If a country has 100% debt to GDP, it means that this country has roughly bought growth at a 2% rate for 50 years which is the case for France given the last time the books were balanced was 1974.
When it comes to deflationary pressures we have been tracking the events in the shipping industry with great interest and in particular the numerous prices increases in the Drewry Hong-Kong-Los Angeles Container Rates - graph source Bloomberg:
"We mentioned the problem of stocks and flows and the difference between the ECB and the Fed in our conversation "The European issue of circularity", given that while the Fed has been financing "stocks" (mortgages), while the ECB is financing "flows" (deficits). We do not know when European deficits will end, until a clear reduction of the deficits is seen, therefore the ECB liabilities will have to depreciate."
"The behavior of the bond market has been consistent with Keynesianism. By his compassionate phrase “euthanasia of the rentier” Keynes meant the reduction of the rate of interest, to zero if need be, as part of the official monetary policy to deprive the coupon-clipping class of its “unearned” income. Perhaps it is not a waste of time to repeat my argument why, in following Keynes’ recipe, the Fed is acting contrary to purpose. While wanting to induce inflation, it induces deflation.
Capital gains in the form of exorbitant bond price? A game we have indeed played successfully given we have been learning a few tricks from our Keynesian magicians bankers as of late. We must confide we have indeed been playing this game and did in fact picked up some yield enticing junior financial subordinated bonds in late 2011 at a cash price of around 94.5, yielding around 14% at the time, to see the yield drop below 4% these days and the cash price of our position rising by nearly 50% thanks to the generosity of our great "magicians" and given our observation of "Perpetual Motion" machine we decided at the time to buy this French Perpetual issue. We also suffered minimal volatility in the process as illustrated in the below Bloomberg graph:
Exorbitant government bond prices? The Core European bond market picture making new record lows such as the German bund 10 year yield at 1.14% and the French OAT 10 year at 1.56%, at the lowest level since 1746 - source Bloomberg:
Of course, what the ECB has done as well is tame the speculators and prevented so far a deeper adjustment in the European banking space leading to an outperformance of financial bonds versus equities. But, as we pointed out last week, the continuous need to raise capital for the European banking sector is facing more margin calls, meaning more need to raise capital and the need for more sovereign supports to avoid a depreciation of the liabilities. This infernal "Perpetual Motion" is no doubt delaying a very painful adjustment which could lead the European sector to produce more than what is need just to make the interest payments of the ever rising debt burden!
Therefore it appears to us that deflationary environment in Europe is continuing leading to lower production, lower wages and lower demand, and thus lower price levels.
Moving on the trajectory of US yields during this summer lull, we agree to a certain extent with Nomura's recent take on US treasuries in their note from the 18th of July entitled "Bonds over-reacting or forward looking?":
On a final note and as we posited at the beginning of our conversation unless there is an acceleration in real wage growth we cannot yet conclude that the US economy has indeed reached the escape velocity level given the economic "recovery" much vaunted has so far been much slower than expected. But if the economy accelerates and wages finally grow in real terms, the Fed would be forced to tighten more aggressively. As reported by Anna-Louise Jackson and Anthony Feld in their Bloomberg article from the 22nd of July entitled "Higher Wages Signaled by More U.S. Employees Quitting", the jury is indeed still out there when it comes to confirming the "escape velocity" of the US economy:
"More than 2.5 million U.S. workers resigned in May, a 15 percent increase from a year earlier, based on seasonally adjusted data from the Labor Department. These employees represent about 56 percent of total separations, the highest since November.
The share of Americans who say business conditions are “good” minus the share who say they are “bad” turned positive in June for the first time since January 2008: 0.2 percentage points, up from minus 3.5 points in May, based on data from the Conference Board, a New York research group.
“Consumer confidence has been the last piece to come back in this recovery,” Colas said. This suggests wages also could go up because as employees feel more emboldened to switch seats, their bosses may be willing to offer higher compensation in an effort to prevent such turnover, he said.
People working in the private sector could see stronger salary gains ahead, according to Bloomberg BNA’s Wage Trend Indicator, designed to predict and interpret compensation trends. This forward-looking index rose to 99.12 in the second quarter from 98.92 in the first, marking the third consecutive increase and highest level since March 2009.
Pay for these employees could increase more than 2 percent by year-end, according to Kathryn Kobe, an economist at Economic Consulting Services LLC in Washington, who helped develop and maintains the indicator. Wages rose 1.7 percent in the three months ended March 31, near a post-recession low of 1.3 percent,data from the Labor Department show." - source Bloomberg
What of course could derail this very "fragile" recovery is a renewed jump in gasoline prices. The latest US core CPI climbed 1.9 percent from June 2013, after a 2 percent increase in the prior 12-month period. Gasoline costs jumped 3.3 percent, their biggest gain since June 2013, accounting for two-thirds of the increase in total prices, today’s report showed, something to watch closely we think.
"I can calculate the motion of heavenly bodies, but not the madness of people." - Isaac Newton