Eddy's Weekly Market Update

The economic figures in both the US and Europe are developing somewhat contradictorily. On the one hand, the growth figures remain fairly positive, but on the other hand, sentiment indicators are falling. This latter trend may indicate that consumers will soon pull back. There are increasing concerns that consumers can no longer bear the significantly increased interest rate expenses, food and energy prices, and therefore may spend less. However, we should not be weighing this too heavily. In the Western world, there is still a significant divide between people with high and low incomes, and between the 'haves' and 'have-nots' (see also our recent GFM reports). It is mainly the less fortunate who are struggling. Unfortunately, this constitutes a fairly large group of people, but in terms of spending, they represent a clear minority. The wealthier part of the population spends the most, and their financial position is still quite comfortable.

It is clear that both the Fed and the ECB are cautious about how this will affect economic growth and inflation in the future. Until recently, it was assumed that high interest rates would significantly dampen growth and inflation. However, the very high total debt/GDP ratios everywhere in the West make recessions very dangerous. Recessions can easily lead to a new credit crisis, which is very difficult to combat. That is why central banks want to lower interest rates in time to prevent this. It should be noted that deglobalization, rising commodity prices, aging populations, and large government deficits make it very difficult to further reduce inflation without a recession. Is it therefore responsible to risk a recession just to further reduce inflation by 0.5% to 0.75%?

This is the main reason why stocks and credit spreads have held up so well so far. The markets assume that central banks will lower interest rates in time to prevent a recession, and thus there will continue to be reasonable growth.

The big question, however, is through which path this will happen. If growth slows down quickly, interest rates will have to be significantly lowered. This would be very positive for financial markets. However, it is also possible that wealthier consumers will keep the economy going, and as a result, inflation remains on the high side. There would then be much less room for interest rate cuts. In any case, the markets initially thought of significant rate cuts, but have since moved the other way. Not with much conviction, however, because if weaker figures come out, they quickly think of much lower rates again.

We believe, however, that the still ample monetary conditions and fiscal stimulus will keep growth and inflation sufficiently high that for the time being, especially in the US but also in Europe, the room for lowering interest rates remains limited.

This immediately raises another problem, namely downward pressure on the currencies of Japan, China, and many emerging countries. Some of these countries need to keep their own interest rates high due to their large debts in foreign currency to defend their currency, while their economy needs lower rates. Currency interventions that have now begun are likely to make little difference here, except perhaps in the short term. The world must therefore be careful not to end up in a currency crisis. This risk places a heavy burden on the Fed and the ECB to significantly lower interest rates and thereby accept a weaker currency and higher inflation.

Would you like to have a look at ECR's analysis on how geo-politics are currently influencing financial markets developments? Simply send me a DM with your email address, and I will make sure you receive the report in good order.

Have a pleasant week ahead,

Kind regards,

Eddy