Beyond the Respite

Last week’s dataflow has been kind to the global bond market. With US core inflation easing more than expected in December, what seemed like an inexorable march towards a 5% 10-year yield has stalled in the`US, while in the UK the combination of a better inflation print with another weak monthly reading for GDP helped strengthen the expected capacity of the Bank of England to cut decisively in 2025, with some diffusion effects to the long-end of the curve. While this coincides with our baseline for the UK, we remain suspicious of the magnitude of the disinflation trajectory ahead of us in the US, even if we need to hear more precise signals from the new US administration to fully quantify the resistance line.

In this more benign market environment, and precisely as we wait for the first pronouncements from the 47th President of the US, we can pay attention to seemingly arcane macroeconomic issues which we think are relevant for the medium-term outlook for the world economy. First, we draw on an intriguing paper by Michael Pettis who argues that unilateral tariffs could be an acceptable current account rebalancing tool for the US, with the logical conclusion that the other regions – Europe and China – which present a structural, excessive current account surplus should not retaliate. While we think Pettis has a point, we also believe that he does not pay enough attention to the adverse long-term effects of tariffs, including in the US. Yet, we concur with the view that, in demand-deficit regions, retaliation, while tactically tempting, is not optimal.

This may be different in the case of the trade relationship between two surplus regions, and we also explore a paper by Setser and Tortoir proposing a roadmap for Germany towards a more muscular approach to Chinese competition. They take the precaution of laying out solutions which would still be consistent with the WTO rules. In the context of elections in Germany next month this is an interesting contribution.