The market is facing various issues this year.
Apart from emerging economies and volatile equity and foreign exchange markets, the United States has kicked off its rate hike cycle while Japan continues to grapple with sluggish economic growth despite Abe’s “three arrows”.
The financial market will remain volatile as long as China’s economy is mired in restructuring and deleveraging. Crude oil price continues to hover in the range of US$26 and US$36 per barrel.
More importantly, investors still lack confidence in the measures taken by Beijing to restructure its economic growth model.
In the meantime, Japan intends to follow Europe in imposing negative interest rate, which the authorities hope would stimulate bank lending and in turn accelerate economic recovery.
Japan is worried that “Abenomics” has failed, and local investors are pessimistic about the economic outlook. Many Japanese investors have rushed to buy 10-year government bonds for fear of charges on their bank deposits.
As a result, Japan’s 10-year government bond price has spiked while yield has dropped significantly.
Surprisingly, the government pension fund, despite its heavy exposure to Japanese government bonds, has benefited the most.
Also, the Japanese yen has soared to 112.18 against the US dollar, which is beyond government expectations.
As we all know, only the first arrow of “Abenomics”, a weaker yen, has had some effect.
The sales tax increase has largely offset the impact of the second arrow, fiscal stimulus measures.
And the government has yet to unveil any new reform as the third arrow, Japanese equity, has slumped 17 percent following the yen’s appreciation.
Meanwhile, the US Federal Reserve’s hesitation in hiking interest rates has also affected market confidence.
The market initially expected the Fed liftoff in June last year. However, the Fed postponed the rate hike given poor economic data in the first two quarters due to the cold weather and the low oil price.
The Fed further disappointed the market last September, when economic data already showed signs of recovery. It delayed the move again amid turmoil in the financial market.
Fed’s dual mandate means it should only focus on domestic employment and inflation. In that sense, the figures are looking very strong if one excludes energy prices.
So the Fed’s rate hike struggle affected market confidence.
There will be at least one more rate hike by the end of this year if the Fed makes the decision on the basis of the domestic economic situation.
If that happens, it would create another sell-off in emerging markets and commodities. Subprime loans in the United States would face heavy pressure, too.
That means the second rate hike could be disastrous.
Uncertainties are the least the market wants to see. And monetary easing measures have already reached the limit.
The silver lining is that oil producers could reach an agreement on output and restore market confidence.
This article appeared in the Hong Kong Economic Journal on Feb. 25.
Translation by Julie Zhu
[Chinese version 中文版]
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