Submitted by Michael Every of Rabobank
Police State
The headlines continue to shock.
Firstly, the number of coronavirus cases surged past 300,000 on Sunday with more than 13,000 deaths now reported worldwide.
Secondly, predictions about the fall out on the global economic outlook have rapidly gone from bad to worse over the past few days.
- In the US over 80 million people are now in a lockdown,
- over 100 million could be in similar circumstances in India.
- In Italy, controls on movement have been stepped up with all internal travel now banned and in numerous other countries social gatherings have been forbidden and businesses have been closed in an attempt to prevent the spread of the virus.
In just over a fortnight or so, the debate among economists has shifted from whether the US will suffer recession to how big the downturn is likely to be. Our baseline base case now is a global pandemic as outlined by our colleagues here.
Central banks and governments around the world have moved quickly to staunch the wounds, but more policy support will likely be forthcoming.
On Friday, the UK Chancellor jacked-up the size of the fiscal relief offered to the UK economy aggressively – just over a week since he delivered his budget. The new measures include a pledge by the state to pay 80% of the wages of workers, up to GBP2,500 per month. Germany has announced it will raise EUR150 bln in new debt to bolster the economy, which is an abrupt departure from its culture of fiscal discipline. By contrast the US’s Republican’s Coronavirus Rescue Package failed to pass through the Senate yesterday. Shortly after the vote DJIA futures were again limit down. Democrats argued that the package overly favoured corporations and didn’t go far enough to support individuals facing joblessness and a loss of income. Democrats warned that they would introduce their own legislation which suggests that it could be some time before Congress passes a bill. The Fed proved last week that its decision making was far less cumbersome than its government’s. On Friday afternoon the Federal Reserve Bank of New York pledged to continue offering $1 trn a day in overnight repo operations for the rest of the month. As a consequence of the central bank’s activity, measures of stress in the money market started to abate. This bled into the spot market where USD strength took a step back.
The firefighting has continued at other central banks. The BoJ continues to use its balance sheet aggressively. This morning it has purchased JPY201 bln of ETFs, matching the daily record it set on Thursday. As the New Zealand government takes further measures aimed at self-isolating the whole country, the RBNZ today announced a large scale asset purchases programme through which it will purchase up to NZD30 bln of government bonds over the next 12 months. Bank of France Governor Villeroy has called for the Eurozone’s rescue fund to be activated to lend directly to states struggling to contain the economic impact of the virus. This could pave the way for additional sovereign bond purchases by the ECB. Eurozone officials are currently considering a plan that would see the European Stability Mechanism set up multiple credit line for member states. A substantial widening of peripheral yields forced the ECB to take step up its policy reaction in an emergency meeting late last Wednesday. Fragmentation risks surfaced particularly in Italian BTPs – partly because Ms Lagarde had stated during a press conference following the regular policy meeting that “the ECB was not here to close spreads”. Despite subsequent damage control, saying “whatever it takes” had lost its value, and so the Council had to put their money where their mouth is. The EUR 750bn ‘pandemic purchase programme’ was certainly the action that the market needed to see, re-establishing the ECB’s commitment to do whatever it needs to. Italian spreads tightened from highs around 300bp back to around 200bp. While this is still quite a bit higher than the levels seen in February, the actions certainly stemmed the bleeding.
After the Fed’s policy announcement on Friday, the strength of the USD ebbed and severely battered EM currencies trimmed their substantial losses amid signs of stabilisation in stocks (the S&P 500 Index closed above its weekly’s low on Friday). This, however, was short-lived as the early hours of trading on Monday morning have indicated. While sentiment remains negative at the beginning of a new week of trading, a period of respite/consolidation seems to be long overdue – especially after such a brutal sell-off as witnessed since the beginning of March. Also, various EM currencies have already reached levels considered as substantially overdone and somewhat disconnected with economic fundamentals. It does look grim and the outlook is negative, but if the US Congress approves without any further delay a comprehensive package to support the economy, the selling pressure on the EM FX may finally ease and we may even witness modest gains. Such a period should be considered as a short-term respite within the bearish trend across the EM that we anticipate to last for at least three months. We are nowhere near the turning point for the EM as the coronavirus continues to spread rapidly and the number of cases continues to rise exponentially outside Asia.
The Bank of Russia refused to put its signature on a rapidly expanding list of central banks to have slashed interest rates and opted instead to keep its policy rate unchanged at 6.00% on Friday. While it was in line with market expectations, we argued that a 50bps cut would be a more rational decision given that Russia is heading for a recession. The official statement included comments supporting our view that the CBR may seriously consider a rate cut due to worsening global growth prospects that will have negative implications for the Russian economy. Crucially, the central bank anticipates both domestic and external environment to be disinflationary. Unless USD/RUB rises well above the all-time high at 85.9573 to 100 or even higher – this would require urgent action including an emergency rate hike – we remain of the view that a cut would be a more rational response to the challenges the Russian economy faces in the coming months of a synchronised global recession.