Mizuho Daily – Respite, Not Resolution

Mizuho daily insights by Vishnu Varathan, Head, Economics & Strategy, Asia & Oceania Treasury Department, Mizuho Bank, Ltd.,

Respite, Not Resolution

After an initial brutal UST surge (testing 1.6%), long-end yields fell back late last week, with some degree of yield curve bull flattening; as long-end bonds were bought after heavy sell-off. Nasdaq ostensibly has found some solace, lifted 0.6% on Friday. But is in the context of almost 5% drop for the week, while S&P500 and Dow are down 2.5% and 1.8% losses for the week.

The good news is the indiscriminate sell-off across assets classes, led by a purge in bonds (sending prices sharply lower and yields in a violent upswing) has abated; as bond prices have recovered somewhat (yields correspondingly lower) and equity futures have turned positive. But this is merely a respite, not a resolution. Admittedly, central bankers like the RBA leaning against violent bond market moves have calmed nerves. But absent a more coordinated and targeted action to tame long-end yields, bond market volatility is a coiled spring.

In FX land, this has translated into a squeeze in the USD corresponding to a squeeze in short USD positions. And USD dominance in spite of UST yield pulling back from highs suggests “risk off”, safe-have demand for USD; eclipsing even the JPY’s safe-haven appeal. EUR is struggling for traction above 1.21, AUD has dropped below 0.78 (though off 0.77 lows), USD/SGD is knocking up at 1.33, while USD/JPY is buoyed around mid-106. In Asia, potentialy destabilizing UST yield volatility and higher oil may hurt INR, IDR and PHP relatively more. This may take shine off India’s Q4 GDP recovery; a respite, not resolution.

India Growth Outlook: Welcome Relief, Not Unfettered Rebound

India’s Q4 GDP 0.4% YoY (positive!) growth is prima facie all the more encouraging as it emerges from a recession on domestic private sector demand. Particularly encouraging are;

i) investment contribution turning emphatically positive (+0.8%-pts from -2.1%-pts in Q3) and;

ii) consumption contribution turning markedly less negative (from -6.4%-pts in Q3 to -1.4%-pts)

So the half-full take is that confidence has improved substantially, reviving investments and greatly healing consumption. But this upturn, welcomes as it is, must not be mistaken for being out of the woods; and not just due to backward-looking 7.0% contraction in 2020.

For one, investment pick-up is not inconsistent with pent-up boost in early-stage recovery that is led by resumption of activity rather than a resurgence of ground-up demand. What’s more, a fairly large 1.1%-pt boost from “Discrepancies” literally cautions about the unknowns around the Q4. To be sure, this is not just about discomfort with an accounting quirk, but rather legitimate doubts about a bumpy path and uneven recovery.

Point being, coming out of the pandemic does not automatically resolve the pre-existing banking sector overhang and resultant confidence deficit that has been a bugbear to reviving demand durably. These issues predated the pandemic, and will still require challenging policy recourse that is capable of conjuring “crowding in” to help restore 6-8% growth potential.

Unfortunately, sharper inequality amid displaced informal workers and (the myriad) farm sector challenges may considerably raise hurdles to growth restoration that can last. And inconveniently, rising oil prices pose major headwinds to sustained recovery in corporate profitability and household spending power; despite headline inflation easing. Perversely then, lingering stagflation-type risks tie the RBI’s hands, requiring awkward policy contortions to help stimulate the economy. The upshot is that as encouraging as the growth inflection is and fiscal support may be, a quick and unfettered rebound to potential growth is not a given.

Source: Mizuho Bank Ltd