In a historic shift, Germany broke free of fiscal shackles last week to announce a €500bn infrastructure package and uncapped military spending exempt from the debt brake. In the US, Trump walked back on Mexico/Canada tariffs yet again and US data continues to be on the soft side.
MEGA – Make Europe Great Again
In a historic shift, Germany broke free of fiscal shackles last week to announce a €500bn infrastructure package and uncapped military spending exempt from the debt brake. The EU simultaneously announced a €800bn package, 150bn via EU loans and 650bn by EU member states to be spent on rearming Europe. The EU fiscal rules will be changed, such that member states can raise spending without violating them and avoid excessive deficit procedures. The growth multiplier from military spending is likely low, but infrastructure spending in Germany, as well as in other member states, will likely lift European growth. Germany’s announcement led to a historic selloff in Bunds, as yields rose almost 50 basis points last week, 30 basis points alone on Wednesday. The ECB lowered rates by 25 basis points to 2.5% as expected but embedded a hawkish shift pointing to rates being “meaningfully less restrictive” as they approach the neutral rate of approx. 2%. It’s too early for the ECB to incorporate any of the fiscal plans (the German plan still needs to pass parliament), but in the medium term the shift in fiscal policy is likely to floor ECB rates around neutral. However, in the near-term the ECB may continue cutting as Trump tariffs near and the European economy is still in a slump.
Tariff Ping-Pong – Pullback sows confusion
Trump walked back on Mexico/Canada tariffs yet again, after markets took a hit amid growth hit fears. The S&P500 fell 1.8% on Thursday after tariffs came into effect last Tuesday, prompting Trump to exempt all goods under the US/Mex/Can trade agreement (USMCA) from levies. The exemption is valid until April 2nd, pushing out the date again and keeping markets in limbo. The back and forth suggests Trump does care about markets and the S&P, and is not willing to take a growth hit in the economy. Regardless, the record-high trade policy uncertainty already weighs on confidence and is likely to slow US growth.
US macro – Soft patch
US data continues to be on the soft side. In February, non-farm payrolls have been 151k, on the low side of recent moving average. The unemployment rate is back above 4%, and underemployment is now close to 8%, a weak level. Job cuts provide evidence that recent contractionary policy from US administration starts having some impact. As economic uncertainty is rising and leading indicators on new orders and employment is weakening too, we think markets are likely to continue pricing some macro deterioration as a result of the new administration policy. 2y US rates are now 3.9%, the lowest level since October, pointing to some chances the Fed will be forced into deeper cuts.
Algebris Investments’ Global Credit Team
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