Daily Comment (December 8, 2017)

by Bill O’Grady and Thomas Wash

[Posted: 9:30 AM EST] It’s employment data day!  We detail the data below but the short answer is that the numbers are good for capital—employment rose faster than forecast while wage growth came in weaker than expected.  The lack of wage growth should bring some degree of pause on the part of the FOMC.  Here are other items we are watching this morning:

Brexit goes forward: Britain and the EU reached a deal on exit terms, giving special rights to the four million EU expats in the U.K. and an exit fee of €40 bn to €60 bn.  The sticky problem of the border in Ireland was resolved; although the DUP did go along, in reality, it appears that Northern Ireland will, in terms of regulation, be a de facto member of the EU.  The U.K. did get some relief over EU jurisdiction.  Overall, it looks like PM May got a deal because she acquiesced at every level with the EU.  From here, negotiations will move on to trade.  Although this is a significant development, it appears the markets fully anticipated this outcome as the GBP is essentially flat.

Basel bank accords: Although the deal took almost two years longer than planned, the Basel III accords have been approved.  These rules apply to bank capital in 27 nations plus the entire EU.  The goal is to create uniform bank capital rules across the developed world to prevent financial contagion.  The disagreement was mostly U.S. versus EU; the former wanted stricter regulations because America’s financial structure makes businesses less dependent on banks and more on capital markets.  If the EU were forced to follow U.S. rules, the EU financial markets would need massive restructuring.  EU bank equities are up 3% on the news.

Continuing resolution: It looks like a short-term deal was struck to keep the government functioning but it will only last until around Christmas.  The sticking points are familiar—Democrats want an immigration break for dreamers and social spending equal to defense spending.  The GOP wants no immigration deal and only spending on defense.  This impasse looks difficult to resolve but the most likely outcome is higher spending and deficits.

A questionable invitation: Greece and Turkey are historical enemies.  For the first time in 65 years, the Turkish president visited Greece.  It may be an equal period of time before such an event happens again.  Turkish President Erdogan opened discussions by calling for a reworking of the 1923 Treaty of Lausanne, the treaty that established the border between the two nations.  Greece has no interest in adjusting the deal.  Erdogan also accused his hosts of discriminating against Muslim Turks who live in Greece.  Criticism of the aforementioned treaty and support of the Muslim Turkish minority are a page out of the authoritarians’ playbook; see Hitler’s absorption of the Sudetenland in 1939.  Erdogan also indicated that the division in Cyprus is due to Greek intransigence.  Needless to say, hopes for some sort of improvement in relations looks like a long shot.

German coalition negotiations: Martin Schulz, the leader of the SDP in Germany, is in talks with the CDU/CSU to create a new grand coalition in Germany.  If these talks fail, Germany will likely need new elections, which would be unprecedented in the postwar experience.  Schulz gave a rousing speech that called for a “United States of Europe” by 2025;[1] this would signal a dramatic reversal in the CDU/CSU’s platform, which is cautious over further European integration.  German conservatives are worried that further integration would entail Eurobonds (an EU bond backed by the full faith and credit of all EU members, meaning Germans would guarantee the debt of the other 26 members’ spending) and a unified fiscal budget.  Schulz is laying down his markers for forming a government with Merkel.  If he holds to this position, it seems highly unlikely that Merkel can form a government.

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[1] https://www.youtube.com/watch?v=9HVejEB5uVk