raymondparson

Michael Avery

It’s time for The Week That Was with Warwick Lucas, Private Clients Portfolio Manager at Vunani, and Professor Raymond Parsons from the North-West University Business School and the University of the Western Cape.

Last week we asked whether markets were displaying admirable resilience or simply becoming rather too good at ignoring a lot of the bad news out there? This week, the bond market appears to have lost a little patience. The US 30-year yield is hitting levels we haven’t seen since the global financial crisis. We saw Washington and US Treasury Secretary Scott Bessent stepping into the market with larger Treasury buybacks. And Brent is back above $90 a barrel.

Warwick, when you look at it, let’s start with the signal rather than the noise in the market. What changed this week? Is the long end of the bond market finally telling equity investors that they’ve been far too relaxed about all of these issues of inflation and fiscal deficits and what’s going on in the Middle East?

Warwick Lucas

Good afternoon, Michael, to you and the listeners. I think a couple of things happened in the States.

The first is that we had the US public debt pass $40 trillion. So that, of course, made for some fairly large headlines on the likes of The Wall Street Journal, with assorted graphs and so on. Never a pretty picture, really.

And then, the second thing was that we saw Scott Bessent doing a little bit of shopping in the 30-year market. It gave the bond market the briefest of flurries before it continued to return to what has been, frankly, quite a sore ‘bear’ market that we see coming through in most global bond issues.

Now getting to the point where you ask yourself: is the debt starting to dictate economic policy? And quite clearly, it’s certainly constraining policy. It’s not necessarily a ‘debt crisis’, but obviously that bill is growing, and the bill grows as well as interest rates go up.

So, no longer can governments continue to act as if they can just rely on the ‘kindness of strangers’, and the price of that debt is telling them that that is exactly so.

So, it’s not just liquidity that’s the issue here. We’ve also got a ‘supply’ and a ‘confidence‘ issue. And the US has got lots of dollar and good capital markets, institutional strength, reserve currency. But it doesn’t mean investors will lend at any price.

And, of course, some of the advantages I mentioned have indeed been recently weakened by ‘President Bonespurs’

So, all in all, America can still borrow, but at a higher price.

Michael Avery

Raymond, what do you make of it all? It just reminds me of, what was it in the 1980s, where Ed Yardeni talked about the ‘bond vigilantes’. That is, the bond market will discipline you if you start getting into irresponsible territory with your borrowing.

Is that where the US finds itself today – $40 trillion in debt?

Raymond Parsons

Hi Michael. This kind of financial engineering, we’ve seen it before, as you’ve indicated. But there’s also an interesting bit of history going back to the President Clinton era.

Fed Chairman Greenspan was badgering President Clinton at the time about the reducing the fiscal deficit, which he did indeed do something about eventually. Greenspan kept saying to Clinton ‘the bond markets this and that, the bond markets will not tolerate this – will have to do something about the deficit for bond markets to get interest rates down’.

Eventually was Clinton who said: ‘when I am reincarnated, I would like to come back as the bond market. That’s where the power lies – not in the Presidency – obviously the bond market now calls all the shots, and that’s where we are now’.

Obviously, I’d suggest all the dynamics today look very similar. But I would just mention a few additional things now:

The first is that, together with the Bessent intervention, we also now have in the background the Minutes of the US Fed meeting of a few weeks ago. They don’t align quite with what Fed chairman Kevin Warsh was saying at his subsequent media conference about the balance of opinion in the Fed discussions about future interest rates there

And quite clearly, that’s one dynamic which will have to be taken into account when we move to the second factor. When we look at the traditional Jackson Hole meeting of central bankers next week, I suspect that chairman Warsh in his speech there may have to show more of his hand than he showed at his press conference in the light of these recent bond market developments -because they have implications for the next Fed meeting in September

And then finally, from a South African point of view, you can’t have a manipulation of the US bond yields and a strong dollar at the same time. A weaker dollar is proving to be now strengthening the rand, which is helpful for the inflationary expectations outlook here.

So, that’s where we are at the moment this week.

Michael Avery

Now, the other big talking point – AGOA is back. Welcome news that, at least for now. The US Senate has approved a two-year renewal of the AGOA trade program.

What does that mean for South Africa? Is that three cheers, two cheers, or perhaps only one, Raymond? What are the real opportunities from this extension, and what risks or uncertainties remain?

Raymond Parsons

We must welcome it. You know, the fate of AGOA has been a protracted agony for done time and uncertainty as to where SA would stand with AGOA. Now at least we know where we stand for the next two years. We must capitalize on it, because US/SA economic relations are still very important. We must do anything we can with this instrument to overall strengthen them.

But I think we’ve got to bear in mind we’re in very changed circumstances now, including other concurrent US tariffs subsequently imposed on SA exports. So, it can’t be three cheers

Firstly, the AGOA renewal is only for two years. In addition, every country will be reviewed annually to see as to whether it’s behaving in a way that is seen to be consistent with US interests. So that’s another variable that we need to bear in mind, which could be an element of residual uncertainty.

But the two other key points for me that provide perspective in the changed circumstances since this debate about AGOA first started is, firstly, we must continue to diversify as South Africa, both globally and in Africa, for all sorts of good reasons in a changing world trade scenario

We must as far as possible avoid having ‘all our eggs in one basket’. We’re learning that lesson. I think we’ve got to try over time to be less dependent on the goodwill of any particular country. SA must continue to negotiate tough but dependable trade agreements that are in the country’s national economic interests, as well as those of other regions and areas.

And finally, with all this aspirational diversification and alternative markets strategies – we’ve got to ensure we run a competitive economy This brings us again to the issue of our energy costs, our water costs, our infrastructural costs and so forth. So that we can take advantage of the alternative markets that we now need to develop. And also take advantage, at least, of also what AGOA is still offering us.

Michael Avery

What do you make of the AGOA decision, Warwick. Align it to the fact that, yes, we had a much healthier inflation number out last week, though very much ‘backward-looking’ . We’ve now had oil well above $90 for a period of time. We could probably expect that number to start moving up again.

And the fact is we’re not growing this economy anywhere near the economic growth levels that we need to see. We had business and government come out yesterday saying we’re still not able to get growth above 3%.

Warwick Lucas

Yes, Michael, going back to your earlier question, it probably, from my side, is two cheers, not three. But I think Raymond really covered most of the bases there very nicely.

I think the key points are that AGOA is not unconditional. And to me, the fact that there is only a two-year AGOA extension straightaway tells me this isn’t a policy the US government is doing away with. But it’s no longer a central part of any kind of ‘soft-power’ strategy. So, they’re kind of ‘kicking the can’, but not very far.

And from our side, it still brings a case to the fore. I mean, when we think about the sectors that were heavily exposed, the likes of vehicles and so on, we had these industry plans that, at a single stroke of a pen, could be devastated.

And there’s a warning there of: be wary of ‘betting the farm on certain horses’, especially something like vehicles, which is so exposed to technology and changes in technology, especially in a world of driverless cars and a move away from internal combustion engines.

And turning to inflation, it’s obviously great that we saw a step back in latest CPI. But we’ve got to remember there’s a bit of a lag in our data because of the lag in the fuel price. To me, the month-end looks like we’re going to see probably a random bit of a kick-up in the fuel prices in both categories.

So, yes, the upside pressure on inflation is still there, especially for as long as Iran looks like it wants to keep the war not so much on a ‘hot burn’, but more of a ‘slow burn’, niggling the US the whole time, right up until their midterm elections at least.

MICHAEL: Yes, which makes it very difficult to try and forecast through all of that as well. And just lastly, I want to end, Raymond, on a point that you touched on earlier.

You know, we want to get the economy growing again. We’ve had the President bemoaning our ‘deindustrialization’. A big part of that is making us competitive is energy prices.

And the government is proposing what it describes as an overhaul of the electricity tariffs. Obviously, it wants to bring down the cost of power across the economy.

Minister Kgosientsho Ramokgopa has argued that consumers are effectively paying for inefficiencies at both Eskom and municipal levels. Hard to argue against that.

How significant could these reforms ultimately be for households and businesses in regaining that lost competitiveness?

Raymond Parsons

Michael, the affordability of our energy supplies is now very important when we basically talk about keeping the cost of doing business in South Africa as low as possible, and as competitive as possible.

Three main areas in these wide ranging proposals – and we should welcome the recognition that this ‘affordability’ is now an important policy issue – are future potential consumer choice, the issue of dealing with poor consumers, and then also giving more certainty in tariff policy over a far longer period.

However, it’s tremendously important that all stakeholders, especially business, make input on these proposals. Because when you begin to unpack what is being proposed, as someone well said, there is no ‘free lunch’

So we’ve got to find out: where will the costs now fall? Who will gain? Who will lose? How will the costs shift? And when, in the end, will our national economic interest be served by this package of proposals? How can they be refined and implemented in ways to make a big difference to our economic performance?

Michael Avery

And, you know, there’s a common thread that runs through this whole week: prices are starting to reveal costs that governments have spent years trying to suppress or disguise.

The bond market is pricing fiscal risk. Oil pricing geopolitical risk. Trade preferences are pricing our political relationships. And electricity tariffs finally being forced to price the efficiency of the system – or lack of it – underneath all of this as well.

Professor Raymond Parsons, thank you very much. And Warwick Lucas, great having your insights, as always, here on The Week That Was.