US ECONOMY
Economic growth moderated in the second quarter as falling fixed investment and a weak external sector dragged on growth. Nevertheless, American consumers continued to buttress growth in Q2, with household spending rising robustly over the quarter, and this trend has likely continued into Q3. In July, retail sales were surprisingly strong, consumer confidence recovered and the jobs report highlighted a healthy labor market. That said, the manufacturing sector slowdown persisted in the same month, with the ISM index falling to a near three-year low, weighed on by waning external demand amid the ongoing trade dispute with China. With regards to the latter point, the recent escalation in trade tensions suggests a swift resolution to the trade war is highly unlikely, which will drag on growth ahead and could prompt the Federal Reserve to further loosen monetary policy.

While economic growth seems set to ease in H2, with a weaker global outlook and the ongoing U.S. - China trade dispute weighing on business investment, manufacturing and exports, resilient consumer spending and lower borrowing costs should cushion any slowdown.

The key downside risks stem from a prolonged trade row and high corporate debt.

Inflation rose to 1.8% in July from 1.6% in June, signaling the trade war could be feeding into price pressures. Underlying inflation also edged up in the month. Inflationary pressures are expected to pick up slightly in the quarters ahead, on strong domestic demand and supply-side pressures due to tariffs.

At its meeting in July, the Fed cut its target range to 2.00%–2.25% but stressed it was a policy adjustment rather than the start of an easing cycle. Nevertheless, the recent escalation in trade tensions has prompted many of our panelists to pencil in another 25-basis-point rate cut at the 17-18 September FOMC meeting. FocusEconomics panelists expect the federal funds rate to end 2019 at 1.95% and 2020 at 1.77%.



TRADE RELATIONS
U.S.-China trade war heats up with new round of tit-for-tat tariffs Trade tensions escalated to unprecedented levels in recent weeks, with a fresh round of tit-for-tat tariffs from both the U.S and China increasing concerns that the over year-long trade war will persist beyond 2019. This will likely weigh on U.S. growth going forward. On 1 August, U.S. President Trump triggered an escalation in trade tensions when he abruptly announced that a 10% tariff would be slapped on the remaining USD 300 billion of imports from China not currently subject to tariffs. A few weeks later, Trump partially backed down by postponing some tariffs on a list of consumer goods from September to December, likely to ensure the tariffs would not dampen consumer spending—the mainstay of the economy—ahead of the critical Christmas buying season. The threat to impose tariffs on all remaining imports followed President Trump’s supposed dissatisfaction with the quantity of American agricultural goods that China was buying and the lack of progress being made in trade negotiations. On 23 August, China retaliated with its own tariffs ranging from 5% to 10% to be imposed on USD 75 billion worth of U.S. goods, and to be implemented in two phases matching the dates of Trump’s tariffs.

This followed the decision by the People’s Bank of China to allow the yuan to fall below the symbolic 7-yuan-per-dollar mark in early August, prompting the U.S. to label China a currency manipulator. The levies will specifically target goods including soybeans, crude oil and light aircraft, and China said it will also reinstate a 25% tariff on U.S cars and a corresponding 5% duty on auto parts in December. The retaliation thus clearly targets products linked to Trump’s core constituents in the industrial and agricultural belts, which are considered key swing states ahead of next year’s presidential election. As summarized by Iris Pang, greater China economist at ING, “it won’t have escaped the Chinese authorities’ attention that a full-blown trade war is unlikely to help President Trump’s chances in the election.” Hours later Trump announced a new set of countermeasures, stating the U.S. would raise the planned tariffs on USD 300 billion worth of Chinese goods that are scheduled to come into effect in September and December from 10% to 15%, while also increasing the existing tariffs on USD 250 billion worth of Chinese imports from 25% to 30% on 1 October.

Report from: FocusEconomics Consensus Forecast Major Economies

Cartoon by Pavel Constantin, Romania

Japanification is largely economist talk, but it means and affects a number of different things in daily American life.

One is an aging generational order. Here in the US the population is older and more and more adults are waiting to have children, often having smaller families. This is a trend in rich nations -  we have seen it before in Japan. However, this is not the only "Japan" related issue we are facing. The US and Europe have faced the similar issues with the EU showing stresses early in (perhaps Oct 2018) but the economy of the United States had largely remained resistant until August 2019. 

- Chad Hagan

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How Can You Measure The Japan Effect?

Economic growth in the form of the output gap
Inflation
A short-term cenbank interest rate
Demographic change


Commentary:

Germany’s bond market is now priced for endless stagnation. Its interest rates are negative on everything from overnight deposits to 30-year bonds. But it is striking how depressed bond yields are in countries with only a passing resemblance to Japan. A 30-year American Treasury yields just 2%, for instance. As currently scripted, Japanification is narrowly defined but broadly applied. It is the fear that policymakers have lost for good their ability to gin up the economy. A big question is whether the current situation is just one act in an unfolding drama, or where the story ends. - The Economist


The 'Japanese disease' Since the 1990s, Japan has been struggling with an extremely high public debt ratio and very low and even negative inflation and growth rates. Only in 2016 did Japan’s nominal GDP return to levels seen in 1997. Last year, Japan’s debt-to-GDP ratio stood at 238%, and since 1994, headline inflation has been negative for almost half of the time. This trend has also emerged in the eurozone in recent years. In Greece, the sovereign debt ratio rose to 183% following the European financial crisis, Spain was in a deflationary environment between 2014 and 2016, and Italy had to contend with predominantly negative growth rates between 2008 and 2013. - ING Bank


Cartoon by Luojie, China Daily, China

Russia’s Growth Deteriorates 

Growth seems to have recovered slightly in the second quarter, following a lackluster first-quarter performance which was dented by sliding investment activity and faltering exports. In Q2, economic activity picked up slightly on sturdier industrial production growth, which was underpinned by solid manufacturing output, and increased infrastructure spending under the government’s “national projects”. 

OPEC+ oil production restrictions and lower gas demand capped the increase, however. Meanwhile, although consumer demand metrics weakened, as suggested by retail sales growth decelerating to a two-year low in Q2, there were signs of improving conditions at the end of the quarter. Higher real wages in Q2 and a lower unemployment rate, which dropped to an all-time low in June, boded well for household consumption, which seemingly also benefited from gradually easing inflation thanks to a relatively strong ruble. 

Growth will sink this year, reflecting wavering household spending weighed on by the higher VAT rate, and a challenging external backdrop amid restricted oil output and weak gas demand. Looser fiscal and monetary policies should cushion the slowdown somewhat, however, while surging public infrastructure spending under the “national projects” should boost growth in 2020. FocusEconomics panelists see growth at 1.2% in 2019, which is down 0.2 percentage points from last month’s forecast. In 2020, GDP is seen increasing 1.8%.

Inflation fell to 4.7% in June (May: 5.1%), edging slightly closer to the Central Bank’s 4.0% target. Inflation receded faster than expected amid softer food inflation thanks to the early harvest in June and as consumer demand remained frail. A relatively strong ruble and soft consumer demand conditions should see inflation ease further in the second half of the year. Inflation is seen ending 2019 at 4.3% and 2020 at 3.9%.

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Much has happened this morning, so stay tuned for updates. 

The next Russia report will be out the end of August. 

Report from Focus Economics.

First off....China ->

China
Economic growth dipped to a 27-year low in the second quarter, and the economy likely continues to falter in Q3 amid the trade war with the U.S. Throughout January–July, investment growth slowed, while, in July, industrial production expanded at a near two-decade low and retail sales growth moderated. Meanwhile, in mid-August, the U.S. postponed imposing a 10% tariff on some Chinese consumer products from 1 September to 15 December, which should aid exports ahead of the Christmas season. In the same month, the IMF applauded the government during an Article IV visit for strengthening financial regulations, continuing to open up the economy and tightening control over local government expenditure to reduce the speed of debt accumulation; however, the Fund also noted that further reforms regarding state-owned enterprises are needed in order to increase competition and improve credit allocation.

Uncertainty linked to the trade war with the U.S. will continue to weigh on the economy, while weak global demand and domestic economic imbalances pose further risks to the outlook. Nevertheless, fiscal stimulus and accommodative monetary policy should buttress the economy and make the government’s 6.0–6.5% growth target for this year attainable. FocusEconomics panelists see the economy growing 6.2% in 2019, which is unchanged from last month’s forecast, before decelerating to 6.0% in 2020.

India
The economy looks set to gain traction in Q2 FY 2019, which runs from July to September. Rainfall in August and September, the final two months of the four-month monsoon season, is expected to be normal, which, coupled with above-average rainfall in July, should alleviate concerns in the agriculture sector following the dearth of rain in June. In addition, the private sector PMI rose to an eight-month high in July, mainly on the back of a rebound in the services sector. Looking back at Q1, the economy likely strengthened slightly thanks to faster annual industrial production growth, although the private sector PMI averaged notably lower than in Q4 FY 2018. Meanwhile, in politics, the government contentiously scrapped Jammu and Kashmir’s special status on 5 August, triggering civil unrest despite the government’s preemptive clampdown. In retaliation, Pakistan has suspended bilateral trade with India. • In FY 2019, the economy should maintain steady momentum, particularly if monsoon rains turn out to be normal. Fixed investment should benefit from greater policy certainty following the elections, in addition to lower interest rates. However, weak public finances, struggling non-bank financial lenders and a shaky global economy pose downside risks. Our panelists expect GDP growth of 6.8% in FY 2019, which is down 0.1 percentage points from last month’s estimate, and 7.1% in FY 2020.

FocusEconomics Consensus Forecast - East & South Asia

Japan’s machinery orders came in at +13.9% month over month for June, a swift turn from May’s -7.8%.

Forecasters called for a decline so the increased orders were a surprise. Also, real estate and insurance clicked in at double digit month over month growth. - Chad

*Charts from Goldman Sachs 

 

Despite the outpouring of positive sentiment the housing market is sputtering. Worries of a recession loom and geopolitical tensions are at an all time high. Don’t rush to refinance your mortgage too fast - another rate cut is in the cards.

From research: 

“The level of housing starts declined to 1,191k in July, below expectations, but details were firmer as single-family starts increased by 1.3%. Building permits increased by 8.4%, with an increase in both single-family and multi-family permits. Following the mixed report, we left our Q3 GDP tracking estimate unchanged on a rounded basis at +2.1% (qoq ar). We also left our past-quarter GDP tracking estimate for Q2 unchanged at +1.9% (compared to +2.1% as originally reported)” - Goldman Sachs 

If the long bond decline and other rate declines have you worried it may be worthwhile to read the below from Goldman Sachs:

• The historical correlation between yield curve inversion and recession is impressive. But what exactly is an inversion of, say, the 2s10s curve supposed to tell us? Roughly, an inversion indicates that the monetary policy stance is restrictive or is expected to become restrictive.
• This signal has worked well historically because US recessions have tended to follow overheating that led to restrictive policy. But it raises two problems. First, it is inconsistent: the decline in the term premium has dramatically changed the signal about the restrictiveness of policy. Second, it is narrow: recessions do not have to be preceded by restrictive monetary policy.
• This does not mean that the yield curve is useless for assessing recession risk. In our view, the “wisdom of the crowd” embodied in the yield curve can provide useful input on two questions. First, the near-term forward spread provides a sense of the market’s view of the economic outlook. Second, the market’s view of neutral helps us judge how far into restrictive territory we have gone. At the moment, however, neither measure indicates heightened recession risk. In gauging overheating risk, we think it is more straightforward to look directly at the economic data.
• We currently see moderate cause for concern: while price and wage pressures look contained for now, the US unemployment rate is headed to historically low levels.

Take the above and combine with with the fact that a large portion of of all business is an offshoot of businesses and supply chains for the top firms in the world, thereby controlling even more of the dynamics at play.

Estimates put 20% of all global trade controlled by the largest companies in the world. That number seems a bit small when you factor in joint ventures, ancillary businesses and subsidiaries. - CH

Soybean prices rallied to an over one-year high in mid-July before reversing all monthly gains by early August. On 2 August, soybeans traded at USD 829 cents per bushel, which was 1.7% lower than on the same day last month. Moreover, the price was down 0.7% on a year-to-date basis and was 2.8% lower than on the same day last year. Prices were initially buttressed by continued adverse weather conditions causing major delays in U.S. soybean planting. However, a 29 July USDA report showed that, while still lagging the 5-year average, soybean crop conditions have recently improved sharply on more favorable weather, causing prices to pare back gains. Moreover, prices steeply fell in the wake of the escalation of the U.S.-China trade war on 1 August.

FocusEconomics Consensus Forecast - Commodities

Growth is expected to have lost steam in the second quarter, after a healthy expansion at the start of the year. The latest data continues to point to a two-speed economy, with lingering weakness in the manufacturing sector contrasting relatively robust services sector activity. The manufacturing PMI recorded its worst quarter since Q1 2013 in Q2, and a sharp downturn in industry confidence caused economic sentiment to fall to a near three-year low in June. However, the unemployment rate fell to a new over one-decade low in May and the services business activity index rose to a seven-month high in June. Meanwhile, on 2 July, the European Council nominated Christine Lagarde for ECB President, Ursula von der Leyen to head the European Commission and Charles Michel to lead the European Council. The nominees represent a largely pro-European integration stance and also the continued influence of Germany and France, although ultimately policy will be spearhead by heads of states. • Activity is seen slowing sharply this year amid a less favorable external environment, problems in the manufacturing sector and as uncertainty dent exports and investment growth. However, solid spending will curb the downturn. Risks stem from global protectionism, a sharp slowdown in China, resurging financial turbulence sparked by Italy and Brexit uncertainty. Growth is seen at 1.1% in 2019, which is down 0.1 percentage points from last month’s forecast, and 1.3% in 2020. • Harmonized inflation was steady at May’s 1.2% in June and remains below the ECB’s target of under but close to 2.0%. Moderate economic activity, low inflation expectations and subdued oil prices are expected to keep price pressures modest this year. Our analysts see inflation averaging 1.3% in 2019 and 1.4% in 2020. • Christine Lagarde, managing director of the IMF, was nominated to replace Mario Draghi as ECB president when his term ends on 31 October. Lagarde is expected to continue the course steered by Draghi. At the ECB’s 6 June meeting, the Bank pushed back the timing of a possible rate hike amid persistently low inflation. Shortly after, Draghi stated that more stimulus could be unleashed. Accordingly, our panel sees the refinancing rate ending 2019 at 0.00% and 2020 at 0.02%. • The euro remained broadly stable in recent weeks, as weak economic data and a dovish outlook for the ECB were balanced by dovish expectations for the U.S. Federal Reserve. On 19 July, the currency traded at USD 1.12 per EUR, a 0.1% gain month-on-month. The euro is seen remaining steady this year, then strengthening ahead as monetary policy normalizes. Our panel sees the euro ending 2019 at USD 1.14 per EUR and 2020 at USD 1.18 per EUR.

Insight from FocusEconomics Consensus Forecast Euro Area

Global growth is likely to dim this year, due largely to weaker momentum in developed economies and China. However, tight labor markets and more accommodative monetary policy should prop up activity. A further escalation of trade tensions, particularly between the U.S. and China, is the key downside risk

Canada
Economic growth will likely soften noticeably in 2019 compared to last year, amid weaker domestic demand growth and as a moderating global growth outlook hits exports. Volatile commodity prices, uncertain trade relations with the U.S. and elevated household debt pose downside risks.

Euro Area
Activity is seen slowing sharply this year amid a less favorable external environment, problems in the manufacturing sector and as uncertainty dent exports and investment growth. However, solid spending will curb the downturn. Risks stem from global protectionism, a sharp slowdown in China, resurging financial turbulence sparked by Italy and Brexit uncertainty.

Japan
Lower global demand should cause the economy to slow this year. Nevertheless, front-loading of consumer spending ahead of October’s sales tax hike should boost consumption somewhat. The trade outlook remains a key downside risk to growth, as a recent spat with South Korea adds to the U.S.-China dispute.

United Kingdom

The economy will perform poorly this year, held back by soft business investment and weaker growth in key trading partners. However, solid wage growth should underpin private consumption, while a more expansionary fiscal stance should also provide support. The highly uncertain outcome of Brexit remains the key risk to the outlook.

United States
The economy is expected to maintain its longest expansion in history this year, albeit at a slower pace as intensifying headwinds from weaker global growth and trade tensions weigh on momentum. Sustained consumer spending should taper the slowdown, however. The key risks to the outlook stem from a prolonged trade row and high corporate debt.

Switzerland
Inflation was stable at May’s 0.6% in June, and appears poised to remain feeble this year and next, owing to an overvalued franc and a slowing economy. Volatile oil prices and a potential rise in global economic uncertainty, which could boost safe-haven demand for the franc, could further dampen price pressures.

Focus Economics Major Economies Forecast, August 2019

Economic Outlook Moderates

In the second quarter of the year, the Chinese economy expanded at the weakest pace since at least 1992, as the trade war with the United States continued to undermine the external sector and investment. Nominal merchandise exports contracted in Q2, mostly reflecting weak global demand and spillovers from the China-U.S. trade spat. Moreover, trade disputes dragged on investment throughout the quarter despite increased bank lending causing a notable uptick in June. Volatility in China’s economic data is expected to continue further down the road until the trade dispute settles. In this regard, June’s strong economic data for the domestic economy should be taken with a pinch of salt until additional data can corroborate that growth has indeed effectively bottomed out. In late June, China and the U.S. agreed to restart trade negotiations, while the U.S. canceled new tariffs on Chinese exports.

Uncertainty regarding the China-U.S. trade war will continue to weigh on growth this year, while weak global demand and domestic economic imbalances are additional downside risks. That said, the government’s commitment to support the economy via fiscal stimulus and accommodative monetary policy should make the 6.0–6.5% growth target for this year attainable. FocusEconomics panelists see the economy growing 6.2% in 2019, which is down 0.1 percentage points from last month’s forecast, before decelerating to 6.0% in 2020.

Real Sector

Biggest slump in thirty years. In the second quarter of the year, the Chinese economy expanded at the weakest rate since at least 1992, when the National Bureau of Statistics (NBS) started to publish quarterly data. GDP expanded 6.2% in annual terms in Q2 2019, below both Q1’s 6.4% expansion and the 6.3% increase expected by market analysts. Nevertheless, growth is still within the government’s target of between 6.0% and 6.5% for 2019. Although the NBS does not provide a breakdown of GDP by expenditure, additional data suggests that the trade war continued to weigh on exports and outweighed authorities’ efforts to stimulate the domestic economy. Moreover, growth in fixed-asset investment moderated in Q2, mostly reflecting weaker manufacturing investment. Conversely, growth in retail sales was robust in the quarter, suggesting that private consumption is likely supporting overall growth. Seasonally-adjusted quarter-on-quarter GDP growth inched up from 1.4% in Q1 to 1.6% in Q2, while nominal GDP accelerated from a 7.8% year-on-year increase in Q1 to an 8.3% rise in Q2. Although GDP growth slowed in Q2, economic indicators for the domestic economy firmed up in June. Against this backdrop, Ting Lu, Lisheng Wang and Jing Wang, economists at Nomura, comment that: “Bulls might claim that this is a result of the resilience of the Chinese economy and the effectiveness of Beijing’s countercyclical easing measures. We recommend caution, as we see no strong signals that China’s economy bottomed out in June. And, like the blip of a recovery in March, the rebound of official activity data in June may not be sustainable. […] By taking lessons from their reactions to the March data, Beijing will likely interpret and respond to the June data with some extra caution. We believe activity data could drop again in the next few months and assign a high probability to an escalation of US/China trade tensions despite the recent agreement to renew trade negotiations. Thus, we find it quite likely that Beijing will step up policy easing/ stimulus towards Q4 and end-2019.” Looking forward, trade negotiations between China and the United States will continue to shape the economic outlook for the Asian giant. On this point, Yi David Wang, head of China economics at Credit Suisse, noted: “We maintain our annual growth outlook at 6.2% for 2019. There might be upticks to IP momentum as authorities shift their reliance back to infrastructure and real estate. That said, unless a more permanent resolution to trade negotiation is achieved in a timely manner and authorities can improve credit allocation efficiency, the uncertainty impact will be an ongoing drag to China’s manufacturing sector.”

FocusEconomics
FocusEconomics Consensus Forecast East & South Asia