APAC Market Outlook, Israel Debt Rating

Published Feb 12, 2024, 3:12 AM

Listen to today's top stories, with context, in just 15 minutes.

Katrina Ell, Senior Economist at Moody's Analytics, joins the program to give her perspective on Asia economic data. Garfield Reynolds, Bloomberg Chief Correspondent for Rates joins to discuss his view on APAC markets. Michael Heath, Bloomberg Eco-gov editor joins to discuss Israel's debt rating and the latest on the war.

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This is the Bloomberg Daybreak Asia podcast. I'm Doug Prisner. You can join Brian Curtis and myself for the stories, making news and moving markets in the APEC region. You can subscribe to the show anywhere you get your podcast and always on Bloomberg Radio, the Bloomberg Terminal, and the Bloomberg Business App. We bring in our guest, Katrina l senior economist at Moody's Analytics, who joins us from Sydney. Katrina, good of you to make time for us. So we've got two stories to try to unpack here, one inflation, the other deflation. And I'm going to begin with the inflation story, and whether you feel confident now that we are not going to see a re emergence of higher prices or upward pressure on prices, that you feel relatively confident that global central banks in countries like Australia, US, South Korea even have done a reasonable job at getting inflation under control. Is that a fair statement.

Yes, I think that is fair to say. I mean, what we've seen is that inflation across most of the developed world is really now on that nice entrench downtrend. So what we're talking about now you know, last year was all about how many more rate hikes are we going to see? Whereas twenty twenty four is all about when will this well anticipated you know, rate cutting cycle begin. I think that's really going to be the story of this year. And I think, you know, we're all waiting with bated breath of when those cuts are going to occur so that we can get you know, that constrained domestic demands that's happening across the world start to improve.

So what's the timeline then for fit easing.

So we're expecting at this stage that we will start to see rate cuts in the US start from May, so you know, it could be pushed out slightly because what we're seeing is that because inflation and because the jobs market is cooling quite nicely, the FED doesn't actually need to rush when it comes to cutting rates because the economy is not falling in a heap. It's holding quite resilient. So I think the longer they wait, the more comfortable they'll be with making sure that inflation is really where it needs to be. They don't need to kind of, you know, move more quickly to cut rates to support the economy because it is holding resilient, so may at this stage is where we're expecting the first rate cut to occur.

So compare and contrast what we're seeing or what you expect to happen in the US with what you're seeing out out your back door there in Sydney.

Yeah, so in Sydney it's actually a similar story. So we are seeing that inflation is on that downtrend in Australia. I mean, it's not quite as cool as where we're seeing it in the US, but it is getting there. It's holding about four percent, so it's not quite back to the RBA's magical two to three percent inflation target yet and so for that reason, because it's not as old on that clear down trend just yet and where it needs to be, we are expecting in Australia that we won't see a rate cut occur until September. So unfortunately, if our households over here, they do still have some time with that extremely elevated rate environment.

Although of course we didn't suffer as as higher rates here in Australia as the rest of the world did. The RBA was a bit more gentle with us. But we've got some jobs numbers coming out here for January in Australia, the rate scene ticking up. Where do you see that leveling out?

Yeah, so we're expecting that the unemployment rate in Australia will actually end the year at about four point two percent, So it's not that much higher from where it is at the moment, in that sub four percent range. And a consequence of that is that while household spending has certainly pulled back, it hasn't pulled back as much as we could have expected if we had seen more deterioration in the labor market, because you know, that labor market is really such an important firewall between households just cooling spending and households going down a darker path, because we all know it's one thing to be spending more on goods and services in an elevated inflation environment, more on repaying your mortgage, but it's quite another if you lose your job. And because we're not seeing that mass job setting in Australia and also in many places overseas like the US, we have seen a slowing in household consumption, but not a really decent pullback, which is why these global recession odds have also been paired back quite substantially as well.

Speaking of dark paths, I guess you could say that about the deflation story in China. I mean, we've been kind of in deflation on the wholesale level for more than a year, and now it's intractable, it seems on the retail level. Is this a significant headwind do you think for the Chinese economy or is this something that central bank policy, aggressive central bank policy can reverse.

Yeah, it's a really interesting question, and I think what we've seen from from Chinese policy makers is that they're not going to deliver that really aggressive stimulus on the monetary fund or the fiscal front, and so we do have a significant demand problem in China. And so you know, it's it's problematic because on the one hand, in the developed world, we're talking about how it's it's so wonderful that inflation has called but in China we're almost talking about the reverse problem of you know, prices have falling too much. And I think what we're what we're seeing in China is the problem of deflation. If it gets too entrenched, we'll see policy makers have an even bigger problem on their hand, because you know, we're starting to see the beginnings of If households start to believe that, you know, prices will keep falling on a sustained basis, they'll also delay purchases, and you know that will impact businesses and at the same time we'll also see real rates rise, and that's problematic because the PBOC is actually actively trying to ease that that credit environment in China. So you know, lots of problems there that I think we'll need to get addressed over the course of this year if we are actually going to see domestic demand in China start to stabilize.

Of course, it is Lunar New Year. This week in China, market through on a holiday, and so are people, so they're traveling, they're spending more. When the data from this Lunar New Year gets unpacked, what do you expect to learn about the state of the Chinese economy.

So I think that the forward indicators around Lunar New Year travel and projected spending have been quite positive because we're not having the same sort of restrictions domestically on travel and also international travel as well. So that's a positive. But it's really a question of will that improved exuberance from this year compared to last year. When it comes to households, if that's actually going to be sustained beyond the lunar New Year break, and unfortunately, we're just not thinking that it will because we're seeing that households are still incredibly cautious. But also you know, private businesses as well are cautious, and then that's of course holding back the jobs market. So again we're in this problematic cycle of weak demand that's continuing to ensure that the Chinese economy continues to underperform. And so that's why, you know, we're really waiting on policymakers to deliver more meaningful stimulus, and we've seen it in some degree. We are seeing increased support to the property market, particularly to developers, but it is still quite constrained to the point where it's not going to reinvigorate the Chinese economy unfortunately, it's just going to hopefully trying to rest this ongoing decline.

It's certainly reminiscent of what Japan went through more than thirty years ago, and I'm sure that policymakers in China have studied the history books and when you look at the debt to GDP numbers. I think China right now it's around two hundred and eighty seven percent. I mean, it's flirting with three hundred percent. And that is probably one of the apt comparisons to make when you look at what China is now going through versus what Japan went through three decades ago. Is there a real risk that, like Japan, China gets stuck in in a deflationary trap that could last decades.

I mean, at this stage, when you know, we don't see that as a real risk. We see that more as a tail risk. But it's certainly a concern the longer that China continues to underperform. And also it remains a concern the until China can get some of these these fundamental structural imbalances in their economy, until they can actually improve those and I'm thinking here in particular about the property market. If they can't kind of bring that back to a sustainable level and come up with new growth drivers as well, then I think we do have a significant problem. That's kind of Japan era esque because you know, if we're looking at the market, for instance, it used to be such a critical growth driver, accounting for around twenty five percent of GDP, but now, of course it's in this deep correction territory forward indicator's point to ongoing correction. We're seeing private businesses. Investment from private businesses as well is particularly weak, and so we're kind of looking around for, Okay, what's going to take the place of the property market as such a critical growth driver, and nothing is really standing out at this point, and so I think we need to see that, whether it's households coming to the party, or whether it's you know, high tech industries, we need to see something else to take the place to kind of arrest this beary sentiment in China that's really seems to have taken a life of its own in the past couple of months.

Very quickly, Katrina, thirty seconds, we've got Japan GDP this week. You mentioned Japan. Is that economy ready for the end of negative rates or is this pretty much symbolic?

Great question. I don't think they have a choice. I think that nega their rates are coming whether they like it or not, and we are looking at it at least a zero point one percent contraction from fourth quarter GDP data release this week.

Katrina, thanks for making time to chat. Whether there's always a pleasure. Katrina l senior economist at Moody's Analytics, joining us from Sydney here on a debreak Gasha.

We're joined now by Garfield Reynolds, Bloomberg chief correspondent for rates, here to talk about what else the markets and Garfield, I want to start our neck at the woods. We've got Australian bonds declining right now. What's there a function of exactly? I mean, we don't have many other markets open at the moment. Is this is just where the money's flowing at the moment.

Yeah, Paul. It's a bit of a follow on from what went on on Friday when your bonds declined in the US. That was even after some CPI revisions came in without causing any concerns that inflation might not be slowing down. And you even have people saying after those came out that this cements the case for FED rate cuts. But bonds right now are extremely nervous worldwide, as policy makers including the FED and the RBA as well last week pushed back hard against the idea that they're about to cut rates. So with US CPI coming up on Tuesday in the US and more FED speakers as well. That's enough reason for investors to be nervous about bonds. You could probably even add in despite the fact that oil is down slightly today. Oil has climbed quite a bit in recent days, and that's particularly nasty for bonds because that has such a strong link to inflation expectations.

Yeah.

One of the other things I think that is very much in front of mind for the market here is the idea of stress in the financial system as it relates to well, consumer I mean commercial real estate. But I'm looking at a story on the Bloomberg talking about the shadow banking industry in the US loaning more than a trillion dollars through the end of January. Now, a year ago that figure was less than nine hundred billion, So there continues to be an increase in the extension of credit beyond kind of the conventional banking system. So put that kind of on one side, and then introduce or reintroduce the idea that since the New York Community Bank story kind of captured investors' imaginations, I mean, it goes to the issue of a lot of commercial real estate debt that needs to be rolled over, and I think that for the FED they would like to be able to get out in front. If there is the potential for easing, that it needs to happen sooner rather than later.

Well, I mean the difficulty there too is is something that we're all used to the idea that the yield curve is inverted, supposedly warning of a recession. It's been inverted for almost the longest on record since July twenty twenty two. And the thing about that is that banks are in the business normally of borrowing short to lend long. So if short term yields are above long term yields in the regular markets, that makes that a much harder your business to be in. You have to find some way around that. How do you lend for five years if it's going to cost you more than you can get to borrow for two years. So in that sort of a situation, you get people turning to the shadow banking sector. You're trying to find people who are more willing to lend.

As policy starts to normalize, do you anticipate that that your curve and version is getting near the end.

You would think it would be, although again it's already the longest on record from the trough assuming the trough was the one hundred and nine basis point inversion back in March, until we get back to zero, and it's proved very very sticky. The concern for the bond market is that you might not get the sort of rapid resteepening which has usually accompanied an end to the yield curve. And the big question again is do we get it happening with the bond market selling off, because there are a lot of risks out there that people are looking past that could lead to yield jumping in the something like the way they did last year. We still have too much debt out there. We still have the concern that Japanese investors might head back to Japan once the boj n's negative rates there. We still have the potential for concerns about oil if oil continues to move higher. So the bond market and other markets are very much positioned for the idea that the yel curve will disinvert, and then it will do so in the standard sort of ways. But it's not all clear that we will get that standard this inversion because there are a lot of things about the way things are going at the moment that are very far from being standard.

So let's change locale and talk about risk. The deflationary story in China. Do you think that that's a big risk for markets right now outside of China.

I think very much. So it's not at all clear that they can turn that around. Some of it is to do with you talked about commercial real estate. All real estate in China is in a problematic state. And part of that too is that demographics have turned against China, so they don't have that population growth that can help them to get out of it. And the biggest concern in a lot of ways for foreign economies is that the latest concentration within China has been on turning the market around, doing things like discouraging what's selling, encouraging your sovereign, your state backed companies to buy shares, encouraging others to bring money back from offshore to buy shares without there being anybody going, yeah, you should bring your money back because we know how to solve these problems. So when you have China, the world's second largest economy and the overwhelming driver for global growth after the last twenty years, in that sort of a situation, that has to raise a lot of red flags.

All right, Gunfield Reynolds, Bloomberg chief correspondent for rates. Thanks so much for joining us here in the Sydney studio.

Well. Last Friday, Israel's credit rating was downgraded for the first time ever. This is going to complicate the process of the country's debt sales. Israel will have to sell a near record amount of bonds this year to fund its war against Hamas. Let's take a closer look. Now, joined by Bloomberg's Michael Heath, who covers the economy and the government. He's one of our editors, joining us from our newsroom in Sydney. Michael, thanks for joining us. First, the basis of the downgrade. This is Moody's Investor Service, right Where did they cite as the rationale for lowering the credit rating?

Good Doug, Yeah, I mean the main thing, I guess is the fiscal impact of the war, though they do talk about the material rise in political risk and the potential for it to weaken the executive and legislative institutions, which is it's a little bit unusual, I guess in a way. I mean the fiscal side. You can understand obviously we've had three hundred thousand reservists called up. Those guys are at war, they're not in their jobs, they're not earning paying taxes, that sort of thing, plus the military expenditure, So that side of it sort of makes sense. The political side is sort of harder to gauge. I mean, whether it's it's directly talking about the unpopularity of the current government, polls are showing that it would lose an election now, or the judicial review that was causing a lot of up people in Israel prior to the war breaking out, it's just not clear. But obviously, the longer the war goes on, it's a fairly the government is fairly right wing there includes some fringe parties. So the longer it goes on, perhaps they just worry about about how things are going to operate legislatively and politically there. But the fiscal side, I think is fairly clear now with Israel, one of its advantages is it does tend to fund its budget and its debt from heavily from domestic sources, so it's not going to do a lot to it in terms of the rates that's paying and that sort of thing. But you know, the longer this war goes on and there's talk of it lasting through this year, the harder it's going to get for the economy.

There, yeah, no doubt about it. And with a kind of weaker economic activity, I'm going to imagine that the tax revenues will begin to declining, and that's only going to put for the stress on the system, right.

Yeah, exactly when you hit from two fronts, aren't You've got increased military expenditure, you know, Plus you've got decreased revenue obviously from and businesses struggle obviously in a war zone as well outside of not having those employees who are paying tax and that sort of thing. So it's a bit of a pencil movement on the budget there, and it is going to get hard. But I mean, Israel's economy is pretty impressive and it's pretty resilient, so you'd assume that it will bounce back. I mean, perhaps promised you know who might have been you know, studying a bit to being a bit too sleik and saying it's just the war and there's potentially a bit more going on with Israel politically there. But nonetheless he does have a good point that the war is the key issue here.

So as we look at the future in these bond sales. Will there be greater pressure do you think applied on the part of the government to buy or on rather Israeli pension funds and institutional investors.

Well, my understanding is that they're pretty good about buying that as well. I mean, they've got a lot of money, and the Ofment's obviously you know, don't it has a very very good fiscal record and debt record and that sort of thing. But yes, I think they would definitely be very keen for domestic domestic funds to be buying this debt because obviously, once you go off shore you're paying higher rates. It puts even more strain on the budget. And you know, the downgrade was sort of priced in by markets to some extent. It hasn't had a huge there hasn't been been much of a reaction at this stage. But the longer this goes on, you know, as you have to go on buying overseas, sorry, buying get overseas, and as I guess the world starts to get more critical of Israel with this war as well, perhaps it causes a bit more difficulty there. So they'd definitely be keen on the on the domestic investors buying it yet, So.

What has the central bank been doing to support economic growth at a time of war? And I'm wondering about the role the currency plays and all of this as well.

Well, Yeah, it's really quite interesting when Israel's currency actually has has bounced back. I mean it took a hit initially with the attack and with the war, and you know, as markets globally sort of everyone's quite shocked obviously at what happened in that early October period. It's actually since bounced back and the Israel actually carent rates recently. So the central Bank is a pretty pretty well regarded institution and its response was was fairly measured as well to Moody. So you know, I think I think that they're they're one of the one of the strong pillars of the of the institutional system there.

So in terms of ensuring Israeli sovereign credit, have you seen a move in the credits default swaps market? I mean, his insurance on these bonds become a little more expensive.

Look, I haven't looked lately, but I think they had edged up a tad. There haven't been as I mentioned, there hasn't been a huge, a huge response because there had been a pricing in for the downgrade, so so the impact should be fairly limited either way. But you'd imagine that, you know, the longer this goes on, for the more pressure that we'll come on those fronts.

Yeah, you mentioned the fact that the expectations are we could be looking at another year of this. It's interesting that, you know, from the American side, and I don't think the United States is alone in this in calling for a cease fire, but that doesn't seem to be something that would would likely happen at this point, does it.

No, No, it's a really interesting one, isn't it. I Mean, I think sometimes with President Biden, his first comments are often his right ones, and when he was talking about Israel's some of its military actions recently being over the top, I think he was saying what he really thought there. And obviously there's this discussion about Israel moving into Rufa, which is sort of right down the end of the Gaza Strip near the Egyptian border, and that's where most of the refugees during the fighting have all gathered, so you've got more than a million people there. Israel's talking about going in there to get rid of the remaining or the Hummust militants who are hiding among those refugees. Now, obviously that's probably almost certainly the case that that's what they're doing. The problem is that, you know, the US, the UK Arab countries, they want Israel to provide a safe area for these civilians. Now promise Natnya who said, yes, we're providing that north of Rafa. But the problem is that over this three months or nearly four months this conflict's gone on, there's a bit of a credibility gap between what Israel says is available to these civilians and what in reality is available to them. And I think that's really what's worrying the US and UK. I mean, UK came out with a statement and obviously President Biden has as well. They really want Israel to avoid really heavy bloodshed here, and it's very difficult to see how that will happen with so many civilian people in such a small area. So it's really really quite concerning that that situation, and I think Israel's going to have to play this very very carefully because we're sort of almost at a pivot point internationally where people are starting to get twenty seven thousand deaths, even if it's humas reporting that there's a lot of people who've died in that area and the tolerance for it, I think is starting to wane.

No doubt about that. Michael will leave it there. Thank you so much for making time to chat with. It's Michael Heath, Bloomberg Economy and Governor Editor, coming to us from Sydney. This has been the Bloomberg Daybreak Asia podcast, bringing you the stories making news and moving markets in the Asia Pacific. Visit the Bloomberg Podcast channel on YouTube to get more episodes of this and other shows from Bloomberg. Subscribe to the podcast on Apple, Spotify, or anywhere else you listen and always on Bloomberg Radio, the Bloomberg Terminal, and the Bloomberg Business App.