Published On: Sat, Jun 20th, 2015

A messy Grexit, can be negative for risky assets: Anindya Banerjee

Rupee rate

So, did the US Fed ‘chicken out’? We do not think so. However, they have definitely tried to play safe, and also like a ritual, did what they have done so many times since the Great Recession, downgrade their economic forecasts to a more realistic level. They are not alone in this, IMF and many of us – the buy/sell side community – is guilty of that too. Enough ink has already been spilled as to explain why the structural reset has confounded most observers but let me talk about another angle to economic forecasting. Economic forecasting is like driving through a mountainous stretch in a thick fog. The driver has a fair idea where the road leads to and where he wants to go. However, visibility is limited to a few meters and hence one has to be alert. The driver knows that he may have to alter course and make sudden evasive maneuvers, if the situation demands.

Economic forecasting should also be done and accepted in that light. Nothing is etched in stone. In fact, since 2009, the fog has been thicker than usual and weather has been erratic. There are enough forces at play to ensure that things remains like that, but to summarize, I would say, debt financed consumption and investment boom, that had got way to extended, reached its inflexion point and is now on a corrective course. Hence, too much supply and inadequate demand keeps haunting many global sectors, across most economies, from developing nations to developed nations. Time is the answer but time which is in short supply, especially for the quick fix policy framers and policy executers. Their impatience reminds me of the line from the famous poem from Robert Frost, “Stopping by Woods on a Snowy Evening”: “The woods are lovely, dark and deep, but I have promises to keep, and miles to go before I sleep, and miles to go before I sleep.”

Would the Fed hike in December or next year? It does not matter, as long as they do in the near future. The bigger question is what is the overall bias of their monetary policy and why did they refrain from committing to a timeline. I believe, US Fed sees the situation in Euro zone as fluid and serious. The game of thrones being played in Euro zone, a political theater, is both dangerous and dramatic. US Fed did not want to box themselves in a corner, by calling a timeline, and then see “Grexit” become a reality and markets turmoil. US Fed may have wanted to keep the flexibility on, so that, in case Euro zone finds another innovative way to kick the Greek can down the road, like they have done umpteen times over past six years, US Fed can bring the rate hike theme right back on table.
Another reality is that, US Fed is no longer writing any fresh cheques to finance the global asset boom. The result, though quite expected but has been very significant, one of the engines of the asset boom has already failed, the hard assets. The financial asset engine is still very much generating enough power but some kinks have started to appear at the margin. Bank of Japan and ECB have tried to provide a secondary support, and they have done a decent job, as without their support, probably we have had lost both the reflationary engines. However, the question remains, how long can the jumbo jet sail on just one engine?

There are reports of Chinese monetary and fiscal pump priming happening. We have already seen China embark on a ECB-like LTRO like mechanism, where they allowed banks to buy debt of regional governments to swap them for funds with the central bank. Now they have also allowed the regional governments to spend more by issuing more bonds, something the central leadership abstained from, in the name of rebalancing the economy. However, it seems the pain and reality of good behavior is becoming a too much a burden to bear. Hence, they may have resorted to their old ways of inflating the debt financed supply side over investment even more. If that is true, it can provide some life to hard assets, especially commodities and Chinese properties for a short time, but it comes with bigger medium to long term cost.

Back home in India, our external trade for the month of May, moderated further, not a very encouraging sign.


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