So what should we make of all this? Well first off I think I should make clear that when it comes to technical arguments, like the ones used by Daily Fx about A-B-C zigzag-wave evolution and all that, I am absolutely ignorant, this is not my area and all I can do is recommend you go over and read their take to decide for yourself. My view on this topic would be very much a case of the blind leading the half-sighted.
But... if I look at this chart as a macro-economist, then of course there are some things which seem to be blindingly obvious, and they fit in pretty well with the narrative we have been giving here at GEM as the year has progressed.
Basically we need to think about the relative interest rate policies over at the Fed and the BoJ. Essentially the yen's slide after February 2007 (following some initial upswing momentum in January) can be tied to the disappointment generated by the inability of the BoJ to carry out a vigorous "normalisation" process on interest rates. This inability, of course, was closely tied-in to the underlying Japanese macro-economic "fundamentals" ( a topic which Claus goes into in much more depth in his accompanying post).
Then as we reach July, growing bullishness from Fukui and the BoJ coupled with increasing stagnation in the US housing market produce a turnaround. The market seems to dither a bit around mid-October, as instability in the global scene has the effect that people really can't quite make up their minds whether the carry trade is going to unwind or not and whether Japan might not once more be turned into a safe haven in troubled times (hence all the coming and going, aka volatility), but the broad sweep of things continues until the market turns in late November, as people finally throw the towel in on the Japanese recovery, and talk moves away from when the BoJ will raise again towards how long it will be before we are back in ZIRP. In this sense I am inclined to back the conclusion that Daily FX draw from their technical analysis, but basing myself on the macro outlook.
The USDJPY has fallen nearly 200 pips since Thursday morning after testing a resisting trendline that dates to June. This price action has many believing that the downtrend that began at 124.13 is back underway. However, our interpretation of the price pattern suggests that a rally towards 115.00 is still very much a possibility.
As I say, I tend to agree, but my reasoning is other. Apart from the ongoing weakness that we are likely going to see in the yen, as the interest rate differential with some other Asian and Latin American economies make carry to somewhere or other still an interesting business, we have to think about the underlying fundamentals of the US economy and the evolution of future monetary policy in the US.
So Where Are We Going in 2008?
As I say, the future of the Yen in part depends on the future of interest rate policy in the United States, so what are we able to discern in the tealeaves here? Well as I argue in this post (and back up with some additional demographic data in this one here) it is hard to envisage a dramatic easing on the part of the Federal reserve at this stage. The problems that the sub-prime bust are creating for the US economy have probably been rather overrated (interestingly sales of existing homes rose ever so slightly in November, which is just a small reminder that in a key area like housing demographics - rates of new household formation - do matter).
Sometimes I feel that there may even be a political interest in stressing that the global tightening in lending conditions is a spin off from a US problem (and not, say a Spanish or a UK one), since in countries with inherently fragile economies like Japan and Germany politicians and bankers may find it easier to explain to their citizens that what is happening is a result of a sub-prime bust elsewhere, rather than confronting head on where the real problem lies. This may be perceived as being more palatable for voters. Be that as it may, it seems to me that the US is more likely to be in for a "soft" than a "hard" landing, and this may well be reflected in monetary policy over at the Fed. What I mean by this is that the US slowdown may prove to be more protracted than many currently envisage - driven by liquidity constraints being placed by the banks on US internal borrowing, and by the continuing pressure on the US consumer wallet coming from higher oil and food prices (which are a knock on effect of the global recoupling process, and the increased purchasing power of people in the emerging economies, who are, let it be noted in passing, very numerous).
One point that I think is worth making is that in the course of the great fertility debate many US contributers tend to emphasise two factors which they feel help account for the comparatively high levels of fertility seen in the US of late: the spacious family environment and the ubiquitousness of the private car. Now, these two areas are precisely where this slowdown is going to bite hardest and longest in an era of structural changes in energy costs, since the US urban landscape may now be out of line with the change in relative prices that a declining dollar and rising global energy demand is going to produce. What I am getting at here is that if we ever do get a rising yuan, and the rupee continues its rise, then energy will get steadily cheaper in these countries in relative terms. I think this is not going to be a marginal, incidental point.
So the US slowdown may well be more protracted, but softer, than the markets are currently pricing in, while the Japanese slowdown may be more protracted and harder. Both these points argue in favour of continuing yen weakness vis-a-vis the US dollar in my opinion.
Finally I would add just at two caveats, and these concern the question of safe-havens and China. At this point in time we do not know what the global correction that we will in all probability see in 2008 is going to look like. We do know that some emerging economies will quite likely be badly affected (Eastern Europe, possibly Russia) while it seems likely that others (Argentina, Chile, Brazil, Turkey, Thailand and India) may well continue to power ahead. But we don't really know the details of how recoupling is going to work out in practice, and we don't know precisely which "safe havens" all those savings that continue to pile up in the pension and hedge funds will have recourse to. If Bretton Woods II is in the process of unwinding, and Bretton Woods III is in the process of being born, the we should expect to see changes here. As a knee jerk reaction, any initial instability in Asia is likely to send money across to Japan, but this may not be back to the "usual business", and particularly not if some large Asian economies - India?? - continue to grow at a hefty rate.
The other big unknown in 2008 is China. Most analysts are assuming a very gradual slowdown in China. Here I have my doubts. The inflation problem they have is a real one, and at this point in time it is hard to see how they can adequately address it. Certainly unchaining the yuan could just as easily lead to an acceleration of inflows and an increase in the overheating problem as to any more benign outcome, and I would treat New Zealand (and India for that matter) as the "Canary in the Coalmine" (or if you prefer "smoking gun") here. So I would just like to put up a question mark on this count, and I would do this especially in the context of the underlying and strong structural break in the Chinese population pyramid which has been produced by many years of the one child per family policy. Looking at those other canaries - Latvia and Estonia (and then Russia) push-comes-to-shove time does seem to arrive a lot earlier than we had all been anticipating. As I say, 2008 could well be the year that inflation gets a hold on China. Certainly the strong uptick in the latter months of 2007 is evident, as can be seen in the chart below.
Curiously this uptick coincides exactly with the peaking of the 15 to 19 age group, as you can see in the chart, and the decline in this age group from here moving forward is really quite dramatic, as you would expect from the drastic policy measure which was applied.
I have selected the 2022 horizon looking forward based on the fact that this is now known data. We can predict with a reasonable degree of accuracy just how many 15 year olds there will be in China in 2022, since they have now already been born. So we have a pretty good idea of China's new labour supply going forward. Obviously China can still get considerable growth by relocating the existing workforce across sectors to more productive ones. But the end of the labour intensive low economic value growth must now surely be in sight, and the big question is can China sustain inflation-free growth of the order of magnitude we have been seeing in recent years, bearing in mind that much of the recent growth in many of the higher growth developed economies - the US, the UK, Ireland, Spain - has been very labour intensive. My feeling is that it can't, this is why all those exhausted canaries swooning in Latvia have been so useful, and that we will see a slowdown in China which will not simply be cyclical, but rather structural. Possibly the moment of inflection (or tipping point) here will come around the time of the Olympic Games.
So, as I say the 15 to 19 age group has now peaked in China, and from here on in it is essentially downhill all the way, as far ahead as anyone can see. The truth is that no-one at this point in time knows what the consequences of this are going to be. But don't worry, since at least one thing is for sure: we are all just about to find out.
Now as I argue in this post (and back up with more demographic data in this one here) it is hard to envisage a dramatic easing on the part of the Fed at this stage. The problems that the sub-prime bust are creating for the US economy have probably been rather overrated. Sometimes there may even be a political interest in doing this, since in countries with inherently fragile economies like Japan and Germany politicians and bankers may find it easier to explain to their citizens that what is happening is a result of a sub-prime bust elsewhere, rather than confronting head on where the real problem lies. This may be perceived as being more palatable for voters. Be that as it may, it seems to me that the US is more likely to be in for a "soft" than a "hard" landing, and this may well be reflected in monetary policy over at the Fed. What I mean by this is that the US slowdown may prove to be more protracted than many currently envisage - driven by liquidity constraints being placed by the banks on US internal borrowing, and by the continuing pressure on the US consumer wallet coming from higher oil and food prices (which are a knock on effect of the global recoupling process, and the increased purchasing power of people in the emerging economies, who are, let it be noted in passing, very numerous).
One point that I think is worth making is that in the course of the great fertility debate many US contributers tend to emphasise two factors which help account for the very high levels of US fertility seen of late: the spacious family environment and the ubiquitousness of the private car. Now, these two areas are precisely where this slowdown is going to bite hardest and longest in an era of structural changes in energy costs, since the US urban landscape may now be out of line with the change in relative prices that a declining dollar and rising global energy demand is going to produce. What I am getting at here is that if we ever do get a rising yuan, and the rupee continues its rise, then energy will get steadily cheaper in these countries in relative terms. I think this is not going to be a marginal, incidental point.
So the US slowdown may well be more protracted, but softer, than the markets are currently pricing in, while the Japanese slowdown may be more protracted and harder. Both these points argue in favour of continuing yen weakness vis-a-vis the dollar.
I would at this point add just at two caveats, and these concern the question of safe-havens and China. At this point in time we do not know what the global correction that we will in all probability see in 2008 is going to look like. We know that some emerging economies will quite likely be badly affected (Eastern Europe, possibly Russia) while others (Argentina, Chile, Brazil, Turkey, Thailand and India) may well continue to power ahead. But we don't really know the details of how recoupling is going to work out in practice, and we don't know where the actual "safe havens" will be. If Bretton Woods II is in the process of unwinding, and Bretton Woods III is in the process of being born, the we should expect to see changes here. As a knee jerk reaction, any initial instability in Asia is likely to send money across to Japan, but this may not be back to the "usual business", and particularly not if some large Asian economies - India?? - continue to grow at a hefty rate.
The other big unknown in 2008 is China. Most analysts are assuming a very gradual slowdown in China. Here I have my doubts. The inflation problem they have is a real one, and at this point in time it is hard to see how they can adequately address it. Certainly unchaining the yuan could just as easily lead to an acceleration of inflows and an increase in the overheating problem as to any more benign outcome, I would treat New Zealand (and India for that matter) as the "Canary in the Coalmine" here. So I would just like to put up a question mark on this count, and I would do this especially in the context of the underlying and strong structural break in the Chinese population pyramid which has been produced by many years of the one child per family policy. Looking at those other canaries - Latvia and Estonia (and then Russia) push comes to shove time seems to arrive a lot earlier on this count than we were all anticipating. As I say, 2008 could well be the year that inflation gets a hold on China. Certainly the strong uptick in the latter months of 2007 is evident, as can be seen in the chart below.
Curiously this coincides with the peaking of the 15 to 19 age group, as you can see in the chart, and the decline from here moving forward is really quite dramatic, as you would expect from the drastic policy measure which was applied.
I have selected the horizon looking forward with regard to the fact that this is now known data. We can predict with a reasonable degree of accuracy just how many 15 year olds there will be in China in 2022, since they have now just been born. So we have a pretty good idea of China's new labour supply going forward. Obviously China can still get considerable growth by relocating the existing workforce across sectors to more productive ones. But the end of the labour intensive low economic value growth must now surely be in sight, and the big question is can China sustain inflation-free growth of the order of magnitude we have been seeing in recent years. My feeling is that it can't, this is why all those exhausted canaries swooning in Latvia have been so useful, and that we will see a slowdown in China which will not simply be cyclical, but rather structural.
As I say the 15 to 19 age group has now peaked in China, and from here on in it is essentially downhill all the way, as far ahead as anyone can see. The truth is that no-one at this point in time knows what the consequences of this are going to be. But don't worry, one thing is for sure, we are all just about to find out.
