The world changed this week, big-time, as markets struggled to keep up with political shifts, then economic, then political again. Markets are still behind.
Sad reports on housing routed the recovery brigade: May existing-home sales fell 2.2%, and sales of new ones collapsed 32.7%. 1st Quarter GDP was revised down (again) from the original 3.5% gain to 2.7%, and two-thirds of that remainder was inventory re-building. May orders for durable goods were still strong (+.9%), but that was it for positives.
The Fed’s post-meeting statement had the feel of can’t-say-that. Prior statements have referred to “strengthening” recovery. This one said that recovery is “proceeding.” Wherever this procession is going, nobody will mistake it for the 4th of July parade.
Money ran to bonds for safety, the 10-year T-note to its 3.09% low, mortgages about 4.75%, for one fleeting instant 4.50%. Applications for loans faded anyway.
In the first political development, China announced last weekend that it would let the yuan float upward, and global trading sparkled in pleasure for four whole hours. Then Monday’s yuan-trading reality exposed China’s utter deceit, exchanging its credibility for escape from more yapping by Mr. Geithner at the G-20 summit (can’t blame them). China obviously will continue a weak yuan, which will undercut wages and recovery everywhere else.
The second political shift has been long in coming, but this week’s sudden, global, and concerted lurch came as a surprise: all of Europe and Japan are embarking on simultaneous fiscal contraction. Stimulus be damned, all are determined to get their finances in proper order. If they can.
Japan’s newest prime minister in its lickety-split turnstile, Naoto Kan, proposes a 5% national sales tax and capped spending to chip at a national debt double its GDP. Such measures guarantee recession, and 10-year yen bonds now pay barely 1.00%.
France is taking unthinkable steps to cut its welfare state, raising the retirement age to 62 (Incroyable! Citoyens aux barricades!!). All of Club Med is attempting spending cuts in the range of 4% of GDP for each of the next three years, recessions certain.
The one European nation that should not cut, already-austere Germany, will do so. Angela Merkel and those competing to replace her are unmoved by the need to buy something from the rest of Europe, or to offer fiscal support. Europe will get an export boost from the devaluing euro, but not enough.
The UK has thus far done everything right (devalue, semi-nationalize banks, force them to lend), and its new government has embarked on the last step, a budget fix, the right way: for each pound sterling in new taxes, four pounds in spending cuts.
Then there’s the United States.
Tim Geithner and Larry Summers have offered incoherent advice to the world for months: maintain fiscal stimulus while adopting restraint. Maybe take a little time with the restraint, but don’t stop the stimulus. As of this week, the world is done with that.
So are we, whether we do it to ourselves, or markets force us. An economy staggering forward somewhere between flat-bottom “U” and double-dip cannot possibly generate enough tax revenue to close the chasm to the Left’s social promises and Right’s dreams of low taxes and military adventure. Forty-five years of that, done now.
The arch-Keynesian of the hard Left, Paul Krugman, still in favor of big spending, this week abandoned the Obama platform. He wrote that our long-run budget problem “will require, first and foremost, a real effort to bring health care costs under control.”
Peter Orszag, talented director of the Office of Management and Budget, has quit.
Mr. Obama’s thinking is opaque. Words, words, words, more words… farther off-point every time he speaks. He seems annoyed that the real world has intercepted his agenda, and is unwilling to adjust. Combined with lunacy in the other party, markets face a leadership vacuum, and markets don’t like that one bit.