Top of the Morning

At the Financial Times, HSBC chief economist Stephen King offers a superb analogy for the relationship between the progression of the U.S. economy and all others:

Most economists tend to think that where the US leads, the rest of the world follows. They regard the US as the locomotive of a train with other economies the carriages that follow. On that basis, a recovery that begins in the US will eventually pull the rest of the world along. That, broadly, was the consensus at the beginning of the year. The US was evidently doing better. It was only a matter of time before economic conditions in the rest of the world would also improve…

Sometimes, though, another analogy makes more sense. In this story, the US is the first to climb a cliff. Other countries are tethered to the US by ropes. The overall pace of ascent depends on the burden of debt each country has to carry. One false move by the US will wreck the entire enterprise. Yet the US will only get to the top if the others also make steady progress. At the moment, they are more in danger of losing their footing, thereby dragging down the US.

There are good reasons for thinking the cliff analogy is, today, a better bet. Deleveraging is a huge burden and there is no obvious end in sight given still remarkably high debt levels. The US economy’s share of the global pie is shrinking and therefore it no longer exerts the same gravitational pull on the rest of the world. And, increasingly, economic and financial developments elsewhere are reshaping US economic performance in ways that domestic policy makers cannot easily offset.

On the Homefront

Volatility reigned supreme once again on Thursday, as the TSX opened down more than 1.5 percent, peaked at more than 2 percent above Wednesday’s close, and proceeded to finish with its largest gain in a year. The Energy group staged a comeback along with the price of crude oil, fueling the index’s gains and snapping an 11-session losing streak. All sectors except for Materials went positive on the day, as base metals were one of the few drags on the index. TSX 60 futures are shooting higher ahead of the open.

 

The loonie also experienced some wild gyrations, tumbling against the greenback on a positive dose of U.S. data before rising more than than eight tenths of cent off its lows of the day.. The pair is grinding higher this morning to hover around 0.89.

 

Inflation data on deck. At 8:30am (EDT), Statistics Canada will release September’s inflation print. Economists are calling for headline inflation to moderate by a tick to 2 percent while the core rate remains steady at 2.1 percent, its highest level in about two and a half years. However, it’s worth noting that base effects could make the core rate appear artificially high throughout the rest of 2014. Adjusting for seasonality, the core Consumer Price Index was virtually flat between July and November of 2013, so any monthly increase will push this rate upwards. After announcing that the Bank of Canada plans to abandon forward guidance last Friday, Governor Stephen Poloz also told the press that the upcoming Monetary Policy Rate would include the publication of an “underlying inflation” rate. Spoiler: this rate will be lower than any of the various measures of inflation currently provided by the central bank, and will thus support its decision to keep rates at current levels. Monetary policymakers are no longer overly concerned with inflation readings in the short-run; they’re focusing developments in the labour market, where slack is most evident. In other words, they’re sounding a lot more like their counterparts in the United States.

UPDATE: Inflation was in line with economists’ expectations in September.

 

Will the downturn in oil prices cripple the Canadian economy? Though Canada is often (erroneously) considered to be a petrostate, economists do acknowledge that the drop-off in oil prices is indeed a net negative for the economy. However, there are winners and losers, and what’s more, we won’t see any bad effects surface immediately. As TD senior economist Randall Bartlett notes, GDP isn’t overly sensitive to in-quarter swings in the price of crude; the adverse impacts come with a lag. It’s not the fact that oil prices have fallen that should cause Canadians to fret about our economic future, rather, it’s the danger that prices stay at these low levels. A WTI crude price below $80 per barrel would have a large deleterious effect on business investment in the oil patch in the years to come.

 

Ackman blasts Allergan’s board. Whenever it seems to be simmering down, the back-and-forth between Valeant Pharmaceuticals (VRX) and Allergan just heats up once again. More accurately, this has been a war of words between Bill Ackman and Allergan, as Valeant’s management has largely avoided any inflammatory public statements – and the latest escalation was no exception. The billionaire activist investor says his legal team has seen documents that indicate the Botox maker’s board of directors knowingly mislead investors about the Canadian pharma company. Presumably, this alleged misdirection was an attempt to reduce shareholder support for Valeant’s offer. The Canadian pharma giant will release its latest quarterly earnings report on Monday, and previously indicated that they would come in above the previously provided guidance.

Daily Dispatches

The price action in oil suggests that we have hit a short-term bottom, writes IG chief market strategist Chris Weston. “Both Brent and West Texas Intermediary (WTI) printed bullish outside day reversal patterns at trend lows yesterday, with price seeing good follow-through buying today,” he writes. “It seems we may have seen a short-term low in energy prices, which will no doubt please the ECB and the Fed who will want to see inflation expectations stabilise. In Australia we’ve seen reasonable buying of energy names over the last two days, but it’s hardly been euphoric.” WTI crude futures continue to move higher this morning, adding to yesterday’s advance.

 

The impetus for the bounce-back in equities on Thursday may well have been comments from St. Louis Fed President James Bullard, who suggested that the central bank might want to hold off on ending its asset purchasing program in light of the drop-off in inflation expectations. “The Fed’s favorite inflation expectation gauge, 5y/5y forward rate, fell -38 basis points to 2.28 percent from early August to October 7th before rebounding to 2.384 percent as of Thursday,” writes Adrian Miller, director of fixed income at GMP Securities. “At the same time he indicated the slide in inflation expectations has been much about energy prices while also suggesting the drop in energy prices will be supportive of growth signalling different takes on the same development.”

 

Janet Yellen will deliver a speech in Boston this morning at a conference on the inequality of economic opportunity. After a few members of the FOMC made decidedly dovish public comments lately, we’ll see if the Fed chair is as convinced of the idea that extraordinary stimulus should still be on the table.