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The biggest shift this week is the great decoupling. Europe, the U.S., and China are all going their separate ways regarding monetary policy, marking this time as a historic first in recent history.
The UK is experiencing double-digit growth inflation, while in Germany, one-year forward energy prices have nearly doubled the previously reached all-time high, causing PPI numbers that look like they came from a third-world country.
What’s in store for China and the U.S? Read on!
TLDR: UK posts double-digit inflation (10.1%), while Germany's PPI comes in at… 37.2%!
And that’s not all.
French and German energy prices are spiking through the roof. This is a chart for French Energy, but Germany looks pretty much the same.
Needless to say, it will be a very difficult discussion as the ECB is not looking forward to aggressively hiking rates given the massive amount of debt already on its balance sheet and the disparate economic trajectory of its members.
This will make for a difficult winter ahead.
On the flip side, Germany is aggressively trying to reverse course and increase base load power generation, including keeping nuclear plants open… Oh wait, that was last week; just this Sunday, they did an about-face and are still going ahead and most likely shutting down two of the three remaining power plants. Four-digit electricity prices here we come!
TLDR: The Fed released minutes from last month’s meeting that indicate signs of a slowing pace of rate hikes.
There was surprisingly little market reaction to the minute release, equities initially rallied only to do a 180 to close roughly where it was before the release.
Within it, there was talk of a slower pace of hikes considering how long it takes for feedback effects to work themselves out within the economy. This was largely already telegraphed during the press release, making the minutes a roughly neutral event.
TLDR: China’s central bank cut the key lending rate TWICE this week. This is very unusual and spells trouble reminiscent of the U.S. financial crisis.
For those that lived through the great U.S. financial crisis there’s no need to remind everyone that it started with real estate; under the premise that real estate prices never go down, you can get mortgages with nearly no money down. Remember the strawberry picker that got a 700k mortgage?
Anyway, if you think that was absurd back in the day, what has happened in China in the last 30 years is essentially that scenario, magnified by a factor of ten.
The reasons that led to where we are today are very complex and long-running. A good thread about this topic is here. But the short story is that everyone from buyers to sellers has been over-leveraged.
The mega developers, in particular, sold properties with nothing but the floor plans, used that cash to buy more land and repeated the process. And that works fine along with a hyper-growth economy, and you always expect to be able to sell out. You could have 10x’ed your investments without even building a single home.
Until the economy chokes.
And with the collapse about a year ago of Evergrande, one of the largest property developers in China, the deleveraging process has been set into motion.
Adding to the pain is China’s zero COVID policy, which has put a damper on economic growth, essentially dashing the hopes of those that depend on real estate asset inflation to dig them out of this mess.
This past week’s double rate cut is reminiscent of Bear and Stern’s collapse in terms of timing. It’s the moment when a credit squeeze can be seen on the horizon. This has huge implications for what may happen to inflation in the next year or two as China is still the world’s factory.
Will energy prices subside?
Will China be able to export deflation elsewhere as its local economy cools?
Will Europe experience another debt crisis a la 2012?
Keep reading as we distill the biggest economic news of the week!
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