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By HaleStewart March 19, 2017 8:23 am
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International Economic Week in Review: the BOE and BOJ Hold

     Deflation has been one of the top economic stories of the last 4-5 years.  Starting in 2014, declining energy prices were a primary reason for this development.  But when OPEC agreed to cut production in 2015, oil prices rallied to ~$50 barrel.  Across the globe, the energy price component of most CPI measures has been rising in response, helping to eliminate deflationary tendencies.  But over the last few weeks, oil prices have declined below $50:

This does not mean prices are once again bound for the mid-1930s.  But should this trend continue, these weaker prices will bleed into CPI measures, lowering overall CPI and potentially raising the deflationary specter.  

     EU economic releases continued to show the region’s underlying economy is picking up economic strength.  Industrial production increased .9% M/M while rising .6% Y/Y.  Although capital goods production increased 2.8% Q.Q it declined .8% Y/Y, indicating this important measure of the continent’s industrial demand is still weak.  4th quarter employment edged .3% higher.  This graph from the report not only shows the weakness of the EU economy post-recession, but also the strengthening of the labor market that started in the 4Q13:

Finally, inflation was 2% Y/Y.  But energy prices caused most of this increase: the number ex-energy was 1.2%. 

     At their latest meeting, Japan maintained their current interest rate and yield curve control policy.  The policy announcement contained the following assessment of the Japanese economy:

On the domestic demand side, business fixed investment has been on a moderate increasing trend as corporate profits have improved. Private consumption has been resilient against the background of steady improvement in the employment and income situation.

The BOJ has continually mentioned that their goal is to create a “virtuous cycle” where increased income naturally leads to an increase in spending.  In the business context, this implies rising investment while for consumers it means increased spending.  Here are three graphs of the relevant data sets:


After falling from the end of 2015, capital spending has recently reversed course, increasing slightly (top graph).  Describing consumer spending as resilient overstates the case; the middle chart shows retail sales just turned positive Y/Y.  The bottom chart shows overall consumer spending dropped sharply after the sales tax hike in 2014 and has limped along since.  Japan’s primary problem remains deflation and its accompanying deflationary mindset.  Until the spending public believes prices are increasing at an increasing rate, weak spending will probably remain a problem.

     After the Brexit vote, numerous analysts argued the UK would experience an immediate slowdown.  This didn’t materialize.  Instead, the UK economy continue to grow.  But at this week’s Bank of England meeting, the policy board agreed to keep rates at 25 basis points in anticipation of a slowdown:

As the MPC had observed at the time of the UK’s referendum on EU membership, the appropriate path for monetary policy depends on the evolution of demand, potential supply, the exchange rate, and therefore inflation.  The Committee expects a slowdown in aggregate demand over the course of this year, as household demand growth declines in reaction to lower real income growth.  Official estimates of retail sales have weakened notably, consistent with this expectation, although other indicators of consumer demand such as consumer confidence have been steadier.  Measures of overall activity growth have been resilient, with official estimates indicating a fairly steady pace of expansion around historical average rates and business surveys suggesting little change in the near term.  It is possible that slowing consumption may be offset to some degree by other components of demand, such as a more supportive net trade position following last year’s fall in sterling and the recent pickup in global momentum.

While the analysts timing may have been off, there is little doubt that the UK’s exit from the EU will hurt growth in the long run.  The EU is the largest export market for Britain.  The EU is determined to make sure the UK does not have equal access to the common market, which will force the UK to seek other export avenues.  But that will take time.  In short, these is simply no way the UK can grow at pre-Brexit rates when its exports will be trading at a disadvantage.   

Hale Stewart is a tax lawyer in Houston, Texas with the Law Office of Hale Stewart, where he specializes in domestic and international tax structures and asset protection.  He is also a financial adviser with Thompson Creek Wealth Advisers. 


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