Good morning. Financial markets are in an ebullient mood as investors bet the US and Iran will reach a peace deal in the coming weeks, allowing the Strait of Hormuz to reopen and relieving the supply shock battering global commodity flows. Although Washington and Tehran are still blockading global shipping and energy shortages are worsening by the day, mediators from Pakistan and the Gulf countries are reportedly working on an extension to last week’s ceasefire, which expires on Tuesday, and are moving closer to arranging another round of talks. North American equity indices are flirting with record highs, Treasury yields are inching lower, and measures of implied volatility are gradually reverting toward pre-war levels.
After fully unwinding its conflict-generated gains, the dollar is setting up for a ninth consecutive day of losses and ranges are narrowing across the currency markets amid a lack of directional conviction on trading floors. The euro is almost unmoved after the latest bloc-wide inflation numbers matched expectations, the British pound is trading sideways, and the Canadian dollar is inching higher in line with an easing in financial conditions. The Japanese yen is the lone outlier, climbing more than its peers after Finance Minister Satsuki Katayama said she and US Treasury Secretary Scott Bessent had spoken about foreign exchange issues, and that her government was prepared for “bold action”—code for currency intervention—if needed.
The war took a toll on US business sentiment last month. The Federal Reserve’s Beige Book, released yesterday, said “The conflict in the Middle East was cited as a major source of uncertainty that complicated decision-making around hiring, pricing, and capital investment, with many firms adopting a wait-and-see posture,” even as the economy remained on a modest growth trajectory. Energy and fuel costs rose sharply across all districts, driving higher freight and shipping costs and lifting prices across a range of products, while respondents also reported persistent signs of consumer financial strain—factors that suggest operating margins are coming under pressure.
But the world’s appetite for US assets remains strong. Although the March report is likely to show some rebalancing below the surface, Treasury Department data released yesterday showed $184.5 billion in net inflows from foreign investors, with the corporate sector drawing the bulk of the demand. Net of outgoing investment, America pulled in more than $1.5 trillion over the past twelve months, helping keep equity indices supported, corporate borrowing costs low, and term premia subdued, even as federal deficits swell.
This is not a recipe for stability in the global economy or financial system. As the IMF and other observers have warned in recent weeks, global trade remains badly lopsided, and capital-flow imbalances are creeping toward levels last seen in the run-up to the 2008 financial crisis. With America’s technology clusters and incredibly profligate federal government together sucking up a colossal share of the world’s savings, the country’s net international investment position—the gap between the foreign assets Americans own and the American assets foreigners own—now amounts to nearly -24% of global gross domestic product. For structural and psychological reasons, foreign countries are starving themselves of capital while building up huge and heavily concentrated exposures to the US economy. History would suggest that this won’t last forever, and that the vulnerabilities now being built up will eventually unwind in foreign exchange markets.
