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Economy in Brief

EMU Sinks on New Flash PMI Readings
by Robert Brusca  September 21, 2018

EMU PMIs soar then sink
The EMU PMI sank to its cyclical low in mid-2016 then hit its cycle higher in 2018 as it ran up 5.9 points to its cycle high. In September 2018, the index has fallen back shedding 4.4 points from its peak and losing most of the gain it has amassed during its run-up. From January 1994, the overall EMU PMI gauge stands in the 38th percentile of its high-low range of values and has a queue standing of 63%. The 'queue standing' places the current observation in an ordered queue of readings since January 2014 expressing the current position in that queue as a percentile standing. From that position, we can say that the EMU reading for September has been higher 37% of the time over that period. Its current standing leaves it above its period median but only in a mild position of strength (the queue median occurs at the 50th percentile standing). Moreover, the sequential averages show that the EMU composite index has been gradually slipping. Its 54.2 flash standing is also below its three-month average of actual readings. EMU manufacturing has fallen particularly hard and has only a 54.4 percentile queue standing at the moment. Its sequential easing is clear. But the services gauge has a 71.9 percentile standing, on firmer ground, and while it too is weakening. However, sequentially it firms over three months compared to six months and its September reading shows improvement over August. The slowdown is clearly led by manufacturing just as the speed-up in the PMIs was led by manufacturing.

Germany
Germany shows a sharp schism in its profile. Manufacturing has a below-median 47th percentile standing in September while the service sector reading has a 94.7 percentile standing. This is much greater manufacturing-services divergence than in France or in the EMU as a whole. However, Germany is a special case. Germany is an extremely competitive economy in Europe and its manufacturing PMI diffusion reading, despite it having the weakest standing among France, the EMU and Germany, also has the strongest raw diffusion reading for manufacturing among those same jurisdictions. In some sense, manufacturing in Germany is still doing quite well, but it is not doing well by German standards. As a counter weight, the German services sector shows that it strengthened in three months compared to six months and posts a three-month average equal to its 12-month average with a September reading that surpasses all those readings. In fact, the German services sector was last stronger in January 2018 and has only been stronger than its current reading on two occasions since January 2014.

France
At a diffusion value of 53.6 in September, France logs its weakest reading since December 2016. France had a long period of convalescence in the wake of the Great Recession. The date 'December 2016' is a watershed of sorts. The French PMI is weaker than all observations since then and stronger than all observations before then. Before 2017 the French PMI averaged 50.5; afterward it has averaged 56.4. Those are pretty stark differences. In the earlier period, France logged 13 monthly contractions out of the span of 36 months. Now France is back at that watershed value and what is next for it? Can it avoid a return to the down side it experienced the last time it was in this range?

French manufacturing and services both are giving way unlike Germany which has a goods/services tug of war in progress. France is simply weakening across all fronts. French manufacturing is about two points weaker in September than its 12-month average and French services are just slightly short of that same result. French manufacturing and services both have weakened month-to-month and their September values each are below their respective three-month averages. So there is no telling about the downside as France is slipping again.

Japan
Japan's string of manufacturing readings shows a pick-up in September over August and a profile of nearly flat readings at a level of 52 for three-month, six-month and 12-month averages. Basically, Japan seems flat, nearly dead in the water according to its manufacturing gauge. Japan's own METI sector indexes echo this result with decidedly mid-stream rankings or worse for all the sectors. Japan's LEI also points to weakness ahead. And for Japan, this is an issue as the BOJ is widely perceived to be looking for a way out of its negative rate and zero-ten year note yield policy peg. But a weaker economy will not be a backbone for an exit strategy.

The United States
The U.S. position shows a weakening in the overall PMI metric. Services weaken sharply in September to a standing in their 21st queue percentile- a very weak level. Manufacturing in the U.S. is tipped to have improved slightly on the month and has a much sturdier 78th percentile queue standing. However, the Markit data are not gospel on the US as the US favors ISM reports that have a much longer history. The Markit and ISM surveys diverge significantly. The ISM is for manufacturing and nonmanufacturing (a treatment combining services and construction) has shown a much stronger nonmanufacturing sector in the U.S.

Summing up the PMIs
On balance, the PMIs record ongoing sluggishness or encroaching weakness with manufacturing, the sector of world trade, leading the way lower. The services sector may provide some buffer to this weakness, but based on this month's results that is not entirely clear- only Germany really fits that profile- but so does the U.S. if we look back to last month's ISM nonmanufacturing reading.

An environment gone amok
The news on the trade front continues to be grim. Theresa May's grand plan has been rejected by the EU and now both sides are talking of the risk of a hard Brexit, a sharp change from the rhetoric of the past week.

Within Europe there is a mini Italian budget crisis in the making as domestic Italian forces cannot agree on a budget; some want to violate Maastricht rules and go for fiscal stimulus.

Beyond Europe, the U.S. placed more tariffs on China this past week. China retaliated and also responded by breaking U.S. sanctions against buying from Russia by purchasing Russian jets. The U.S. responded by putting sanctions on China on top of tariffs. This angered China – but what did they expect? China is trying hard to win the PR game and has announced that it would cut tariffs on a range of goods, but has not yet clarified if the cuts would apply to the U.S. or not.

In Japan, Mr. Abe won a new term and he has a summit with Mr, Trump next week. With his political future on sealed, Japan is probably due for some of that famous Trump pressure on its trade practices.

India and Pakistan that just had announced talks, today called them off.

Turkey turned down the notion that moderate opposition would be excluded from the Idlib buffer zone. That zone remains a work in progress.

And so it goes.

Cross 'fertilization'
The trade and geopolitical climates poison one another. Russia is now claiming that U.S. sanctions are a U.S. ploy to exclude Russia from the international arms market- wouldn't that be a pity? I suppose if you are Russian and poisoning agents in the U.K., seizing Crimea, destabilizing Ukraine, shooting down civilian planes and denying it, supporting a regime in Syria that uses banned weapons and are busy interfering in other countries' elections, it seems like the world is picking on you (?). Except that actions do have consequences. This is a key pillar of Trump's 'America First' policy. Which replaces the American turn-the-other-cheek policy... and has taken the world by surprise- and shock.

The Trump Tango
International trade data speak for themselves. The pattern of trade - the persistence of trade imbalances - makes it clear that this is not Free Trade. Imbalances do not heal themselves as they are supposed to do. The U.S. has a pattern of unrelenting trade and current account deficits since the early 1980s. The WTO clearly has been a poor custodian of trade if it has been its job to preserve an environment in which Free Trae would flourish. It has failed to do that. But since everyone else LIKES the resulting arrangement and enjoys the exploitation of the U.S. market, when this arrangement is challenged by the U.S. it is the U.S. that is creating trouble. But what policies have these other countries been pursuing for the past 40 years and longer? Have exchange rates been free to float or have they been manipulated? What about trade barriers- tariffs and nontariff barriers? What has been the role of the massive 'foreign exchange reserve build up?

The U.S. has been a leader in lowering barriers and it conducted a long 'experiment' in what I would call unilateral Free Trade. The U.S. ran a policy of Free Trade regardless of what others did and only wound up exploited for it. Putting an end to that practice is no vice. Mr. Trump may not be likeable to many, but that does not make him or his positions on Free Trade wrong. Imposing such a net of tariffs on China to try to get an equitable resolution to these issues is extreme, but left to its own devices, China simply was not moving at all. Ask the U.K. what it is like to bargain with people who won't budge their position, think they are right, and won't admit their own flaws. It may take two to tango, but you can't dance with yourself without looking very foolish.

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