Thinkpad: Don’t Worry; Be Happy

Happy Sunday.

We’re all a bunch of worry-warts, aren’t we?

As the Covid-19 crisis hit last year, we spent months worrying that governments weren’t doing enough. That central banks were the only game in town and the nature of the current crisis was not exactly their cup of tea. We argued, including the traditional fiscal hawks, that governments needed to spend more and worry less about those pesky things called fiscal deficit and debt.

The U.S. government listened. This week, it approved a $1.9 trillion package, which includes low and middle-income Americans getting $1,400 cheques.

Yay! Right? Apparently not.

Thinkpad had flagged the rise in U.S. bond yields ahead of the stimulus package being cleared a few weeks back. Since then the conversation has dominated. More and more people (maybe not you and me but at least economists) are worrying about inflation. Chetan Ahya of Morgan Stanley, writing in the Financial Times, said conditions are ripe for U.S. inflation to overshoot 2%. “A comeback in inflation is no less likely because it has been absent for the past 30 years,” he wrote.

For every economist’s view, there is an equal and opposite one.

Writing in Project Syndicate, Kenneth Rogoff said fears of immediate inflation are overblown. But he does see a longer-term inflation risk from the reversal of globalisation.

Worry warts come in all shapes and sizes.

If you think the inflation worries are too prosaic, here’s something else a small corner of the global markets is worrying about. As the U.S. Treasury starts to spend and winds down its reserves with the Fed, there will be a surge in bank reserves held with it. Frankly, there is nothing unique here except the quantum involved. But there is some concern that money market rates could plunge as the liquidity elephant shifts its weight from one foot to the other. Read about that here just in case the issue explodes in the week ahead.

All this may be happening miles away but the gush of money going into the U.S. economy will scatter debris that the rest of the world will have to deal with.

Sajjid Chinoy of JPMorgan writes that unlike typical times, when strong U.S. growth lifts demand for goods around the world, this time the stimulus may push demand for non-tradables — that’s economist speak for goods and services that are of immediate, local consumption and not traded internationally. As such, the upside of stronger U.S. growth may be muted for emerging markets. The downside, via higher yields and a stronger dollar, may not. “Even as EMs lag the U.S. recovery, they are being forced to import the latter’s, de facto, monetary normalisation,” Chinoy wrote in this piece.

Before we close for the week, we’ll flag off another worry.

Think back to a year ago when Yes Bank Ltd. had to be rescued. The RBI-approved reconstruction scheme wiped out additional tier-1 bondholders, arguing that these securities have loss-absorbing features. A yet-unresolved high-pitch debate followed on whether this was the right decision. For a relatively small segment of the capital market, these securities generate a disproportionate amount of noise.

Anyway, since then, India’s capital market regulator has been attempting to shield retail investors from the risk in these perpetual bonds. In doing so, they asked mutual funds to limit their exposure and to value these as 100-year bonds. All hell broke loose. Mutual funds worried about the NAV impact of the new valuation norms. The Finance Ministry worried about the additional capital they may have to shell out for state-run banks if the AT-1 market, already listless, goes into a prolonged coma. A letter was shot off from the ministry asking for a review. SEBI probably goes into the weekend, worrying what to do next.

Worries. Worries. More Worries. Cue up this song and tune out of some of these worries at least for the weekend.

♫ Here’s a little song I wrote...You might want to sing it note for note... Don’t worry, be happy...In every life (read: market) we have some trouble...But when you worry you make it double...Don’t worry, be happy...Don’t worry, be happy now... ♫