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Weekly Hotline



John Dessauer’s market review and update as of Wednesday August 22, 2018

                President Trump says, “China is falling apart.” Growth in China has slowed, but is still better than most other economies. For example, retail sales rose 8.8% in July, down from 9% in June and short of the 9.1% expected. Output at Chinese factories rose 6% in July, matching June but short of the 6.3% forecasted in a Bloomberg News survey. Transforming China’s economy from investment and exports to personal consumption is a challenging task. But joining the China bashers is a mistake. In the early 1990s when China developed the region called Pudong, across the Huangpu river from Shanghai, the bashers said look, the buildings are empty, this is a disaster. For a while, rents for the buildings in Pudong were very cheap. I heard stories that you could have an office there as long as you agreed to keep the lights on. The Chinese planners were early in developing Pudong. But in the long run, they were right. Pudong today is a huge success, with a modern airport, deep water port and high speed train to Shanghai center. History says the odds are that today’s planners will succeed in modernizing China’s economy. President Trump will likely be wrong. China will not fall apart.

            Larry Kudlow, the President’s chief economic advisor, has been on television arguing that the strong U.S. dollar is a sign that investors have confidence in the U.S. economy and want to buy U.S. assets. He is partly correct. The strengths of the U.S. economy are attractive. Where he is wrong is that the dollar’s recent strength is also partly due to the collapse of the Turkish currency. As Bill Gross likes to say, the U.S. dollar is the least dirty shirt available. Turkey has been on a borrowing binge for years. Turkey’s debts have grown to a point were Turkish people are frightened. To counter the pressure, President Erdogan has been increasing his personal power over Turkey. The combination of debt and a power hungry president has resulted in large scale selling of the Turkish lira. President Erdogan has made the situation worse by holding an American Pastor in detention. In response, President Trump doubled tariffs on steel and aluminum from Turkey. The Turkish lira fell again after that news, down another 16% in a single day. When a currency plunges the correct response is to raise interest rates. That provides additional income to compensate for perceived risks. President Erdogan made a huge mistake. He stepped in and said that Turkey would not raise interest rates. In other words, he used his power to intervene and override the Turkish central bank. Erdogan was afraid that higher interest rates would make it impossible for Turkey to keep up with the huge payments on the accumulated national debts. His interest rate proclamation pushed the Turkish lira down again. The Turkish central bankers tried everything they could to calm markets and stave off the currency plunge, including raising bank reserve requirements. But their efforts were not effective because of President Erdogan’s interest rate proclamation. So the dollar’s strength, as Bill Gross colorfully points out, is relative. Turkey’s president made such a mess of the local currency that the U.S. dollar looks really good by comparison.

It is always sad when the dollar gains strength because one or more other economies are suffering. And a strong dollar works against President Trump’s trade goals. American made goods and services become more expensive for foreign buyers when the dollar gains strength. That tends to reduce American exports.

“Turkey’s financial crisis has taken center stage, displacing trade wars as the immediate concern.” said Eugene Leow of DBS Group. The fear is that the crisis will spread to emerging markets and disrupt the synchronous global growth trend. Fortunately, most emerging markets are in much better financial condition than they were in the 1990s when a financial crisis in Indonesia spread to other emerging economies. Turkey, like Greece a few years ago, is a serious concern, but not likely to threaten the global financial system or disrupt global economic growth.

My thanks to University economics professor Mark Perry for posting an interview with Arthur Laffer on the AEI website: Laffer was an economic advisor to President Reagan and is an advisor for President Trump. Laffer is a free trade proponent. He says the trade deficit is wonderful - it means that American buyers, consumers and businesses, are able to choose the best quality at the best price on a global scale. He added that without free trade and China, there would be no Walmart and no American middle class. When asked about President Trump’s tariffs he winced, said he did not agree, but added that he believes this is rhetoric and that President Trump is a free trader and not a protectionist. At the end of the interview Laffer said he hopes he is right about our President because protectionist measures lead to economic disasters. And he said he is sure that President Trump wants a strong, growing American economy. Time will tell.

Stocks have continued their period of consolidation, recovering from recent declines. The news on earnings continues to beat expectations. For example, Walmart reported an outstanding quarter, with same-store sales growing at the fastest pace in a decade thanks to a surge in e-commerce spending. Walmart’s investment in e-commerce is beginning to pay off handsomely.

 There are always things for investors to worry about, the strong dollar and Turkey being the latest. There will be more, but with earnings still growing nicely and the next recession in the distant future, stocks are our best investment choice.

I will have the next market review and update for you one week from today on Wednesday, August 29, 2018.

            All the best,

John Dessauer    

© August 2018