MacroScope

David Levy says he is bullish on the U.S. economy long term. But for now, the country is effectively stuck in a “contained depression,” the chairman of the Jerome Levy Forecasting Center told Reuters during a recent visit to our Washington bureau.

Still, things could have been much worse, says the third generation economist. For Levy, the interventions of a large and proactive federal government prevented a repeat of the 1930s.

In this corrective process, the reason we haven’t had a collapse in profits as we had in the Great Depression is we have – what nobody seems to like very much – a big government that’s stabilizing it by just simply running these deficits and being a much more active lender of last resort.

We have the institutions to protect our financial system. As much as we have a lot of people upset about the deficit, and there are some long term issues that need to be tackled, I see this deficit right now as something that was going to happen no matter what mix of taxes and spending we had because the private economy would weaken until we basically pumped out enough to support (it).

We’re in an overall period of contained depression here which means expansions are going to be very heavily dependent – entirely dependent – on government deficit spending. […]

Currency analysts are divided over whether U.S. criticism of Japan’s forex policy will change Tokyo’s currency stance. While some say it could raise the hurdle for further Japanese intervention, others think it might not have much impact. Rob Ryan, FX strategist at BNP Paribas in Singapore says the effect will be limited given uncertainty about the Japanese economy’s outlook and current levels of dollar/yen and cross/yen pairs.

“I think if they (Japanese authorities) feel they have to intervene, they will intervene,” Ryan says, adding that a dollar drop down to the “low 76s” might be enough to prompt further action from Japan.

The U.S. Treasury Department said in its semi-annual report on international exchange rate policies issued on Tuesday that the U.S. did not support Japan’s recent bouts of solo FX intervention, adding that they took place when volatility in dollar/yen was relatively low. USD/JPY was currently trading at Y77.98, not too far from a record low of Y75.311 hit on Oct. 31, when Japan conducted massive yen-selling intervention.

Five things to think about this week:

HOLDING UP -- FOR NOW 
- A good run in equities has so far been helped rather than hindered by U.S. company results. Some are questioning how long the upward momentum can be sustained given cost-cutting rather than improved revenue streams flattered profit margins. The European earnings season, which cranks up a gear this week, and the release of U.S. Q2 GDP data could be potential triggers for a pullback, but the sensitivity to bad news may depend on how much money is chasing the latest push higher. 
    

EARNINGS 
- European earnings flooding out in the coming weeks may paint a less rosy picture of the banking sector than seen on the other side of the Atlantic. While investment and trading activities should be supportive, bad loan provisions will be particularly closely scrutinised, as will the central and eastern Europe exposure of the likes of Erste. The supply/demand outlook for key commodities plans will also be in the limelight given the battery of oil and chemical firms reporting in Europe and the U.S. 

CORRELATIONS 
- There are signs of some breakdown in the lockstep moves that financial markets had become accustomed to seeing in FX/stocks or stocks/bonds. Calyon research shows correlation between the bank's proprietary risk aversion barometer and exchange rates has been less robust in the past month. While this correlation nevertheless remains stronger than that between FX and interest rate differentials, the markets' thoughts are turning to new linkages that might prove better trading guides.