by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

The newest Confluence of Ideas podcast episode, “The Dollar and the Eurobond,” is available today!  This episode looks at the decision by the EU to create a mutualized bond, a debt instrument backed by the full faith and credit of all the member states of the EU, and how this could affect the dollar’s reserve currency role and create a competing instrument for the U.S. Treasury.  Although the dollar remains the global reserve currency, there is widespread dissatisfaction with the role.  On the domestic front, the dollar’s role has been positive for financial services and retailers, but it has been a persistent negative factor for import-competing industries and their workers.  Foreign nations are increasingly uncomfortable with the U.S. weaponization of the dollar through financial sanctions.  If debt mutualization continues to expand, the euro will become an attractive reserve currency to foreign reserve managers.

The strength in U.S. risk assets so far today stems in large part from signs that the U.S.-China trade deal signed in January is still on track, despite all the other friction points in the bilateral relationship.  Oil and gas prices are up as Tropical Storm Laura heads toward the Gulf Coast.  For once, there is little new info on the coronavirus pandemic.  We review all the key news below.

United States-China: After a videoconference between U.S. Trade Representative Lighthizer, Treasury Secretary Mnuchin, and Chinese Vice Premier Liu He to review the U.S.-China trade deal signed in January, the Trade Representative’s office released a short statement saying, “Both sides see progress and are committed to taking the steps necessary to ensure the success of the agreement.”  China’s official Xinhua News Agency published a statement saying, “Both sides agreed to create conditions and atmosphere to continue to promote the implementation” of the trade pact.  The statements provide reassurance that the agreement remains in place regardless of China’s apparent shortfall to date in meeting its commitment to import more U.S. products.  The statements therefore suggest trade tensions between the countries could remain calm in the near term.  That’s clearly a positive for risk assets for now.  However, it’s important to remember that there are plenty of other friction points between the U.S. and China, such as China’s geopolitical aggressiveness, technology theft, and spying, to name a few.  All the U.S.-China friction points could heat up again if they become a point of contention in the runup to the U.S. elections in November.

United States: The Republican Party launched its mostly online convention yesterday, with President Trump being nominated unanimously as its candidate for president.  The convention programming included a noticeably higher share of live speeches than the Democratic one last week, though there isn’t yet much of a sense which party was more successful in engaging the national audience.  We also noted that in discussing his administration’s response to the coronavirus pandemic, President Trump reverted to calling it the “China virus.”  That signals China bashing could indeed be a significant part of Trump’s campaign leading up to November.

Speaking of elections, National Security Agency Director and head of U.S. Cyber Command Paul Nakasone, along with senior Cyber Command adviser Michael Sulmeyer, have published an article in Foreign Affairs stating that the U.S. “disrupted a concerted effort to undermine the midterm elections” in 2018 and is using those lessons to protect November’s elections.  The article claims experts at the NSA and Cyber Command have “formed the Russia Small Group (RSG), a task force created to ensure that democratic processes were executed unfettered by Russian activity.”

China-India: In response to the China-India border dispute in the Himalaya Mountains, the Indian government has quietly started to phase out equipment from Huawei (002502.SZ, 3.04) and other Chinese companies from its telecom networks.  New Delhi has issued no formal written ban on Chinese equipment, nor has Prime Minister Modi’s government made any such public pronouncements.  However, industry executives and government officials say key ministries have clearly indicated that local telecom service providers should avoid using Chinese equipment in future investments, including in 5G networks.  The move suggests the U.S. is gradually bringing more countries to its side in its effort to roll back Chinese economic, technological, and spying activities around the globe.

Russia: German doctors treating Russian opposition activist Alexei Navalny said tests confirmed he was poisoned with a toxic nerve agent.  It therefore looks like Navalny has joined a long list of Russian opposition figures who have mysteriously been poisoned and/or murdered.  In response to the announcement, German Chancellor Merkel and her foreign minister, Heiko Maas, called on Russia to conduct an open and transparent investigation into the poisoning and to prosecute the culprit.  However, the Russian government said it sees no need for a probe and accused the German doctors of rushing to judgment.

Belarus: At least two members of an opposition-led council formed to help the transfer of power to a new government following Belarus’s presidential vote were detained, raising fears that longtime authoritarian leader Alexander Lukashenko has no intention of ceding power.

Hurricane news: The National Hurricane Center has issued a hurricane watch stretching from an area in Texas near Houston to western Louisiana as the two states prepared for Tropical Storm Laura to strengthen to a hurricane before making landfall later this week.  The storm is expected to arrive Wednesday or Thursday, on the heels of Tropical Storm Marco, which brought high winds and rainfall to eastern Louisiana beginning late Monday.  Oil and gasoline futures have jumped in response, based on concerns that the storms could force temporary production shutdowns.

Indexes: S&P Dow Jones Indices announced it will launch its latest major restructuring of the Dow Jones Industrial Average starting next Monday.  The restructuring will involve eliminating ExxonMobil (XOM, 42.22), Pfizer (PFE, 38.84), and Raytheon (RTX, 61.88) from the DJIA, and replacing them with Salesforce.com (CRM, 208.46), Amgen (AMGN, 235.57), and Honeywell International (HON, 159.37).  Even though the changes won’t take place until next week, the prospect of increased buying by index-tracking funds is likely to boost the new additions today and possibly through the end of the week.

COVID-19: Official data show confirmed cases have risen to 23,679,320 worldwide, with 813,820 deaths and 15,359,999 recoveries.  In the United States, confirmed cases rose to 5,741,189, with 177,284 deaths and 2,020,774 recoveries.  Here is the interactive chart from the Financial Times that allows you to compare cases and deaths among countries, scaled by population.

Virology

• Newly confirmed U.S. infections rose slightly to 38,045 yesterday, but the figure continues to trend downward fairly steeply.  Looking forward, new cases could be held down artificially in the coming days because of testing disruptions associated with Tropical Storm Marco and Hurricane Laura along the Gulf Coast.  If those storms push many people into emergency shelters for any significant time, they could constitute as “super-spreader events” that might push up infection rates in the coming weeks.
• Japan will relax a controversial coronavirus rule allowing Japanese citizens to enter the country subject to a COVID-19 test and quarantine but bans foreign residents who left the country after April 2.  The government fears the discriminatory stance against foreigners will undermine business competitiveness and damage Tokyo’s reputation as a financial center.
• For the first time, researchers have documented a case of COVID-19 reinfection.  This offers evidence that patients who have recovered from the disease could be infected a second time months after the initial episode.  If confirmed, the finding would bolster the theory that immunity from being infected with the virus or being vaccinated could last only a few months, similar to coronaviruses that cause the common cold.  That would imply that when a viable vaccine is available, regular shots might be needed to maintain immunity.

Economic Impact

• Economists are now projecting Chinese GDP could exceed U.S. GDP in nominal dollar terms as early as 2028, reflecting China’s quick victory over the coronavirus early in the year and the longer, deeper lockdowns and complications in the U.S.
• Doctors and researchers are warning that the fallout from people who develop long-term health effects from the coronavirus could ripple through the U.S. economy, placing a burden on public safety-net programs such as Medicaid, while leaving many patients with significant medical debt.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

It’s Monday and the last full week of August (that month went by fast, didn’t it?)!  There is a lot going on this morning.  We have twin tropical storms, one already in the Gulf of Mexico and the other on its way.  California is suffering through wildfires.  The GOP convention kicks off this week.  Global equities are moving higher with hopes for COVID-19 treatments.  Overseas news leads our coverage this morning; Belarus protests continue, and we are watching the fate of Aleksei Navalny.  Economics and markets are next.  The pandemic report follows.  We also update the China news.  Let’s get to it:

Foreign news:

• Despite threats of a crackdown, protestors gathered in large numbers in the capital city of Minsk over the weekend. This is the 15^th day of protests; the turnout remains large in spite of threats by Lukashenko to call in the military.  Meanwhile, foreign support remains mostly symbolic.  Lithuanians formed a human chain that stretched 21 miles, and the opposition leadership is meeting with Deputy SoS Biegun  Lukashenko continues to ask for help from Russia and is arguing that foreigners are behind the protests.
  • So far, Moscow appears to be cool to the idea of intervening. The likely reason being that, unlike in Ukraine, where elections were between a Russia supporter and a Western supporter, there is little evidence among the protestors that they are aligning with the West.  Instead, the protests appear to be all about getting rid of Lukashenko for free elections and a less repressive regime.
  • Such protests are not a threat to Putin. A Belarus without Lukashenko is still under the sway of Moscow.  And, Putin has become jaded with Lukashenko.  The current leader of Belarus is in trouble and we wouldn’t be surprised if he leaves, but we would not expect a major change in the country’s policies.
• Aleksei Navalny arrived in Germany over the weekend for treatment from an alleged poisoning. Reports indicate he is in stable condition.  Both France and Germany are offering Navalny asylum, which is probably ok with Putin, who will be glad to have him out of the country.
• Greece has been in a standoff with its nemesis Turkey. The two are at loggerheads over offshore oil properties around Cyprus, and over border activities and Syrian refugees.  So far, Greece has been underwhelmed by the support it is receiving from the EU; Germany is the focus of Greek ire.
• Brexit talks remain stalled and time is running out. It is possible that an agreement will not be reached.  Although we would expect the GBP to fall on a rupture, the decline may not be long-lasting and might present an opportunity.
• PM Abe of Japan has returned to the hospital. This is his second trip in two weeks, and it raises concerns that his health may be failing.  If Abe does stand down, there is a chance that his policy of keeping the JPY weak may not continue.

Economics and Markets:

• Inequality has been a growing problem for some time; the pandemic has worsened the divide. Knowledge workers have tended to manage the pandemic because they have been able to shift to working from home; customer-facing jobs and those that cannot be accomplished without access to fixed capital have suffered.  Data suggests that employment is back to pre-pandemic levels for the highest earning quartile, whereas it remains 15% below mid-January for the bottom quartile.
  • Beyond the obvious political problems this situation causes, it also affects how the economy functions. For example, we are seeing a surge in buying used goods—cars, clothing, furniture, etc.—where shoppers are willing to own something less than new to save money.  One interesting twist is that in the GDP calculation, used items don’t add to growth.
• Money market funds are an important conduit for the non-bank financial system, the so-called “shadow banking system.” This system gets its liquidity via repo instead of deposits.  Low interest rates are a serious impediment for money market fund operators; at very low rates, they struggle to earn a profit.  Funds are temporarily waiving fees to prevent the generation of a negative yield; in other words, from breaking the buck.  The net asset value (NAV) of money market funds is traditionally set at $1.00 per share. While there is nothing to prevent it from reducing the NAV below a dollar, it would undermine the belief that money market funds are as good as cash.  Complicating matters, as we note in this week’s AAW, is that money market levels are elevated, further hampering the operators of these funds (if one is losing money on current assets, it’s hard to make up the difference with higher volume).  As rates continue to fall, there will be even greater incentive to move funds into higher-yielding assets even at higher risk.
• Existing home sales are on a tear. Single-family sales now exceed pre-pandemic levels.  Generational adjustments (millennials are reaching their family-building age) and pandemic-driven preference for a home of one’s own are behind the lift.  The biggest constraint remains the lack of available homes.  Another factor helping home buying is that the mortgage guarantee firms have been granting forbearance during the crisis, which is preserving credit ratings.

• The National Association of Business Economists suggests the recovery won’t begin until later this year. We disagree; strictly speaking, the data shows an obvious trough in June and July.  At the same time, for most people, this is a difference without a distinction.  The recovery is starting from such a depressed level that the difference between recession and recovery is difficult to spot.
• One of the dangers of increased government involvement in the economy is that competitors will use regulation and anti-trust laws to hurt their competition. It appears that Facebook (FB, 267.01) may have raised fears about the security of TikTok to avoid scrutiny of its own operations.
• The farm sector remains under pressure from weakening demand and low crop prices. Meanwhile, there is hope for the lobster industry; the EU and U.S. have arrived at a new agreement, reducing the former’s duties on the shellfish.

COVID-19:  The number of reported cases is 23,456,597 with 809,349 deaths and 15,155,418 recoveries.  In the U.S., there are 5,704,597 confirmed cases with 176,809 deaths and 1,997,761 recoveries.  For illustration purposes, the FT has created an interactive chart that allows one to compare cases across nations using similar scaling metrics.  The FT has also issued an economic tracker that looks across countries with high frequency data on various factors.

Virology: 

• The media’s focus has remained on a vaccine. However, that is only part of the story.  Antiviral therapies may offer greater hope than a vaccine.  These therapies tend to make COVID-19 less deadly, reducing symptoms and improving outcomes.  Even when we get a vaccine, it may be some time before we know how effective it is.  The FDA has approved convalescent plasma for those affected with COVID-19.  The plasma comes from persons who have survived the disease and have antibodies; giving plasma to those with COVID-19 tends to improve outcomes.  But this isn’t the only therapy on the horizon.  Drug makers are working to create antivirals that reduce the risk of contracting COVID-19.  If these prove to be effective, they will make managing the disease much easier, even if a vaccine proves problematic.
  • The U.S. is considering giving fast track approval for the U.K. vaccine for emergency use.
  • Although having a vaccine would be positive, it would be less effective if people are reluctant to take it. Russia is reporting rather low acceptance rates due to fears about the vaccine’s safety.  There is a tension between getting a vaccine out quickly and determining its reliability.
• Singapore researchers are reporting that there appears to be a mutation of the COVID-19 virus that is less virulent. This development isn’t a huge surprise; it is not unusual for a virus to mutate.  Sometimes they become more lethal, but they also can become less so.  If this mutation becomes dominant, it would be good news.
• Europe opened up this summer for vacation season, bolstered by success in bringing down infections. Unfortunately, this change has led to a resurgence of the virus in several European nations, triggering new social restrictions.
  • Globally, the drop in tourism has been devastating for several emerging market economies.
• Meanwhile, cases continue to decline in the U.S.
• In the U.S., several companies were planning to reopen their offices after Labor Day. Those plans are being revisited.

China news:

• Sanctions on cotton grown in Xinjiang has led clothing firms to determine if their fabrics are using cotton from this region.
• President Trump warned he could order the U.S. economy to decouple from China.
• There is growing evidence that U.S. sanctions on Chinese 5G firms are hurting their performance. Network development in China is slowing.
• The world remains deeply dependent on China’s personal protective equipment.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

Happy Friday!  Equity futures are mostly marking time this morning.  We lead off with foreign news; Iran, North Korea, and Russia are the focus.  We also update news on China, followed by policy news and the latest on the pandemic.  We wrap up with market details.  Being Friday, a new Asset Allocation Weekly is available; you can find it at the end of this report, and through this link.  The companion podcast and chart book are available as well.  This week’s topic returns to an old favorite, the level of retail money market funds.  Here is what we are watching this morning:

Foreign news:

• The U.S. officially filed a complaint with the U.N. Security Council to trigger the “snapback” provisions of the Iran nuclear deal. The primary goal of the U.S. is to extend an arms embargo that is set to expire in October.  Given that the U.S. suspended its participation, the proposal did not get a warm welcome from the other members.  Although it is certain the proposal won’t pass (both China and Russia have a permanent veto and want to sell arms to Iran), the U.S. complaint puts Europe in an uncomfortable position.  The European members of the council are siding with Russia and China against the U.S.  That isn’t their normal position.  In addition, Europe was a supporter of the deal; not supporting the snapback increases the odds it will officially fail.  What makes this situation especially difficult is that Iran is clearly violating the agreement.  Tehran would argue that the U.S. actions forced it to, but that doesn’t matter all that much.  We would look for the European members to do everything they can to delay the vote.
  • Complicating matters is that Iran just unveiled a new medium-range missile, highlighting the country’s threat to the region.
  • Iranian naval forces have reportedly seized a UAE fishing vessel it accused of venturing into its waters. Iran is angry at the UAE’s recent decision to normalize relations with Israel, and this is apparently its way of expressing displeasure.
• Germany is prepared to fly Alexei Navalny out of Russia after his apparent poisoning. So far, the Kremlin is blocking his departure.  Poisoning remains a favorite tool of the Kremlin for dealing with opponents.
• It is always difficult to know what is going on in North Korea. It’s a closed society with a limited number of contacts with the outside world. In a rare admission of failure, Kim Jong-Un, at a party meeting, admitted that his first five-year plan, launched in 2016, has not met its goals.  He attributed the failure to COVID-19, flooding, and sanctions.  Although the government still claims there are no cases of COVID-19 in North Korea, the virus did close the border with China, choking off trade.
  • A development we continue to watch is the steady rise of Kim’s sister, Kim Yo-Jong, who is now said to be the “second in command.” This ascension appears tied to other efforts by Kim to delegate greater responsibility to other officials.  This decision may be an admission that his government was too centralized or a way to assign failure to other officials.
• The U.S. is deploying $300 million of frozen Venezuelan assets to undermine the Maduro regime.

China news:

• The flooding crisis shows no signs of abating. The city of Chongqing, with a population of 30 million, is making flood preparations for its biggest flood event in four decades.   As water backs up behind the Three Gorges Dam, officials are opening the floodgates.  Inflows into the electric turbines are at 75 million liters per second and the floodgates are seeing flows of 42.9 million liters per second, the most since the dam was constructed.  The maximum level of the reservoir is 175 meters; the waters are forecast to reach 165.5 meters tomorrow.  If the dam is breached, it would not only be a major embarrassment to the Xi government, but it would add to downstream flows and exacerbate flooding.  The Leshan Giant Buddha carving, a massive monument carved into the side of a river valley, is “getting his feet wet” for the first time since 1949.
• Although the U.S. has essentially implemented a “death sentence” to Huawei (002502, CNY 2.96), Beijing has not, so far, retaliated against U.S. firms operating in China. We suspect there are two reasons.  First, China still needs U.S. knowhow and investment, and second, there is probably hope that a Biden government will relax some of the Trump administration’s policies.  We suspect the second hope is on shaky ground; Trump could be reelected, and Beijing may be underestimating the degree to which the U.S. policy establishment has turned on China.  Once China realizes the trend against it is secular, we would expect retaliation to begin in earnest.
• The U.S. isn’t done with actions against China—this coming from an unlikely source, the Home Furnishings Association.
• There appears to be a policy shift coming in China. We are hearing more about a “dual circulation” economic policy, which looks to turn China’s economic focus inward.  This news would confirm a couple of longstanding factors.  First, throughout China’s history, it has cycled from focusing outward to inward.  It does the former when it wants to spur growth.  The coastal areas become export hubs, leading to much better growth but widening regional income gaps.  As these gaps lead to political and social divisions, leaders turn the economic focus inward, which leads to slower growth, but greater political unity and stability.  Mao took China inward, while Deng moved outward.  Xi has been focusing on political and social unity, and thus shifting the economy to a more domestic focus, which would be consistent with this policy.  Second, China’s economic development since 1978 has been investment and export-driven.  The distortions from this policy have created a situation where the policy is no longer able to generate growth without excessive debt creation.  A shift to consumption has been a longstanding recommendation; this “dual circulation” policy might facilitate that move.  If China follows through, it would have significant effects on the global economy.

Policy news:

• Next week, the KC FRB will hold its annual Jackson Hole Policy Symposium; this year, due to the pandemic, it will be virtual. There are reports that Chair Powell will use the event to unveil the Fed’s changes in the inflation reaction function, likely moving from a 2% core CPE target to an average target.  This would be a de facto easier policy stance.  Although this move has been expected, the actual announcement would likely give some support for gold and Treasuries.
  • Numerous former Fed officials are calling on the Senate to reject Judy Shelton for Fed governor. We doubt this will matter; we expect she will be approved.
• President Trump indicated that if he gets a second term, he will implement a policy that offers tax credits for reshoring and tariffs on firms that refuse to move jobs back to the U.S. It isn’t clear exactly how that would be implemented, but it does beg the question: if this was a policy goal, why did it have to wait until the second term?
• The ECB is signaling it will likely add to accommodation in the fall.
• The FTC is questioning Facebook (FB, 269.01) over anti-trust issues.
• Earlier this year, we commented on a growing movement away from running corporations solely on the basis of shareholder value. A number of business groups have indicated they support such a move.  Under a Biden presidency, such proposals may find government benchmarks for these goals.

COVID-19:  The number of reported cases is 22,709, 116 with 794,256 deaths and 14,562,070 recoveries.  In the U.S., there are 5,576,089 confirmed cases with 174,290 deaths and 1,947,035 recoveries.  For illustration purposes, the FT has created an interactive chart that allows one to compare cases across nations using similar scaling metrics.  The FT has also issued an economic tracker that looks across countries with high frequency data on various factors.  The R_t data shows that just over 60% of the states are reporting a reading under one, suggesting a slowing infection rate.  Alabama has the lowest reading, while Hawaii has the highest.

• In a reversal, the CDC will return to collecting COVID-19 infection data. The data was shifted from the CDC to the Department of Health and Human Services last month, but delays have led the government to return to the CDC for data collection.

Economics and Markets

• This recession is hitting New York real estate harder than 9/11 and the Great Financial Crisis.
• Although markets are powerful structures, they don’t always supply everything a society wants. When this occurs, the formal economic term for it is “market failure.”  Some market failures are simply tolerated because the costs of the failure are not enough for government to intervene.  Others are large enough to where government does overrule the market.  One classic case of this was universal phone service.  Stringing wires into rural America was a money-losing proposition, but government leaders feared that if large swaths of low population areas were denied service, it would adversely affect those regions.  Thus, a deal was struck with Ma Bell—provide universal service and the company would be allowed to be a virtual monopoly.  The company paid for the money-losing service with high charges on long-distance, which was mostly funded by businesses.  Note that no such deal was made with broadband, and this service has not been universally provided to rural and low population areas.
  • We see a similar situation with air travel.  The government usually requires airlines to provide service to smaller cities.  We note that airlines are threatening to cut off several smaller cities due to an impasse on pandemic relief.

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by Bill O’Grady, Thomas Wash, and Patrick Fearon-Hernandez, CFA

[Posted: 9:30 AM EDT] | PDF

We are seeing some reversals of recent trends in the wake of the Fed minutes.  Currently, equity markets are lower this morning.  Some of the weakness is being attributed to the lack of new fiscal stimulus, but we think a better case can be made that the Fed disappointed, which we discuss below.  We update news on China, the pandemic and Belarus. And, being Thursday, the Weekly Energy Update is available.  Here are the details.

Fed policy: The Fed released the minutes of its July 28-29 meeting.  Let’s get to the point—the sentence that has roiled the market is this one: “Many participants judged that yield caps and targets were not warranted in the current environment but should remain an option.”  Financial markets have been building in the idea that the Fed was going to engage in financial repression.  Specifically, the expected policy mix was fixing interest rates across the yield curve, a slow reaction to rising inflation and continued policy accommodation.  This has led to low Treasury yields, higher gold and equity prices and narrowing credit spreads.  As the above quote indicates, there was a surprising degree of reluctance to embrace the idea.  Some of this hesitancy was due to the lack of upward pressure on interest rates (of course, part of the low rate situation is due to market expectations of yield curve control).  It was a decided minority (“a couple of participants”) who seemed to express support for the idea.  It won’t really be tested until rates rise.  But, in the end, it appears the FOMC is in a “wait and see mode,” keeping current policy in place but seems unlikely to add additional stimulus unless there is a decided decline in economic activity.  This is not what financial markets wanted to hear.  Our take is that Chair Powell is supportive of the concept of yield curve control, but the lack of support suggests the rest of the FOMC isn’t on board yet.  At the same time, we think the market’s assessment of the Fed’s future policy is correct; financial repression is likely.  The continued process to avoid preemptive rate hikes to quell inflation, the move to average inflation targeting and extensive forward guidance are all part of this policy.  It’s just that markets like clarity, and the Fed has little reason to provide it when the financial markets are already enforcing that policy.  The real test will be when there is a whiff of inflation; if long-end yields begin to rise, will the Fed tolerate it?  We doubt it will.  But we don’t know for sure and, apparently, neither do FOMC members.

In the rest of the minutes, the assessment of financial markets and the economy suggested that there was some improvement in economic and financial market conditions, although both were said to be sensitive to pandemic developments.  The staff economic outlook was generally upbeat, expecting stronger GDP and higher inflation in 2021 and 2022.  However, they did express concerns about a slowdown in H2 2020.  Participants were more guarded, noting the unequal dispersion of economic weakness caused by COVID-19.  They also expressed that the economy’s path was still highly uncertain; it is not clear if this uncertainty was due to their own analysis or from comments the regional presidents are hearing from their local business contacts.  They also expressed concern about the potential lack of fiscal support.  The committee members also noted continued risks to financial stability.  Overall, this meeting’s tone was “wait and see.”  Markets rarely like such indecision.

China news:

• China’s flooding woes continue. Heavy rains have persistently pummeled southern and central China, putting strain on dams, including the massive Three Gorges Dam.  Complicating matters is that Typhoon Higos is hitting the coastal areas.  If the Three Gorges Dam breaks, it would be a catastrophe and put severe pressure on the Xi government.
• Apparently, Phase One trade talks are not off. When the president said he didn’t want to talk to China, it wasn’t meant to signal that these specific talks were scuttled.  Thus, they are delayed for now, but they will occur.
• The U.S. has formally suspended its extradition treaty with Hong Kong in light of the new National Security law.
• The U.S. is increasing the pressure on Chinese tech as the U.S. has essentially denied Huawei (002502, CNY 2.99) access to U.S. semiconductors. Some are calling this a “death sentence.”  The sanctions will also adversely affect U.S. and other foreign chipmakers as Huawei is (was) a major customer.
• It is apparent that China is trying to cool tensions. This may be due, in part, to hopes that it will be dealing with a different president after January.  In addition, Beijing may fear that tensions could be used as an election issue, and thus is trying to avoid escalation.  At the same time, the U.S. is avoiding provocative actions in other areas.  For example, Taiwan was not invited to participate in recent large-scale military exercises.  Taipei has expressed interest in joining such events.
  • At the same time, the drills were quite extensive. Nuclear capable B-2 bombers participated, and the U.S. Navy sent a destroyer through the Taiwan Strait.
• Chinese students studying at major universities are being told when class material may include items that are politically sensitive in China. This may be done to protect the students from harassment from Chinese authorities, but the decision to engage in such warnings has the appearance of “kowtowing” by U.S. higher education.
• U.S. regulators have warned college endowments to divest of Chinese equities that are at risk of delisting.
• The WSJ reports on China’s global efforts to recruit scientists through a network of 600 recruitment stations.

COVID-19: The number of reported cases is 22,427,939 with 788,030 deaths and 14,349,696 recoveries.  In the U.S., there are 5,530,247 confirmed cases with 173,193 deaths and 1,925,049 recoveries.  For illustration purposes, the FT has created an interactive chart that allows one to compare cases across nations using similar scaling metrics.  The FT has also issued an economic tracker that looks across countries with high frequency data on various factors.

• U.S. intelligence agencies have concluded that local officials in China purposely circumvented reporting channels created after the SARS epidemic to prevent the central government from receiving information about COVID-19.
• One of the key goals to reducing the impact of COVID-19 and returning the global economy to some semblance of normal is the development of herd immunity. Immunologists generally argue that if 70% of a population is immune, the risk to those who are not immune is insignificant.  Essentially, at the point of herd immunity, the virus can’t find enough people to infect and it dies out.  For older Americans, we saw this firsthand with diseases like measles, mumps and chicken pox; our classmates tended to lose class time in the early grades, but by fifth grade, enough people had suffered these maladies that losing time to them was uncommon.  New modeling work suggests that herd immunity might be met with only 50% of the population immune.  That may mean we are close to herd immunity in some communities.   For example, reports indicate that about a third of people tested in the Bronx are carrying the antibody.
• Infection data from California shows that new cases are hitting the Central Valley, a key agricultural area. Farm workers are adversely affected.
• We are seeing a surge in cases in a number of countries that had earlier reduced their case count. The chart below shows new cases per million.  Spain has seen a resurgence; South Korea’s increase appears to be driven, in part, by religious services.  Night clubs were cited as well.

• The mask debate isn’t just a U.S. issue. The Scandinavian countries have provided very loose guidelines for using masks, citing that the benefits from using them do not offset the social issues of face coverings.

Economics and Markets

• As interest rates decline, it is becoming increasingly difficult for financial firms that usually generate revenue from interest rate spreads to survive. They are increasingly turning to extra fees and slow responses to rate declines.  Although these actions support their profitability, they undermine the power of monetary policy.
• For years, Warren Buffett and Charlie Munger have derided gold as an asset. In their latest disclosure report, it turns out they have decided to purchase a position in gold miners.  This suggests that even long-time critics are seeing value in an asset designed, in part, to offset currency debasement.
• The real estate industry is warning that it is facing a wave of rent delinquencies.
• Twenty-two percent of college students have decided to delay the start of their college careers until campuses reopen. The declines in enrollment will put additional pressure on cash-strapped colleges.
• Copper prices lifted to +$3.00 per pound on stronger Chinese demand, rising U.S. housing activity and supply disruptions in South America tied to COVID-19.

Belarus: Although Lukashenko has lost the workers and urban dwellers, the security forces remain loyal.  There have been anecdotal reports of former security forces rejecting the leader, but these rejections do not appear to be systemic at present.  Lukashenko remains adamant that he will remain in power.  The EU is trying to walk a narrow diplomatic line; it wants to reject Lukashenko’s actions but doesn’t want Putin to fear he will “lose” Belarus and militarize the situation.  Therefore, EU leaders have condemned Lukashenko’s actions, calling the elections a sham, but have not called for a new vote.  We could see targeted EU sanctions against individuals in the Lukashenko government.  President Putin has warned the EU against “meddling” in Belarus, but Lukashenko should not take comfort that the Russian president wants to keep him in power.

One interesting twist to the Belarus saga is that the country was a participant in China’s belt and road project.  Although investment levels were not all that large, China did arrange a line of credit to Minsk.  Lukashenko tried to diversify Belarus’s economy away from its deep dependence on Russia and thus cultivated China’s interest.  It isn’t clear if this investment will be secure if Lukashenko is ousted.

Navalny poisoned: Russian opposition leader Alexei Navalny is in a coma after an apparent poisoning.  His condition appears grave.  Poisoning is an oft-deployed tactic of Russian security agencies against political enemies.  There is always a risk that such a blatant attack will backfire and lead to unrest; however, we believe that risk is low.

Coup in Mali: Mali has had its share of troubles in recent years.  There has been a constant fight against Islamist groups that has drained resources and displaced millions.  And, the government was seen as corrupt.  Although President Ibrahim Boubacar Keita was elected to office twice, he initially took control after a coup in 2012.  Yesterday, elements of the armed forces staged a coup, and the president has left office.  The coup leaders are promising to hold new elections soon.  Mali is Africa’s fourth largest gold producer; several gold mining companies with operations in Mali suffered a selloff in light of the news.

Brexit: Although talks continue, negotiators are stuck on the degree to which British truck drivers can traverse the EU and conduct business.  The U.K. wants drivers to have the ability to move across Europe and make multiple stops and deliveries.  The EU sees that as too close to being a member and wants to grant less freedom.  Although this issue probably won’t completely derail talks, it does suggest that a number of contentious issues remain; if talks fail, the GBP could decline.

Going postal: No, this isn’t about the recent mail controversy.  One of the proposals we have seen circulate would be for the Fed to offer limited banking services to the general public.  The banking system appears incapable of providing basic banking services to low-income households, leaving them to the tender mercies of payday check cashers and money orders.  The idea is that the Fed could provide basic services, but they would need a venue for such services.  In other countries, the venue has been post offices (Japan’s Postal Savings system is perhaps the most famous).  Of course, this would be a major expense for the Fed and perhaps for the USPS.  However, we note that JP Morgan (JPM, 98.55) has offered to install branch offices in postal stations.  This may be a way to head off the threat of competing directly with the Fed or it may offer the Fed a path to providing basic services but use the infrastructure that JP Morgan would provide.  We will continue to monitor this idea.

Policy odds and ends: Treasury Secretary Mnuchin has indicated that talks remain stalled but suggested the parties might resume negotiations because the House has returned to deal with the USPS.  Speaker Pelosi has suggested she would consider reducing the $3.0 trillion package passed by the House.  Republicans haven’t directly responded.  Both parties remain divided on the path forward on stimulus.  Business leaders are indicating that they probably won’t implement the payroll tax cut executive order because it only delays the tax, setting up a situation where companies will have to send the tax to the Treasury early next year.  The order is being dubbed as “unworkable.”

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