Global daily insight 15 november 2016

Daily Insight

Group Economics Macro & Financial Markets Research

15 November 2016

Trump and European political risk Government bonds: Yields surge and European political risk premiums rise Macro & Financial Markets Research Team

The global government bond sell off continued with a vengeance on Monday. Since the US

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election, US 10y and 30y Treasury yields are up by 40bp, while 2y Treasury yields are up by

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20bp. Given the likely fiscal stimulus, financial markets are factoring in more Fed rate hikes

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next year, but the biggest factor explaining the Treasury sell off has been a sharp rise in inflation expectations. Hence the US yield curve has steepened. Meanwhile, German government bond yields have also risen since the elections, in the slipstream of the US market, but by less. The 10y Bund yield is up 20bp, reflecting the view that the reflationary effects on the eurozone economy will be more modest (apart from a lower euro it is difficult to see any underlying inflationary pressure in the eurozone). It seems likely that US yields will rise further, and that the bottom has been reached for government bond yields globally.

Finally, the increased perceived political risk in Europe has seen country yield spreads over Germany rising. Italian 10y bond yields are up by 45bp since the elections and more than 115bp over the last three months, the biggest yield rise in the eurozone. (Nick Kounis)

Euro Macro: Opinion polls point to rising populism and euro-scepticism Investor perception of rising European political risk likely reflects the view that the forces of populism may also be stronger on this side of the Atlantic. This may have two aspects. The first is that the rise in anti-establishment (and Eurosceptic) parties in the polls may even understate the true rise, as it did in the case of Brexit and the US presidential elections.

Second those spectacular results may empower people to become politically active and vote, leading to stronger outcomes for those parties. Coming up there is a referendum on constitutional reform in Italy and Austrian presidential elections (4 December). Both of those could trigger new elections where euro sceptic parties are riding high in the polls. For instance, in Austria the FPO party has a significant lead over the governing SPO party. In Italy, the Five Star Movement is still not far off Prime Minister Renzi’s governing party. This looks to be the most significant near-term European political risk (see also below). Looking further ahead, the Netherlands (March 2017) and France (June 2017) are also facing elections where anti-establishment Eurosceptic parties have been gaining momentum. In neither case do those parties look likely to form the next government given the respective political systems in each country (proportional representation in the Netherlands and the second round run-off in the French Presidential elections). Though the recent surprise outcomes in the US and UK provide a warning that you can never say never. (Nick Kounis)

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Daily Insight - Trump and European political risk – 15 November 2016

Italy Macro: Renzi signals he may go on referendum no vote According to reports in the press during the weekend, Italian Prime Minister Matteo Renzi seems to have changed his mind again, suggesting that he would step down in case of a ‘no’ vote in the constitutional referendum on 4 December. Meanwhile, opinion polls about the referendum have shown a small yet steady lead of the ‘no’-camp since summer, although around a third of the participants still are undecided. In case Mr Renzi were to step down, either early elections will be held or a care-taker government will be formed. New elections are not due until 2018. Polls for the next national elections show that Mr Renzi’s Democratic Party is neck and neck with the Eurosceptic anti-establishment Five Star Movement. Therefore, we think it is most likely that Mr Renzi’s party will stay in power until 2018 and appoint a care-taker prime minister in the meantime, hoping that the situation has turned for the better by then. Nevertheless, the risk of a more negative scenario is clearly large. For instance, if Mr Renzi does step down and it does lead to new elections, the Five Star Movement could win. Furthermore, it has signalled it would hold a referendum on Italy’s future in the euro. Such a scenario would risk a re-escalation of the euro crisis and even higher Italian (and other peripheral and semi-core) country spreads. (Aline Schuiling)

US Macro: Trump’s nomination choices suggest more conservative policies Since the elections President-elect Trump has been taking a more conservative and cautious stance not only on his policies, but also in his choice to turn to Republican Party veterans with experience to launch his administration. Mr. Trump’s transition team will be run by Mike Pence, who will oversee the majority of the jobs to be filled in Mr Trump’s administration. Mr. Pence belongs to the orthodox conservative fraction of the Republican Party. He is a free trader who has travelled to China to court investment. Meanwhile Rolf Lundberg, a former US Chamber lobbyist has been put in charge of the transition trade policy. Moreover, Mr. Trump’s choice of Republican National Committee Chairman Reince Priebus for White House Chief of Staff and his choice of Steve Bannon as Chief strategist and Senior Counsellor, show that he wants advisers with very different political strategies to advise him. Meanwhile, on economic policy, Mr Trump and Mr. Pence favour supply-side economics. Both have drawn on a wide-range of conservative figures, who have championed lower taxes and less regulation to pull together the economic platform during the campaign. This includes Peter Navarro of the University of California, who has been a critic of US trade policy and Steven Mnuchin, a former Goldman Sachs banker, which could be a pick for US Treasury Secretary. It is still unclear though who will finally be appointed in Mr. Trump’s administration, but the names that have been mentioned have contributed to easing concerns about the President-elect’s more radical ideas during the campaign.

(Maritza Cabezas)

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Daily Insight - Trump and European political risk – 15 November 2016

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Daily Insight - Trump and European political risk – 15 November 2016