Markets saw choppy and mostly gloomy trade on Monday as they responded to the Jackson Hole message that rates are going to be higher for longer. Stocks were down, bond yields were up, and the US dollar was close to a new fresh high on the broad Bloomberg index: in particular, at time of writing USD/JPY was at 138.7 and USD/CNY is 6.91 – 7 here we come (again)! It goes without saying that EUR/USD was around parity, but fundamentals suggest it won’t stay there for long: it’s going well under. That is despite the fact that away from the financial media focus on Powell saying the same thing he has been saying for weeks (and equity markets have been steadily ignoring, “because markets”), one of the biggest sea-changes at J-Hole was in the stance from Europe.
In particular, we got a speech from the ECB’s Schnabel, ‘Monetary policy and the Great Volatility’, which did the unthinkable (for the Fed) – it mentioned the geopolitical backdrop as a key driver of inflation, not the abstract ‘”supply chains”, and noted that this was likely to be a structural feature not a temporary blip. Moreover, the world was drifting apart to boot. As she put it:
“The Great Moderation was a period of prosperity and broad macroeconomic stability. The volatility of both inflation and output declined, the length of economic expansions increased, and people in most economies experienced sustained improvements in their standards of living…. Yet, monetary policy was not the only factor behind [it]. Good luck, in the sense of a smaller variance of the shocks hitting the global economy, is widely believed to have played an important role as well…”
Except it wasn’t “luck”: you don’t need to embrace historical materialism and dialectics to see history is not about linear trends or steady states – or even steady nation-states.
Anyway, Schnabel continued:
“The question I would like to discuss… is whether the pandemic, and more recently Russia’s invasion of Ukraine, will herald a turning point for macroeconomic stability – that is, whether the Great Moderation will give way to a period of “Great Volatility” – or whether these shocks, albeit significant, will ultimately prove temporary, as was the case for the global financial crisis.”
Her conclusion is the same as mine: these shocks are *not* temporary, and while “Globalisation acted as a gigantic shock absorber… The pandemic and the war are likely to add to instability in the years to come.” Moreover, as predicted here continuously since 2015’s ‘FX Wars’ and 2016’s ‘Thin Ice’, “Today, the world economy is at risk of fracturing into competing security and trade blocs. The international network that connects our economies is fragile. We are witnessing new and alarming forms of protectionism.”
Of course, Schnabel was of the view that a determined commitment to Volckeresque high rates for as long as needed could break the back of this inflation. Thus, partly, the market sell-off. However, she overlooks that what did the inflation trick for Volcker was neoliberal supply-side reforms and globalization, which destroyed the power of labor vs. capital. That’s a trick that can only be played once and arguably needs to be reversed to bring inflation down this time (i.e., nationalization, onshoring, forcing private capital to invest productively, not speculate, and redistribution to prop up final demand to support local production) alongside higher rates. Schnabel of course didn’t go there. But somebody who can read history will.
The sense of intellectual retreat to match the market’s was also evident in yesterday’s Bloomberg op-ed, ‘The West Needs Friendshoring, Not Reshoring’. This put China in the same geopolitical basket as Russia, which presumed UK PM Truss is also about to do too, yet begs that rather than reshore, the West should friendshore to retain as much of the neoliberal architecture as possible – just with people who are more liberal: “In the short term, the current revolution in the world’s supply chains will inevitably bring much pain, from sudden surges in the price of energy of the sort now tormenting Europe to a more general inflationary pressure. In the longer term, however, if we can handle the revolution properly, showing a mixture of restraint and foresight, firmness and dissimilitude, we can produce a healthier global economy – one that preserves the advantages of world-stretching supply chains while gradually freeing us from dependence on the whims of the autocrats in Moscow and Beijing.” Which still involves splitting the world in two.
Fusing all the above arguments, yesterday was also notable for the EU making a grand declaration on resolving its current energy crisis. Steps will be taken to de-link the price of electricity, now over EUR1,000 per MWh(!), from the price of gas, which while still at insane highs, tumbled yesterday in thin trading. Furthermore, measures will be taken to ensure renewable energies are generated at lower costs, and consumers directly benefit, price caps, windfall profits taxes, and, potentially, rationing. Talk about a retreat from neoliberalism!
On one hand, this is no surprise. Polanyi argued markets are ultimately always subservient to society, and right now society does not want to freeze or go hungry. However, understand this is not just a ‘technical decoupling of marginal trading linkages’ – it is dismantling market pricing, and the moral (and financial) argument for having the private sector involved in energy at all, except where their capital is directed by government, for a socially-acceptable rate of return. And after energy, where next, given our long list of supply short-falls and Achilles’ Heels?
Welcome to industrial policy. Welcome to corporatism (one definition of which is fascism). Welcome to Common Prosperity. Welcome also to the mixed-economy model European nation-states used to build their power systems until the 1980s and neoliberalism.
Of course, the real problem is that Europe doesn’t have any energy supplies to force state or private capital into – or at least not ones it is prepared to tap: indeed, Germany’s economy minister says the “bitter reality” is that Russia will not resume gas supply. Enjoy those stocks you have built up at huge expense, because there will be far less flow ahead.
As such, what power source will the EU link electricity prices to? Solar panels, in winter when northern Europe’s energy requirements are at their highest? Burning the M&Ms that unicorns excrete?
Underlining the point, Brent oil prices rose 4% to over $105 yesterday before retreating slightly (and wheat and corn went up 3-4% too, showing that central banks are still behind the curve on that front); Iraq slipped into chaos, with the US airlifting its personnel out of another Greater Middle East embassy(!); it was rumored OPEC+ may announce a production cut ahead; that the US might have to dip into its Strategic Petroleum Reserve even more – as if there can’t be a real crisis that demands its use ahead; and US Department of Defence spokesman Kirby warned he was concerned about the possibility of energy shortages ahead.
The brutal lesson is that neoliberalism is like a chocolate teapot – it looks amazingly sweet until things get ‘hot’, and then it serves no purpose at all. Yet industrial policy/corporatism/fascism/Common Prosperity also needs to be based on the real, and realpolitik, not the ideal. If the EU throws de facto MMT/printed money at energy subsidies within a neoliberal framework with no concrete, achievable plan for more energy supply (of what? From whom?) then it is simply going to drive global energy prices higher, many EM into the ground – some of whom are located close to Europe, EUR well through the parity floor, and inflation still into the sky. So let’s hope there is joined-up thinking behind their latest proposals.
Relatedly, the title of today’s Daily, ‘The Power of the Powerless’ (which I have used before) addresses the energy situation in Europe, but was also the title of a political pamphlet by dissident Vaclav Havel against communist Czechoslovakia. He argued the first step to bringing down the regime was for a powerless greengrocer not to place the state-backed sign saying, ‘Workers of the World, Unite!’ in his window. If Europe (and others) had done the same with certain neoliberal-approved signs they arguably would not be in the critical mess they are in now.
Finally, and also linked to the Daily title –as even the ECB agrees with me!– military reports are that a Ukrainian Kherson counter-offensive has begun. Market participants who have read any history will know that watching the success or failure on that key front will likely also be key to the global geopolitical and inflation outlook longer term. Far more so than most central bank warble, regardless of how much power they like to think they have.
By Michael Every of Rabobank