Daily Comment (August 1, 2018)

by Bill O’Grady and Thomas Wash

[Posted: 9:30 AM EDT] Happy August! Summer is winding down—it seems like it just started. Here is what we are watching:

The Fed: The meeting ends this afternoon. No rate hike is forecast.[1] The only item of interest will be the statement, which probably won’t tell us anything. Even so, in light of Q2 GDP, we would not be surprised to see a statement that focuses on strong growth, which would bolster the argument for raising rates. However, that would mostly confirm the current expected policy path, nothing more.

Trade update: There is a trade truce with Europe. Talks with Mexico are said to be doing well,[2] although in terms of NAFTA Canada seems to be sidelined at the moment. However, talks with China, which are currently backchannel, don’t appear to be going well. The Trump administration has indicated it will put 10% tariffs on $200 bn of Chinese goods later this month; according to reports the administration has boosted the threat to 25%.[3] Beijing has been increasing fiscal and monetary stimulus to offset the tariff threat to exports.[4] The country has also threatened retaliation if the Trump administration goes the route of increasing trade protection.[5] Financial markets are hopeful that reports of informal talks with Chinese officials will lead to some sort of trade deal. After all, there is a truce now with the EU and it looks like an agreement with Mexico is coming. Nevertheless, it is important to remember that Navarro and Lighthizer are mostly focused on China. Thus, the potential for a rupture and trade war with China is probably more likely than with other parts of the world.

BOE: We expect the BOE to raise rates 25 bps on Thursday. That move is well discounted but still may be modestly bullish for the GBP.

Iran: The situation in Iran appears to be deteriorating. The rial remains under pressure.[6] President Rouhani has replaced the head of the central bank.[7] Unrest is rising as inflation increases. Although it is possible the regime could fall, we doubt that will happen. A much more likely outcome is that Rouhani will be forced to throw his lot in with the IRGC and adopt hardline policies. Of course, the secondary effect could be that unrest worsens and does become a threat to the regime. In 2009, the IRGC proved to be very effective in containing the political threat. However, that event was really an elite protest; in other words, the more liberal elite was in a fight with the conservative elite and the latter won. This case could be different in that the masses may rise up against the state. History shows that mass uprisings tend to fail without a leader and Iran’s security services have done a good job in decapitating any such leader from emerging. If Iran devolves and the regime runs into trouble, a short-term disruption of oil production is possible.

Foreign buying of U.S. real estate[8]:One of the factors we follow is foreign buying of U.S. residential real estate. Not only does it affect our markets, it is a measure of capital flight. The latest data shows there was a 21% decline in inflows for the year ending March 2018, with $121 bn purchased. Chinese buyers accounted for 25% of that total. Compared to the previous year, Chinese buying fell about 4%, at $30.4 bn. Chinese buyers purchased homes about 50% higher than the median price of $292,400, mostly because they tend to purchase in higher cost urban areas in states such as California, New York and Washington. The largest state with foreign home buying is Florida, which tends to attract both European and South American buyers. California is the second largest foreign market.