It has become abundantly clear that we have entered an era of ultra-low interest rates in much of the industrialized world. From Japan to Germany and much of Europe, negative rates, particularly in the sovereign space, have taken hold.
The trend towards both ultra-low and negative interest rates, globally, has been confirmed and reconfirmed in recent quarters.
Though monetary policy here in the US has yet to price in negative yields, it is widely accepted that the global trend towards negative and ultra-low sovereign yields will ultimately inform US monetary policy – eventually. A relatively healthy US economic landscape has acted to delay that potential eventuality.
For the time being many on the street are willing to accept that, in time, the US economic expansion will ultimately slow to the point that meaningful accommodation in the form of lower interest rates by the Federal Reserve will be triggered. We have seen the Fed move to lower rates twice in recent quarters, but those moves have been triggered by concerns over modestly slowing domestic growth. As a result, the loosening of monetary policy has been incremental thus far. In the event we ultimately see the longest-running economic expansion in the post-WW2 era come to an end, the Fed will be forced to lower rates more aggressively. In the process, US interest rates will more closely align with what we have seen take shape around the globe.
At some point, if the global trend in rates is any example, the US may see an extended period of ultra-low interest rates. As President Trump has repeatedly pointed out, lowering borrowing costs will act as a boon to the Federal government in that it will ultimately lower borrowing costs. That would have a therapeutic impact the ballooning federal deficit. That said, it would also effectively impact the Federal Reserve’s independence. It could also lead to other unintended consequences – all of which are cause for concern. Pension funds, already in a very challenged position, would have a deeper crisis on their hands. It would also trigger a potentially dangerous rotation into higher-yielding instruments – the net result of which could lead to artificially elevated valuations (bubbles).
With inflation running slightly below the Fed target of 2% and an economy still in expansion mode there is clearly little policy justification for much of a shift in monetary policy. Domestic economic growth, as measured by GDP, is 2% based on the last quarterly reading. Unemployment now stands at 3.5%, a 50-year low. Wages are rising faster than inflation as we’ve pointed out in recent notes. Though considered to be sustainable, it is certainly not in danger of overheating. Conversely, there aren’t any indications that there is a recession on the horizon as we have discussed, and based on Fed Chair Powell’s testimony last week.
The US is in a unique position in the industrialized world. In August, 95% of the investment-grade debt issuance with positive yields globally came from the US, according to Investors Business Daily. Is there justification for US rates (sovereign and corporate) to remain so elevated above the rest of the industrialized world? And if so, by how much? With the Fed expected to cut rates by .25 bps again in December, it will be interesting to see how that informs the balance of the world’s yield curve. We are heading into uncharted territory; that territory is fraught with risk and unintended consequences.
Last week’s Economic Calendar Highlights
- ISM Mfg. Index for September was released on Tuesday morning by the Institute of Supply Management. Econoday consensus was 50. It was actually 47.8 – weaker than expected. This manufacturing data is being very closely monitored in light of the ongoing trade tariffs with China and as it relates to the long anticipated cycle-end.
- The EIA Petroleum Status Report for the week ending 9/27 reflected mixed inventory results. Crude inventories rose 3.1 M bbl while distillates and gasoline saw minor draws, 2.4 M bbl and 0.2 M bbl. A rather benign weekly reading that continues to be reflected in relatively stable crude prices.
- Weekly jobless claims for the week ending 9/28 reflected a small rise of 4K to 219K from the previous week’s 215K. The weekly results were in-line with recent results.
- September’s employment report fell largely inline with expectations. Though only 136k payrolls were added the unemployment rate fell to a 50-year low of 3.5%. the LFPR remained 63.2%. Manufacturing payrolls slipped 2k.
- International trade figures for August were released reflecting a largely unchanged result from the previous month. $-54.9B versus $-54.0B.
- Fed Chair Powell’s speech provided a relatively upbeat assessment of the current state of the US economy, while alos noting a signs of global slowdown for the foreseeable future.
This week’s Economic Calendar Highlights:
- Jerome Powell speaks
- Producer Prices Index – Final Demand (PPI-FD) for September is released at 8:30am. Econoday M/M consensus is 0.1% – matching Augusts results. Y/Y is expected to come in at 1.8%
- Jerome Powell speaks
- Jerome Powell speaks
- FOMC Minutes are released at 2:00 pm
- September’s Consumer Price Index (CPI) reading is released at 8:30am. Econoday M/M consensus is 0.1%. The Y/Y reading is expected to be 1.8%
- Weekly Jobless Claims for the week ending 10/5 are released at 8:30am