Macroeconomics: The Day Ahead for 28 February

With February being a short month, there is a deluge of statistics on the calendar, but as noted below in the Week Ahead, these are of little relevance with war in Eastern Europe. But for the record, Japanese Industrial Production and Retail Sales, Spanish CPI, Australian Retail Sales along with Q4 GDP readings from Scandinavia and Turkey are on the ‘to digest list’, while ahead lie Indian Q4 GDP, Canada’s Q4 Current Account and US Trade, Inventories and Chicago PMI. Of more importance will be the day’s central bank speakers and any signals offered on what they are on the lookout for in terms of market fall-out from the various Russia sanctions, and how that might play into previously stated plans to start tightening monetary policy. The EIA’s Supply Monthly including EIA-914 monthly oil and gas production report may be secondary in the short-term to potential supply disruptions to Russian oil and gas, but important in terms of assessing how much work would need to be done to increase output in the likely event of outages in Russia. In terms of overnight market reaction, the Rouble and Russia and Ukraine’s foreign bonds have unsurprisingly slumped though by considerably less than early indications on Sunday, though quotes are few and far between, and very wide in bid/offer terms (again totally unsurprising). As has been typical for Russia’s central bank since Nabiullina took over as governor, it has been quick to react to try and stem the RUB fall with rates hiked 1050 bps to 20.0%, and exporters ordered to sell 80% of any FX export revenues. Oil, corn and wheat prices have jumped but not breached last week’s knee-jerk highs, US and European equity indices have fallen sharply but the moves in US have seen no acceleration since the open in Asia, and the USD has strengthened, but both EUR/USD and USD/JPY trading ranges have been well contained. Govt bond yields are lower, though the move lower has been modest in 10-yr terms, with the UST curve steepening around 4 bps as 2-yr yields have outperformed. Given the extent of the measures that have been adopted by the EU, US and other countries, these moves have hardly been dramatic outside of RUB and oil, and the very unsurprising collapse in foreign bonds, though the lack of many quotes suggests that there is little if any trade, thanks obviously to sanctions. 

RECAP: The Week Ahead – Preview: 

  The deepening conflict in the Ukraine renders the new week’s run of data largely moot, but to summarize briefly: there are Eurozone and Turkey inflation, Manufacturing and Services PMIs, US labour data, Australian and Canadian GDP and Japan Q4 CapEx. The events schedule is packed with central bank speakers, with the focus on Powell’s semi-annual testimony to Congress, alongside rate decisions in Australia and Canada, which will offer some significant hints at how central banks plan to a) alter their policy strategies in the face of likely very significant disruption to global energy and commodity trade (but nigh on impossible to enumerate at this stage), and b) deal with the impact of Swift and Russia central bank sanctions in terms of financial stability. Up until Friday, the Bank of Canada had been expected to initialize a rate hike cycle with a 25 bps up to 0.50%, which now seems very questionable in light of weekend developments. The OPEC+ meeting will be very much front and centre, as will the meeting of G7 Finance ministers and central bankers on Tuesday, along with President Biden’s first State of the Union address. There will still be quite a number of corporate earnings reports around the world, while there are govt debt auctions in UK, Germany, France, Spain, Canada and Australia, but none in the US and Japan.

What follows are some observations and questions about the Ukraine-Russia war to contemplate, without any presumption of offering any specific answers:

– Putin’s decision to put Russia’s nuclear forces on high alert is the key concern on everyone’s mind, though in many ways unsurprising. It fits with his willingness to sacrifice human life on a large scale, as well as the Russian economy, and allow Russia to become a pariah state. While a few of his oligarch Nomenklatura (Alpha Bank’s Fridman and to a lesser extent Rusal’s Deripaska) have expressed reservations about the war, Putin’s brutal oppression of any opposition, including anti-war protesters leaves many too fearful to speak their minds. But if there is to be any move to unseat Putin, it will have to come from within the United Russia party and the military. It will require revolution from within to try and stop Russia from descending once again into the chaos of 1990s, and to re-integrate it into the world political order. As with the impact of the pandemic, there will be no going back to what pre-existed.

– The rapid escalation of G7/EU/NATO sanctions over the weekend is a welcome sea change shift in policy from the disunity and self-interest that had been on display up until now, signalling a move away from prioritizing economic and financial considerations to a more geostrategic and systemic line of thinking. This has many longer-term implications for the West’s political reaction function, and it remains to be seen how long this shift remains in place, given the economic fall-out from such moves will be very substantial. Eminently any country that might then break ranks but will be at risk of being labelled appeasers and apologists.

– Swift exclusion and Russia central bank sanctions: while it remains unclear how many of Russia’s banks are going to be excluded from Swift, this will have a very sharp impact even when accounting for exemptions. However the move to paralyze Russia’s central bank use of its FX Reserves is of far greater importance, and unprecedented given that previous similar moves on Iran, North Korea and Venezuela bear no comparison to taking such action on a country that is so integrated into global trade. It also torpedoes the ‘Fortress Russia’ strategy that has been adopted and implemented over the past decade, even before the annexation of Crimea. Expect credit ratings agencies to apply some sharp downgrades as a consequence.

  In that respect, while Russian media censorship is largely blacking out reporting on the Ukraine, every Russian citizen can see what is happening to the Rouble (sorry, no guesses on the scale of the fall that will be seen on Monday), and a bank run is already happening, with some reports suggesting that there has been a 58-fold increase in cash withdrawals. It’s also a huge gamble in terms of cross-border liabilities, given that the complexity of the global banking system means that no one knows who is going to find themselves on the end of Lehman-like failed payments. Indeed if ‘nesting’ happens in the Russian banking sector (i.e. money and assets move from sanctioned to exempted banks), then the risk officers and lawyers at international banks are going to be burning the midnight oil to try and work out what sanction implementation risks they could be liable for. This speaks to the possibility of market seizures, i.e. for many banks it will be a case of better not to trade or make a payment, than run the risk of colossal fines, exclusion and a mountain of litigation, let alone reputational risk damage.

– Germany: the only way to describe Chancellor Scholz’s announcement on Sunday that Germany will be adding EUR 100 Bln to its defence budget is that it represents a tectonic shift in German defence, security and foreign policy, a prima facie volte face on its whole strategy in this arena since the end of the Cold War. It has profound implications for EU policy, and above all shifts some power away from France, given that it was the only major defence power left in the EU following Brexit.

– China: while China can help out to some extent with the fall-out from the Swift exclusion via way of its CHIPS payments network, and Russia having already committed to integrate its SPFS system (set up in 2014 to circumvent feared Swift exclusion at the time), China will be wary of too much outright support, as appears already evident from statements from officials and state owned media. Very simply, the EU is China’s largest trading partner, it has far too much to lose, and rather too little to gain from outright support for Russia. India is also worth watching, as it has announced plans for an INR based payment for trade with Russia. Ultimately, this all implies a fracturing of global payments systems, with less trade related demand for USD (and EUR), and less liquidity.

– OPEC+ meeting: there are a good many questions, starting with an existential one: is there any point in continuing with it or should this revert to just being OPEC, after all the goal of underpinning oil prices has long been achieved. That said, it should be remembered that throughout the Iran/Iraq war and the colossal tension between Iran and Saudi Arabia, OPEC still met and those factors did not impact OPEC policy in any material way. In the face of the conflict, it will also be interesting to see if there is any international pressure on the GCC members of OPEC to loosen their strong ties with Russia (and China). There is no question that there will be pressure to increase output, though with countries like Iraq already struggling to meet current quotas (and announcing the suspension of output from two southern fields at the weekend), let alone any increase from the already planned 400K/mth, there is a credibility issue. To be sure there is scope for the US shale sector to increase output as the year goes on, but its inventories are already low (including the SPR). Ironically with Urals Oil trading at a $9.55 discount on Friday, it is Russia (which has its own issues with increasing output), which would be best placed to fill gaps, though delivery is obviously going to be disrupted

– Agricultural supply: with all the disruption to the Black Sea area (keep a close eye on what happens with Mariupol), exports are likely to be impaired, with shipping costs from the region unsurprisingly sky rocketing, to add insult to injury. As this week’s UN FAO Food Price Index (Thursday) is also set to make a fresh record high, it is countries in North Africa and the Levant, which are heavily reliant on imports from Russia and Ukraine, and will be even more vulnerable to popular protests about food prices (as per the Arab Spring).