News of the week summary - 03/03/2024
Nigeria faces crisis after removal of fuel subsidies
Nigeria's recent decision to abruptly withdraw fuel subsidies has sent shockwaves through its economy, raising questions about the handling of this significant policy change. The country had faced pressure from international entities, like the IMF (International Monetary Fund), to end these subsidies, which had long kept petrol prices among the cheapest globally. President Bola Tinubu, upon assuming office, removed these subsidies as part of broader economic reforms, aiming to improve macroeconomic stability and create fiscal space.
However, the aftermath of this move has been marked by severe economic distress. The cost of fuel has tripled, while the Nigerian currency, the naira, has depreciated by approximately 70% against the dollar since the removal of the currency peg. Such drastic changes have led to a spike in inflation, particularly affecting food prices, exacerbating economic hardship for many Nigerians, especially the youth.
Critics argue that while removing subsidies might have been necessary, the lack of a comprehensive plan to mitigate its adverse effects on the population has amplified the crisis. The IMF had recommended adequate compensatory measures for the poor and transparent utilization of saved resources alongside subsidy removal. However, Nigeria's approach appears to have lacked such provisions, resulting in widespread economic turmoil.
Moreover, the recent increase in interest rates by the central bank underscores the depth of Nigeria's economic challenges. The Central Bank of Nigeria raised interest rates to 22.75%, a significant hike of 400 basis points (4 percentage points, which means going from 18.75% to 22.75%), at its first meeting since July. This move aims to tackle inflationary pressures, which have surged due to the removal of subsidies and currency depreciation. However, such a substantial increase in interest rates reflects the urgency with which policymakers are attempting to contain inflation and stabilize the economy.
Despite these efforts, there are concerns about the effectiveness of such measures in addressing Nigeria's structural economic problems. While higher interest rates might help curb inflation, they could also dampen investment and economic growth, further exacerbating the crisis (notably by reducing the tax revenue). Additionally, there are doubts about the pass-through effect of rate hikes, as structural reforms beyond monetary policy might be necessary to address the root causes of inflation.
Eurozone bank lending decline signals economic weakness
Bank lending to the private sector in the eurozone has experienced a notable decline for the first time in five months, indicating ongoing economic fragility as record-high interest rates persist, constraining demand. The European Central Bank's report yesterday revealed a €12.2 billion drop in eurozone private sector lending in January, marking the first decrease since August.
Annual growth in private sector lending within the eurozone, excluding securitizations (the bundling of various types of debt, sold as a tradable security to investors), has decelerated from over 7% in mid-2022 to 0.4% last month. This sluggish growth aligns with the lackluster performance of the eurozone economy, which essentially stagnated in the final quarter of last year after a prolonged period of economic stagnation throughout 2023.
Economists interpret this decline in lending as a reflection of the continued impact of high interest rates on loan demand from both households and businesses. Consequently, this trend is anticipated to keep the eurozone economy entrenched in stagnation in the early months of this year.
Unlike the US and many other countries (which rely more on the bonds market), Europe heavily relies on bank lending, making changes in credit supply pivotal to growth and inflation within the 20-country euro bloc. These figures might signal a further decline in inflation and domestic demand, implying that the ECB may have tightened monetary policy excessively. Bank lending has notably contracted since the ECB raised its benchmark deposit rate to 4%, the highest in its history, from an all-time low of minus 0.5%. This move aimed to counteract the significant surge in inflation witnessed recently.
The breakdown of ECB figures indicates that eurozone household lending growth slowed to 0.3% in the year to January, its weakest annual pace since 2015, with mortgage lending experiencing its first decline in nine years. Corporate lending also saw a notable slowdown, further highlighting the subdued lending environment.
Despite its opposition to Biden, the oil industry has thrived under his tenure
The largest US oil and gas producers have witnessed a nearly threefold increase in profits under President Joe Biden's administration, despite the industry's criticism of his policies. Top-10 listed operators are expected to report combined net income of $313 billion during Biden's first three years, compared to $112 billion during the same period under former President Donald Trump.
This remarkable surge in profits has occurred amidst industry condemnation of what they perceive as a "hostile" stance from the Biden administration, with warnings of potential disaster for the sector if he secures a second term. However, the collective market capitalization of these companies has risen by 132% during Biden's tenure, signaling robust financial performance despite policy disagreements.
The surge in profits underscores the limited influence of the White House in shaping the sector's fortunes. Factors such as record-high oil and gas prices, driven in part by geopolitical tensions such as Russia's invasion of Ukraine, have significantly contributed to this profit bonanza. Additionally, a rebound in global energy demand following the COVID-19 pandemic has bolstered prices, with the US becoming the largest exporter of liquefied natural gas last year.
Contrary to Republican arguments that the Biden administration's policies have stifled the industry, Biden has encouraged increased drilling and LNG exports to address high prices and support energy security. This approach has contributed to record production levels, maintaining oil and gas prices while supporting exports to Europe during its energy crisis.
However, the Biden administration's relationship with the oil and gas industry remains contentious. While the industry's success has been significant, the administration has been reluctant to celebrate it fully, fearing backlash from within the Democratic Party. Furthermore, President Biden has criticized certain industry practices and implemented regulations that have been met with opposition.
Despite the industry's current success, there are concerns about the long-term impact of Biden's policies. Industry leaders warn that continued regulatory measures could hamper future production and undermine national energy security. Lawsuits and opposition from industry groups highlight the ongoing tension between the Biden administration's climate goals and the interests of the oil and gas sector.
Looking ahead to the 2024 presidential election, the industry's support for candidates who align with their interests remains strong. Republican donors have voiced concerns about a potential Biden victory, emphasizing the need for policies that support the industry's growth and sustainability.
ECB faces dilemma as inflation eases but services sector's prices remain high
Inflation dynamics in the Eurozone's largest economies, Germany and France, present a nuanced challenge for the European Central Bank (ECB) as it decides its monetary policy. Despite a slowdown in inflation rates, particularly in goods and food prices, the persistence of high services sector prices poses a dilemma for policymakers contemplating interest rate cuts.
In February, both Germany and France experienced a moderation in inflation rates, attributed in part to softer increases in goods and food prices. However, this deceleration was counterbalanced by a rebound in energy costs and continued strength in services prices. Spain witnessed a similar trend, with a slowdown in electricity prices offset by an acceleration in fuel costs.
Since the disruptive events of the pandemic and Russia's invasion of Ukraine, which triggered a significant surge in consumer prices, inflation in the Eurozone has been steadily declining. This leaves ECB policymakers grappling with the uncertainty of how swiftly inflation will converge towards their target of 2 percent.
The ECB is anticipated to revise its inflation and growth forecasts downwards during its upcoming meeting in Frankfurt. However, most economists expect the central bank to maintain a cautious approach, citing the need for further evidence to ensure that rising wages are not exacerbating price pressures before contemplating any reduction in borrowing costs.
In Germany, while overall inflation moderated to 2.7 percent in February, persistent wage growth fueled steady increases in services prices, maintaining inflationary pressures. This underscores the complexity of the ECB's task, particularly in the face of robust underlying price pressures, particularly in the services sector.
French inflation also exhibited a similar pattern, with a slowdown in food and manufactured goods prices driving overall inflation down to 3.1 percent in February. However, steady increases in services prices tempered the decline, highlighting the resilience of inflationary forces within the Eurozone's second-largest economy.
Despite these inflationary pressures, consumers in both Germany and France exhibited caution at the start of the year, with retail sales declining in January. This suggests a degree of uncertainty among consumers amidst evolving economic conditions.
Looking ahead, Eurozone-wide inflation data is expected to show a further decline from 2.8 percent in January to 2.5 percent in February. ECB President Christine Lagarde has indicated that inflation is expected to continue slowing down, driven by the fading impact of past upward shocks and tightening financing conditions.
As the ECB grapples with these inflationary dynamics, it faces a delicate balancing act in calibrating its monetary policy to support economic growth while ensuring price stability. The forthcoming meeting and updated forecasts will provide insights into the central bank's assessment of the evolving economic landscape and its policy response moving forward.
Fall in US inflation raises expectations of rates cut
The latest data on inflation in the United States, released this week, indicates a decrease of inflation to 2.4 percent in the year leading up to January. This figure, closely monitored by the Federal Reserve, aligns with economists' expectations and suggests a potential for rate cuts later in the year.
The measure of inflation, known as the Personal Consumption Expenditure (PCE), see our guide on inflation and its measures, came in line with forecasts at 2.4 percent, marking a decline from December's rate of 2.6 percent. Market analysts interpret this as a favorable sign, supporting the anticipation of rate cuts from the current 23-year highs, likely around the middle of the year.
The month-on-month headline PCE rate for January increased to 0.3 percent, up from December but within expected levels. As a response, the S&P 500 rose by 0.3 percent, while the two-year Treasury yield, indicating market expectations for interest rates, decreased slightly.
Traders are currently anticipating between three and four interest rate cuts for this year. The headline PCE figure, measuring against the Fed's 2 percent target, reached its lowest point in nearly three years. This is a notable decline from its peak of 7.1 percent in June 2022, following geopolitical events such as Russia's invasion of Ukraine.
The core rate for PCE, excluding changes in food and energy prices, also matched expectations at 2.8 percent. However, the so-called supercore rate, which excludes changes in housing prices, increased by 0.6 percent, raising some concerns among economists.
It's important to note that the data from the Bureau of Economic Analysis (the PCE) differs from the U.S. Consumer Price Index (known as CPI), which showed a 3.1 percent increase in the year leading up to January. The Federal Reserve is cautious about lowering borrowing costs from the current levels of 5.25 percent to 5.5 percent until it is confident that inflationary pressures have sustainably returned to the 2 percent target.
Looking ahead, leading indicators for inflation, such as rent and used car prices, suggest a continuation of disinflation in the coming months. Analysts predict that PCE inflation will likely align with the Fed's target by June, prompting the Fed to consider initiating rate cuts.
Traders short grains after exceptional harvests
Commodity traders are increasingly betting on a decline in grain prices due to bumper harvests leading to an oversupply of corn, wheat, and soybeans worldwide.
According to the latest data from the US Commodity Futures Trading Commission, hedge funds and other speculators have amassed a net short position of 546,000 futures contracts across these three crops, the largest negative bet seen in nearly two decades.
The size of these bets has grown as prices have fallen, largely due to increased production in major agricultural producers such as Brazil, Russia, and the US. For instance, corn futures on the Chicago Mercantile Exchange dropped to $4.22 per bushel, and wheat fell below $5.72 per bushel, marking a significant decrease from highs of around $8 and $12 seen in May 2022. Soybeans also experienced a decline, dropping to $11.46 per bushel from over $17 in the same period.
In 2022, grain prices surged following Russia's invasion of Ukraine, a major grain exporter. The resulting hunger crisis in some regions and increased food costs in wealthier countries drove prices up. However, high prices incentivized grain farmers to expand their crop acreage. Brazil achieved a bumper crop of corn and soybeans, while Russia exported a record amount of wheat. Despite Russia's blockade of its Black Sea ports, Ukraine managed to continue shipping most of its crop.
As a result, grain and oilseed prices are now under pressure due to exporters dealing with massive harvests, which is expected to lead to lower prices for goods in supermarkets in the future.
While hedge funds are betting on falling prices, commercial players, who buy physical grain rather than just futures (which are agreements to buy or sell a specific amount of a commodity, or of any financial product, at a predetermined price on a future date), have increased their net long positions, indicating bets on rising prices, given the current low prices.