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EFTA01158320 | EFTA01158322 Eye on the Market I JP Morgan February 23. 2011 Topics: Events in the Middle East Developments in the Middle East coincide with visible improvements in the US economy The outlook for profits, employment, capital and consumer spending, home sales and bank lending continue to improve. How serious a dent might $100+ oil put in the recovery? A lot depends on what happens to U.S. interest rates. A "free money" policy (when short term interest rates are below the rate of inflation) can offset a lot of pain from higher oil prices. But how long should the Fed continue with this approach? It is already being blamed for setting in motion a regressive chain of events which raise both financial asset and commodity prices, eventually reaching the life of a street vendor in Tunisia's. The first chart below compares the stock prices of Kohl's, JC Penney and Macy's to Tiffany's, Coach and LVMH. As a crude progress report on US monetary stimulus; it is a complicated picture. Employment needs to show up faster than inflation does. The prior Eye on the Market scanned for inflationary pressures around the world, and found a fews. Most commentary we read suggests that since core inflation and wages are not rising, the coast is clear. Perhaps. i've included a chart of what inflation and wages were doing in 1993, at the onset of the Fed's major monetary tightening campaign. If this is what you were looking at back then, you were blindsided pretty badly. Currently, Fed Funds futures markets are pricing in the probability that the Fed does not raise rates this year and only raises them to 1.5% by December 2012. We think there's a risk it will sneak up on the Fed more quickly than this, and have prepared portfolios for a rockier ride than 2009 or 2010. Average hourly earnings and core CPI leading up to 1994 US monetary policy report card Fed tightening cycle, Percent YoY Equal-weighted index, January 2005 .100 4.0% 240 220 Tiffany, Coach and LVMH 200 3.5% 180 160 140 3.0% 120 100 80 2.5% 60 40 20 Jan-05 Jan-06 Source: Bloomberg. Jan-07 Jan.08 Jan'09 Jan-10 Jan-11 20T Jun-92 Sep-92 Dec-92 Mar-93 Jun-93 Sep -93 Dec-93 Mar-94 Source: Bureau of Labor Statistics. Michael Cembalest Chief Investment Officer More from Bernard Lewis. When I pushed Bernard for optimism regarding the political process in the Middle East, he offered this. Before WWII, many countries in the Middle East enjoyed more tolerant and open-minded governments. During the Vichy period of the Second World War and during the subsequent Cold War, Germany and Russia successively exported their own forms of dictatorship into the region. So it is not inconceivable that over time, regimes based on greater direct representation re-emerge in the region. This would not be unprecedented; transitions of post-war Japan and Germany are two remarkable examples which took place over years rather than decades. In recent notes, we have also highlighted Indonesia, which after decades of clan-based leadership, pursued constitutional reforms in 1999 which led to the first freely elected national, provincial, and regional parliaments in forty years. The material contained herein is intended as a general market commentary. Opinions expressed herein are those ofMichael Cembalest and may differfrom those ofother J.P. Morgan employees and affiliates. This information in no way constitutes J.P. Morgan research and should not be treated as such. Further. the views expressedherein may differfrom that contained in J.P. Morgan research ITIAWIS. The above summarylprices/quozesIstatistics have been obtainedfrom sources deemed to be reliable. but we do not guarantee their accuracy or completeness, any yield referenced is indicative and subject to change. 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O 2011 JPMorgan Chase & Co 4 In good company with the Fed as contributors to higher food prices: zero rate policies of many developing economy central banks; abnormally terrible weather (see EoTM January 24, 2011); biofuel policies; financial flows into agricultural commodities. 5 In Europe. recent readings for manufacturing and service sector input and output prices are at their highest levels in a decade. 3 EFTA01158322
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