was along for the whole ride so far as Deputy Governor, and: “A clearer monetary policy framework; stronger monetary policy decision making and accountability; an open and dynamic RBA, with a more agile and empowering culture; more robust corporate governance; and steps to ensure RBA leaders drive institutional and cultural change.”

Sadly, however, the only thing that may actually change is the wallpaper. The intellectual theme song at the RBA will likely remain "I’m housing, housing, housing, housing. I’m housing, housing, housing, housing all night.”

To have really changed in a way that would allow it to not focus solely on assets as growth drivers, and to avoid future shocks when assets eventually, inevitably become unaffordable, as in China; or external shocks have like the mid-2010s, or the inflation return of 2021-22, would require a far broader spectrum of thinkers to enter the Reserve Bank than is the case so far. It would require experts on geoeconomics; on the supply side, not the demand side; on shadow banking; on national security; and those who grasp Kaleckian political-economy, not just economics.

Absent those, we probably won’t get an ‘eyepatch’ view from the RBA, just a lilac-scented eye-mask that lulls the naïve to sleep.

As such, ignore what they say, because they are going to be far more wrong than right, and keep looking at the 30-year US yield and international news headlines instead. And go buy yourself a white cat and swivel chair.