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Author: Manish Singh

“It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.”

Summary

Society is a three-legged stool where each leg – economic, political and social – has to hold for the stool to stay upright. We often spend too much time and too many resources analysing and reporting on the economic and political legs, forgetting that the social leg is just as important, if not more so. Unaddressed, or wrongly addressed, social concerns have a tendency to creep up quietly and overwhelm societies – Brexit, Trump and the populist movement sweeping across Europe are good examples of this. German Chancellor Angela Merkel is finally in political trouble, not for economic mismanagement, but for her immigration policies. How fast the tide turns! When Merkel opened Germany’s borders to thousands of asylum seekers three summers ago, people in the affluent state of Bavaria rushed to help in such great numbers that authorities had to briefly turn back offers of clothing and food. It’s the same Bavaria now that has become Merkel’s Waterloo. The Christian Democrat Union (CDU) and the Christian Social Union (CSU) have formed a common group in the German Bundestag since 1949. However, this 70-year partnership that has provided leadership to the Eurozone over last two decades, is now at a breaking point. For the European Union (EU) and the Eurozone, the only thing worse than a strong Germany is a weak Germany. With the exit of Merkel, the EU would be robbed of the only political leader who appears to have the stature and experience to hold the bloc together, as it stumbles from one crisis to the next.
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“The individual has always had to struggle to keep from being overwhelmed by the tribe. If you try it, you will be lonely often, and sometimes frightened. But no price is too high to pay for the privilege of owning yourself.”

Summary

Italy, the beating heart of the European Union (EU) has gone from being a cheerleader of the Euro to a vociferous opponent. The market has taken note of a potential crisis brewing in Italy as a new populist government takes office. The yields on the Italian sovereign bonds (BTP) are rising and if you are looking to insure against a default, you will have to pay more to protect yourself against default on Italian bonds than Russian government bonds. That’s because, at €2.3 trillion, Italian sovereign debt is 132% of Italy’s GDP. Italy’s problems are lack of growth, shrinking industrial production and the absence of independent monetary policy levers to handle these. Since the peak of the financial crisis in 2008, Italy has lost over 9% of its GDP and a quarter of its industrial production. The average annual rate of growth per head in Italy, since the adoption of the Euro in 1999, has been zero. Therefore, an Italian born in 1999 who just turned 18 and has become eligible to vote for the first time, has seen nothing but economic stagnation during his lifetime. Yet, Italy is no Greece. Italy’s GDP at €1.7 trillion is ten times that of Greece. Italy runs a current account surplus, a healthy savings rate, and is a net contributor to the EU budget. Italy can not only survive outside of the Euro, it can thrive. The European Central Bank is nearing the technical and political limits of Quantitative Easing, and the growth in the Eurozone is slowing down. If yields keep rising and growth doesn’t pick up, it is likely Italy will relapse into an insolvency spiral. If Rome is then asked to submit to austerity for a second time, it will likely take matters into its own hands. The Euro experiment, therefore, may be nearing its end.
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“There are two kinds of forecasters: Those who don’t know, and those who don’t know they don’t know.”

Summary

In the 1930s, for over eight and half years, the US ran a trade surplus. Presumably, had Donald Trump been US President at the time, it would have made him a very happy man. Or maybe not. The 1930s will be remembered for the Great Depression, the worst economic downturn in the history of the industrialized world. President Trump likes to blame “tariff barriers and unfair trade practices” for America’s trade deficit. However, the key issues that are prevalent in the US since the 1980s, are a high domestic consumption rate, a low savings rate and a low investment rate. America has a deficit because it consumes more than it produces and spends more than it earns, both privately and as a nation. The obsession that every country’s policymakers has with running a trade surplus ignores one basic reality: All governments cannot run a trade surplus. For every surplus, there has to be a deficit. For the sake of the US Dollar and the US itself, Trump should focus on the budget deficit and the national debt and not obsess excessively with the trade deficit. If the recent tax cuts fail to accelerate US growth, let alone reach +4% as Trump has suggested, the deficit will soar and make fiscal conditions worse. How long will foreign investors then continue to finance the US deficit? Every indebted economy has a day of reckoning. For the US the risk may not be immediate but it certainly is rising. It was debt that caused the UK and Sterling to lose their crown to the US and the Dollar. The enormous post-war balance of payments deficit was just too much for the UK. Debt had taken its toll.
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“What kind of society isn’t structured on greed? The problem of social organization is how to set up an arrangement under which greed will do the least harm; capitalism is that kind of a system.”

Summary

From haggling over the price of tea on a quayside in Guangzhou in 1784 to trading in electronics and t-shirts today, over the course of more than two centuries, trade between the US and China has grown beyond imagination. This trade relationship is now the most significant in the global economy.

The world’s two largest economies account for 40% of global GDP, a quarter of all exported goods, and 30% of the world’s Foreign Direct Investment (FDI) outflows and inflows. Their fates are inextricably linked. In a way, they complement and need each other. The US cannot compete with China when it comes to manufacturing and China cannot compete with the US when it comes to product design or research and development capabilities.

The world’s most cost-competitive and largest electronics industry supply chain is in Shenzhen, China. China’s manufacturing capacity is so well honed and organised that it accounts for more than 25% of global manufacturing. It is my firm belief therefore that there will be no US-China trade war on the scale that may worry us all – and tariffs are just a negotiating tactic, albeit a necessary one. I see China opening itself up more to US exports. The US-China trade deficit will start to close meaningfully when the prosperity of China’s middle-class increases and they demand services that the US can export to China. Therefore, it is not just in the US and China’s, but also in world’s interest, that a China –US trade war is averted
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“The more the State “plans” the more difficult planning becomes for the individual.”

Summary

Despite its high debt to GDP ratio, Italy’s main problem isn’t that it borrows too much – the issue is its non-existent growth. Italy, the third largest economy in the Eurozone hasn’t grown in any meaningful way for over two decades. Tinkering on the edges and paying lip service to reform mean that the outlook isn’t very bright for Italy. The European Central Bank’s (ECB) easy monetary policy over the last five years, may have pushed the recent GDP growth rate in Italy to +1.5%’ but what will happen when the ECB winds down its Quantitative Easing program and interest rates begin to rise? A re-run of the rising sovereign bond yield and questions about the viability of Italy’s economy are bound to resurface. In terms of equity markets, I don’t believe we have entered a new market regime, despite the recent market move. We are probably entering a transition phase and despite the market rhetoric, it is premature to conclude that the US Federal Reserve is behind the curve. The steady rally up we have seen over recent years may be behind us and what we will see going forward are moves both up and down i.e. welcome back to the two-way market. I still expect the S&P 500 Index to notch an +8-9% return this year – at least 200 points higher from the current level. What I am more concerned about is the rapidly deteriorating political equation in Germany. For the first time, the Far-Right Alternative for Germany (AfD) party has now surpassed the centre-left Social Democrats (SPD) in a national poll. How long before the AfD becomes the largest party in Germany? Inconceivable one might say, but not impossible. As Angela Merkel has moved leftward to occupy the space formerly taken up by the centre-left, the AfD has little competition for anything right of centre.
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“Real knowledge is to know the extent of one’s ignorance.”

Summary:

The all-important 19th National Congress of the Communist Party of China (CPC) kicked off last week in Beijing. In his bold 3 hour and 23 minute address, President Xi Jinping, outlined the party’s priorities for the next five years. If Beijing has its way, China is on a track to becoming an economic power the likes of which we have not seen in a long time. It’s not the Japan of the 1980s, it’s much larger. It’s no surprise then that even the US National Intelligence Council warns that the era of Pax Americana is “fast winding down.” To the Western eye the ascendant power of Beijing may seem a disruption to the status quo, but to students of world history and China, it is the restoration of a millennia-long equilibrium. China was the biggest economy in the world for most of the past 2,000 years, only to be overtaken by Europe in the 19th Century. The ramifications of this Chinese growth are significant. America will almost certainly come out second best if it doesn’t change tack – with Europe a long way behind.
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"Political correctness is tyranny with manners."

With Brexit and the election of President Trump, a new era is upon us. An era in which the certainties that have held true for decades are suddenly no longer valued. They are vulnerable. Globalization, immigration and liberalism which have defined the last three decades could get undone by protectionism, nationalism and populism. Yes, trade wars could be a reality and, yes, the US and China really could go to war in the next five years. No, their trade relationship will not prevent it. The UK­German economic relationship didn’t prevent the slaughter at the Battle of the Somme a century ago. However, there is a silver lining. The current populist wave in the US and Europe is not about “pitchforks and soak the rich” and potentially has a positive side to it. Unlike past populist movements that arose from a desire to upend society, today’s movement is driven more by the longing to restore things to the way they were in the “good old days.” In other words, it may have reactionary elements, but it is not truly revolutionary. The grievances if handled correctly, will pave the way for a brighter future. The markets are probably right to think that Trump heralds a friendlier approach to business, in the form of lower taxes and less regulation. The S&P 500 Index (SPX) has been flat since mid­December, as investors take a wait and see approach to the policies of President Trump and their impact on assets.

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"In our personal ambitions we are individualists. But in our seeking for economic and political progress as a nation, we all go up or else all go down as one people."

Hillary Clinton is now favourite to win the US election. If the US economy continues to grow at a pace of +1 to +2% per year (instead of the historical +3% to +4%), then the current economic and political problems will only worsen. Clinton will be acutely aware of this. A growth deficit should be a bigger worry than a budget deficit. Fiscal austerity has to give way to fiscal spending that induces growth. With 30y US Treasurys yielding 2.5%, borrowing to invest should be the mantra. The current economic expansion in the US, which began in June 2009, is now in its 88th month, which means that Trump or Clinton is likely to face a recession early in his or her administration. Equity Bull markets tend to have an expiration date as well: On average every 4.5 years. However, like the economic expansion, this Bull Run is also past its due date and is now seven years old. Does that mean one should sell? Not at all. Seasonally, we are entering the best period for equity markets. November to April is when equities tend to do well, before the May to October swoon. Since 1950, the S&P 500 Index has gained +7.1%, on average from November through April, versus +1.4% from May through October. Monetary accommodation is set to continue. These markets will not be broken by central banks. In many respects the central banks “own” these markets. If anything breaks the market, it will be the upheaval that only politics can cause – the US election, the Austrian election, and the Italian constitution referendum amongst others.

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"A government big enough to give you everything you want, is big enough to take away everything you have."

The Brexit vote can be about many things but, at its heart, it’s a vote about the sovereignty of the national Parliament of the UK. Whilst those on the continent (particularly in peripheral Europe), may have come to trust Brussels more than they trust their national Parliaments, at least in the UK sovereignty is cherished and protected. In the eyes of a Brexiteer, the European Union (EU) undermines that sovereignty. I expect the UK to vote (albeit very reluctantly) to Remain in the EU. However, a vote by the UK to Remain should not be construed as an approval of “business as usual.” There was never a necessity for the EU to be anything more than a “free trade” alliance and one can’t deny that the EU’s reach has exceeded political necessity. Whether or not the UK leaves, change is coming. Globally, if loose monetary policy alone remains the saviour, then I am concerned that we may see the next recession in the US in the not so distant future, as job growth slows and drags down with it wages, capital investment and consumer spending. The Negative Interest Rate Policies (NIRP) being deployed by central banks, seem ill­judged and a waste of valuable time. Negative interest rates are simply a distraction from what must be done to accelerate growth. The demand has to be injected directly into the economy and not intermediated through the financial markets.

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"How do you tell a Communist? Well, I predict future happiness for Americans if they can prevent the government from wasting the labors of the people under the pretence of taking care of them."

The Facebook IPO has come and gone and it has made Mark Zuckerberg a billionaire – many times over – and a Sucker-berg out of all retail investors who rushed in. Hype is not value. My fair value for a Facebook share is $20; however, I would wait to hear more about the company’s revenue growth plan before buying the stock even if it gets to this level. Greece has proven the point made by Margaret Thatcher about Socialism: eventually you run out of other people’s money. Germany is faced with two impossible outcomes – they take losses on the debt extended so far and suffer from, a rising Deutsche Mark (if the Euro then breaks up), or they tolerate high inflation and bear yet more fiscal transfer, if the Euro carries on as it is. Since it is difficult to work out the cost and benefit of each option just yet; the evidence so far suggests that Germany may be willing to give political integration in Europe a shot. The recent pullback in equity markets globally was primarily driven by the May 6 Greek elections, and fear of a Greece exit (or Grexit). I do not believe either a Greek exit or a Spanish bankruptcy is on the horizon. I am more inclined to believe that further ECB easing and European bank recapitalisation on the scale of the US (think TARP 2008), are the next actions in Europe

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