Commentary: The tax bill is a joke, but so is most punditry on it.

The Senate might pass the tax bill. Whoopee doo. Its a tiny package. The US economy is 18.5 trillion dollars. The tax bill increases the deficit by 1.5 trillion dollars over ten years. That's a tiny amount considering the cumulative GDP of the United States will be close to 200 trillion dollars over that same time period. (202.56 trillion exactly assuming a 2 percent growth rate) So putting 1.5 trillion into the economy ought to increase total GDP over the same period by somewhere around 1.5 trillion dollars. OK. Its a tad more complicated. Fiscal multipliers seen in the wild are usually between 1.2-1.5. So we are looking at a bill that at most ought to increase total GDP over ten years by about 2.25 trillion. That's a little more than one percent cumulatively. And guess what, that's what the rosiest estimates which are serious are predicting. 

Again, whoopee doo. No, the increased debt will not bury our children.(But again, I've debunked the debt nonsense a million times before) No this tiny package won't set off an era of robust growth. Its not a macro economic package at all. It's a Donald Trump ego package. 

A serious macro package would be bigger, and would be targeted like a laser on raising wages. That would attract more people back into the labor force, one of the few macro variables still out of whack from the great recession and definitely something that's holding back growth. Higher wages would also help the Fed get stubbornly low inflation back on target.

This bill might keep the stock market rally going. It's probably worth a couple trillion of increased market cap for America's largest companies, because stock prices are tightly tied to expect future after tax earnings. But this isn't rocket fuel for the economy. Its not even an M80. Its a burned out sparkler on July 5th. 

Commentary: The Bank of England's Mind Boggling Rate Hike

A very quick note on the Bank of England's actions today. (A very busy news day)

The UK's central bank has displayed stunning incompetence. The rate hike today was more or less largely priced in for over a month.  Indeed, the forward curve for Sterling OIS has shifted up markedly. In short, forty-five days ago, the markets were expecting 1-2 rate hikes over the next 12 months. As of yesterday, markets were penciling in about 2-3.  

 

As a result, Gilt yields rose, and the GBP appreciated. 

Today, the Bank of England followed through on its expected rate hike, while inexplicably take future rate hikes off the table. In other words, the bank has issued dovish forward guidance while simultaneously hiking rates. 

So now, the market is pricing in no more hikes. This a much more shallow path for rates than the previous consensus view.  So UK yields have plummeted, with both the 10 and 2 year notes shedding seven basis points.  And Sterling got whacked, down about 1.5 percent against the US dollar. 

Today's move makes no sense whatsoever.  The Bank of England has shifted from a tightening bias to a neutral-easing bias, and the markets have responded exactly how one would expect.  Basic financial theory says that long rates are determined by the expected geometric average of short rates, and the Bank just caused markets shift down their expectation for future UK policy rates. And the same time, the Bank of England said in its statement it was hiking to help control inflation caused by the fall in sterling.  Instead, it managed to tank the GBP and gilt yields. It is not at all clear to me if this was on purpose or not.  It would certainly contradict the tone of the MPC's statement, but at the same time committee members must surely understand basic theories of the term structure.  It makes no sense, I don't get it. I have no idea what the MPC was trying to accomplish.  Maybe I should send my resume to Theresa May.