Inflation’s Refusing To Come Down
14 Oct 2023
8 min read
Here are some of the biggest stories from last week:
- Travel and spending over China’s Golden Week holiday came in lower than expected.
- The International Monetary Fund boosted its global inflation forecast for next year.
- US inflation remained unchanged in September.
- Long-term Treasuries’ historic slump now rivals the dot-com bubble bust.
- Oil prices jumped due to renewed instability in the Middle East.
Dig deeper into these stories in this week’s review.
Expectations were high that China's Golden Week holiday would trigger a spending surge, providing a much-needed boost to the world's second-biggest economy. However, data released early this week showed that Chinese consumers traveled and spent less during the holiday than anticipated by the government. Over the eight-day break, the country saw about 826 million domestic trips and 753.4 billion yuan in domestic tourism revenue, undershooting official projections for nearly 900 million trips and 782.5 billion yuan. What’s more, the totals were only slightly better than those in 2019, before the pandemic, even though this year’s holiday benefited from one extra day. This further suggests that while certain sectors are recovering, the overall economy is still far from roaring back.
Digging into the data, home sales over the Golden Week – a crucial period for property developers – declined from last year. That drop came despite recent government efforts to revive the sector, including cutting bank reserve requirements (to boost lending), slashing interest rates, and easing home-purchase requirements. Given the close link between the property market and consumption in China, a lot more effort will be needed to stabilize the sector to boost consumer spending. Without such measures, consumption might never return to its pre-pandemic growth trajectory, potentially depriving the Chinese economy of a critical growth engine.
Elsewhere, the International Monetary Fund lifted its global inflation forecast and urged central banks to keep monetary policy tight until price pressures durably come down, even as global economic momentum slows. The IMF boosted its global inflation forecast for next year to 5.8% from the 5.2% predicted three months ago, and sees consumer price gains remaining above central bank targets in most countries until 2025.
When it comes to the world economy, the IMF sees global growth of 2.9% for next year, down 0.1% from its outlook in July, and below the 3.8% average of the two decades before the pandemic. The US had its projection for this year raised to 2.1% from 1.8% in July and next year’s estimate increased to 1.5% from 1%, based on stronger business investment and resilient consumption. On the other hand, the growth forecast for China was cut to 5% from 5.2% for 2023, and to 4.2% from 4.5% in 2024, as the economy contends with a property market slump, weak consumer sentiment, and more.
Finally, the latest inflation report out of the US this week showed the pace of annual price gains remained unchanged in September. Consumer prices rose by 3.7% last month from a year ago – the same pace as August and slightly above economist forecasts of 3.6%. Inflation’s refusal to come down underscores how a strong labor market is boosting consumer spending, which risks keeping price pressures above the Fed’s target. Core consumer prices, which strip out volatile food and energy components, rose by 4.1% – in line with economist estimates and down from August’s 4.3%. On a month-on-month basis, headline and core inflation came in at 0.4% and 0.3%, respectively. Following the release, traders modestly increased bets that the Fed would hike rates another time before year-end, though the odds remain around 50/50.
The US central bank’s most aggressive rate-hiking cycle in decades, coupled with low initial bond yields and a growing government budget deficit, has resulted in significant losses in the Treasury market over the past two years. The brunt of this impact has been felt in long-term bonds, which are highly sensitive to changing interest rates and are now facing losses comparable to some of the most significant market downturns in US history.
Bonds with maturities of 10 years or longer have declined by 46% since their peak in March 2020, according to Bloomberg data. That’s just shy of the 49% drop in US stocks following the burst of the dot-com bubble at the start of the century. The rout in 30-year bonds has been even steeper, with a 53% fall. That’s close to the 57% drop in stocks witnessed at the height of the global financial crisis.
What’s more, the current losses in long-term Treasuries are more than double their next biggest decline in 1981, when the Fed’s war against inflation pushed 10-year yields to nearly 16%. They also eclipse the average 39% loss seen in seven US equity bear markets since 1970, including the 25% drop in the S&P 500 last year when the Fed began raising rates from near zero. This all goes to show that while government bonds are generally considered safe investments, those with longer maturities can exhibit significant volatility and are susceptible to substantial drawdowns (sometimes eclipsing those seen in the stock market).
Oil prices have been climbing since the summer on the back of dwindling stockpiles, resilient demand in the US and China, and supply cuts from Russia and Saudi Arabia, which are set to continue until the end of the year. And after taking a little breather at the start of the month, prices jumped again on Monday due to renewed instability in the Middle East, which accounts for nearly one-third of the world's oil supply. For context, the conflict involves Israel and Palestine, neither of which are oil-producing nations. But that doesn’t mean there aren’t risks of a more significant – and direct impact – on oil supplies. And given how low global oil inventories are at the moment, any potential disruptions to supply could have an outsized effect on the market.
First, the conflict may derail recent positive developments in Saudi-Israeli normalization talks, and scupper any additional Saudi oil flows that may have resulted from a deal – something the US, which is brokering the talks, was hoping for. Second, Israel is speculating that Iran was involved in the weekend’s conflict. If substantiated, this could lead the US to reconsider its loose stance on enforcing sanctions related to Iranian oil exports, which have seen an uptick lately. Third, there's uncertainty about the conflict's potential to escalate to involve neighboring countries, including Iran and Saudi Arabia – both significant oil producers. What’s more, should Iran become involved in the conflict, that could endanger the passage of vessels through the Strait of Hormuz – a vital waterway that transports much of the world’s crude.
Adding to the uncertainty, Israel suspended production at its offshore Tamar natural gas field, sending European gas futures 15% higher on Monday. All in all, those higher oil and gas prices could undo some of the hard work central banks globally have done to tackle inflation. What’s more, bigger energy bills could dent consumer spending – a primary driver of economic growth in many countries, especially developed ones. Finally, gold, which is traditionally viewed as a safe-haven asset, saw increased demand this week as investors sought hedges against rising geopolitical instability.
- Monday: Eurozone trade balance (August).
- Tuesday: UK labor market report (September), US retail sales (September) and industrial production (September). Earnings: Bank of America, Goldman Sachs, Johnson & Johnson.
- Wednesday: China GDP (Q3) and retail sales (September), UK inflation (September). Earnings: Morgan Stanley, Procter & Gamble, Netflix, Tesla.
- Thursday: Japan trade balance (September), US existing home sales (September). Earnings: AT&T, Blackstone, TSMC, Philip Morris International.
- Friday: Chinese central bank one-year loan prime rate announcement, Japan inflation (September), UK retail sales (September). Earnings: American Express.
The information and data published in this research were prepared by the market research department of Darqube Ltd. Publications and reports of our research department are provided for information purposes only. Market data and figures are indicative and Darqube Ltd does not trade any financial instrument or offer investment recommendations and decision of any type. The information and analysis contained in this report has been prepared from sources that our research department believes to be objective, transparent and robust.