Significant volatility returned to the markets with a general sense that the Rubicon has been finally crossed. Meaningful ratcheting up of news flow and rhetoric – as well as important breaks of key price and yield levels – all contrived to the sense of major and worrying escalation across the global economic and geopolitical spectrum. As a logical consequence, Gold continued its ascent higher, touching $1,500 and making new all-time highs in many other currencies.
What happened in geopolitics?
North Korea continued its assertive posturing ahead of the next round of US negotiations, with a series of short-term rocket artillery and ballistic missile tests. In Kashmir, a historic Indian decision to revoke the region’s autonomy sent shockwaves through the world. Tensions between India and Pakistan reached a new high while China also vigorously decried the move. Internet and other communications were shut down in order to quell any uprising.
In Hong Kong, violence and protest continued against the mainland’s intervention in HK affairs after weeks of continued unrest. What was thought impossible a few months ago – tanks from the mainland rolling into Hong Kong – is now seen as a distinct possibility. Beijing appears in no mood to back down.
Meanwhile in Europe, it looks increasingly likely that the UK will leave the EU without any withdrawal agreement, sending sterling considerably lower the past weeks.
Finally in the US, multiple incidents of horrific mass shooting have contributed to the feeling of general unease permeating across the globe.
What’s happening in the economy?
With economic data continuing to show a severe global economic slowdown, the pressure has intensified for central banks to once again reduce interest rates or use extraordinary measures such as more QE or take rates further into negative territory. Industry orders and PMI surveys continue to show further weakness in economic activity and economic demand. This is just the excuse for central bank action.
Today for example was a case in point. The Central Banks of New Zealand, Thailand and India all initiated easing action beyond the market’s expectations. The difference this time – versus previous simultaneously action – is that policy makers are acting independently of one another. The action is competitive, not cooperative. This is an inflection point and marks the start of the real currency war.
This has been coming for months. The US administration’s heightened antagonism to what it sees as currency manipulators has been in plain sight, especially via President Trump’s Twitter proclamations. Indeed, the latest escalation last week was the US finally, after months of threats, labelling China a “currency manipulator” as the Renminbi broke the key 7 level.
Lower rates and more negative yields appear almost inevitable now with this policy surge. Such a consequence can be seen in several European counties where the entire yield curve is now showing negative yields. Another important news item was the announcement of the first negative mortgage bonds. This leads to the situation where Danish citizens are able to borrow at lower rates than the US federal government.
Another consequence, which is becoming close to home for the wealthier, is the news that UBS has decided to reduce the balance amount where it charges negative rates to private clients.
The logical consequence is for these balance levels to become lower as rates become lower. This will thus take in more and more clients, many who are not as wealthy. The academics believe this will make them spend more on riskier assets such as stocks. However, an unintended consequence of this may be that clients withdraw their cash from the bank and keep it in physical cash. This would cause significant liquidity issues in the banking system. However, the world is not at the stage yet.
What could happen next?
A global recession, geopolitical ruptures and central bank policy are all undermining the institutions, conventions and systems that the world has taken for granted for so long. Yet the change is slow. If this trajectory continues, safe-haven assets will continue to be in demand. And if a full-blown currency war does indeed erupt, with competitive and aggressive devaluations begetting further competitive and aggressive devaluations then those who can will flock in droves to gold.