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Business – In this article you’ll find:
- How is going on relations between US & China
- Why credit card transactions also point to a solid start to the year
- What could change with the new BOJ leadership
- How Japan’s inflation could impact their status quo
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News stories have been filled with geopolitical developments, including Chinese balloons, the ongoing war in Ukraine, trade disputes, and the U.S. debt ceiling standoff to name a few.
Yet, the Federal Reserve’s Geopolitical Risk Index has eased, moving back to its long-term average, as you can see in the chart below.
So, should investors be concerned about these geopolitical developments? Or is it business as usual?
Charles Schwab believes the answer is both.
Relations US & China
Last November at the G20 conference, Presidents Joe Biden and Xi Jinping pledged to stabilize the tense U.S.-China relationship.
Thus far, an easing of tensions has been elusive.
The purpose of Secretary of State Blinken’s trip that was cancelled in the wake of the incidents involving Chinese spy balloons earlier this month was to establish a floor in deteriorating U.S.-China relations.
The postponement of Blinken’s trip was not welcome news for Beijing, whose focus for 2023 is a domestic economic recovery, rather than international relations.
In contrast, the U.S. administration may seek some improvement in relations so the Blinken trip could be rescheduled.
There is a short window to do so before the start of China’s National People’s Congress in early March.
This setback will likely make it harder for them to manage potential upcoming flashpoints – events at which trouble, such as violence, flares up – in the coming weeks and months that have potential impact to financial markets.
Flashpoints that could escalate tensions
- There are plans for Taiwan visits by House Foreign Affairs Committee Chairman McCaul (likely April) and House Speaker McCarthy (later this year). China’s reaction to the McCarthy trip could provoke an even stronger reaction than former Speaker Pelosi’s visit last fall.
- If Chinese companies are found to be providing significant aid to Russia’s war effort, it could spur calls for secondary sanctions on China. It looked like China had largely refrained from providing material help, but a few recent press reports suggest there may be more military equipment sales than previously thought, in violation of Western sanctions. How far-reaching the administration’s forthcoming executive order on U.S. investment in China will be is yet unknown. The widely held expectation is that the order will limit investment in a narrow range of sensitive industries that have military applications (such as A.I. and certain high-tech equipment).
Yet, it’s possible that a broader ban on U.S. investment in Chinese firms emerges alongside legislate efforts to ban TikTok.
Despite these potential flashpoints, Charles Schwab feels that a continued rise in tensions with the U.S. this year is unlikely to have much impact on China’s economic recovery, which will depend mainly on domestic strength stemming from the post-COVID rebound in consumer demand.
A January Full of Surprises
The January employment report surprised to the upside, not only in terms of revisions to prior months, which revealed a stronger pace of hiring in 2022 than previously reported.
Also, in January employment, which rose by a staggering 517k.
The employment data raises the question of whether the economy is re-accelerating entering 2023.
High frequency data from credit card transactions also point to a solid start to the year.
BEA (Bureau of Economic Analysis) spending estimates from payment card transactions show total retail and food service spending – both store and nonstore – picking up.
BEA card spending on retail and food service, excluding nonstore, is running 16% above its pre-pandemic baseline, while spending at nonstore retailers is up 6.8%.
The latter is particularly important in terms of the signal for January retail sales.
Preparing for Japan central bank shift
The Bank of Japan looks set to change its ultra-loose policy as inflation takes root. Blackrock sees spillover risks to global yields, risk appetite and Japanese stocks.
Global stocks fell last week, and U.S. Treasury yields rose across the curve as markets partly priced out Federal Reserve rate cuts later in the year.
The U.S. CPI is due this week. The December core CPI was revised up sharply last week, showing it hadn’t slowed nearly as much as first reported.
Japan’s economy is starting to look like its developed market (DM) peers at least in one way: Inflation is beginning to take root after having been long missing in action for decades.
Yet the Bank of Japan’s ultra-loose monetary policy remains, including a cap on bond yields that requires sizable bond purchases.
Blackrock thinks a policy change could come at any moment – scrapping the cap risks pushing global yields higher and reducing risk appetite.
They cut Japanese stocks to underweight.
Inflation comes to Japan
Inflation – long missing in Japan – has reached four-decade highs on a weaker yen and higher energy prices.
Crucially, that’s now feeding into higher wages.
Blackrock thinks that paves the way for the BOJ to roll back policies that by its own measures may have achieved their goal: to foster a sustained rise in inflation toward its 2% target that is underpinned by wage growth.
The BOJ’s monetary easing went further than other major central banks with relentless bond buying to cap yields and large-cap stock purchases.
Governor Haruhiko Kuroda has led the effort as one part of former Prime Minister Shinzo Abe’s fight against deflation, dubbed “Abenomics.”
With wages rising by the most in decades, the BOJ can start winding down these policies.
Yet doing so is unlikely to be easy without stirring market volatility.
They sees any Japanese yield spike from scrapping yield curve control as a global risk that could drive other yields higher and hit risk appetite.
BOJ leadership change
Speculation is rising on what a BOJ leadership change in April will mean for policy.
Kuroda’s last meeting as governor will be March 10. But always Blackrock thinks who succeeds is less important than the fundamental issue: a nearing shift in policy.
Regardless of who takes over, they think the wage and inflation dynamics at play mean the current policy stance has likely run its course.
Policy changes could come in different forms.
The BOJ could widen the band on its 10-year bond yield target again – market pricing not impacted by the cap is already up to 0.5% higher than that limit.
They also think the BOJ could abandon its yield curve control at any moment.
That would push yields higher and stoke interest rate volatility. It would put the BOJ on track to stop bond purchases – it owns over half of outstanding Japanese government bonds – potentially let its balance sheet shrink as bonds mature and push up policy rates.
Join the conversation with your own take on these topics in the comments below.
About the Author
Alessandro is a Financial Markets enthusiastic and he loves learning from articles/papers on many financial topics.
In doing so he shares with you the most interesting charts and comments.