Morning comment: BoJ & Brexit

Chris Scicluna
Emily Nicol
Mantas Vanagas

Wall Street struggled for direction on Thursday, trading in a narrow range and eventually closing down just 0.1%. Credit spreads and Treasury yields were also largely unmoved, while the US dollar posted only a slight recovery from this week’s post-CPI losses. But after underperforming Wall Street of late, Asian equity markets have generally performed strongly today, led by markets in China. Indeed, the CSI300 rose 1.3% with investors perhaps taking heart from closing comments made by Premier Li Keqiang at the National People’s Congress. While ruling out flooding the economy with liquidity, Li said that there was room for tweaks that could lower funding costs for small and micro firms by 1ppt. In Japan the TOPIX rose 0.9% as the BoJ left policy settings unchanged, as was widely expected. While the BoJ downgraded its assessment of the recent performance of the global economy and Japan’s exports, the Bank’s medium-term outlook for the economy and inflation appeared little changed. While focus in the UK today will no doubt remain on Brexit, we will see the release of final inflation figures for February from the euro area, while several manufacturing-related releases are due from the US.

The main focus in Japan today was on the outcome of the BoJ Board’s two-day policy meeting. As it turns out there were no surprises with the key elements of the monetary policy framework predictably left unchanged. So, the -0.1% marginal interest rate on excess bank reserves was untouched, as was the commitment to purchase JGBs so that 10Y yields remain at around zero percent. And the BoJ again pledged to conduct its JGB purchases in ‘a flexible manner’ so that its holdings will increase at an annual pace of about ¥80tn, a little more than double the rate actually achieved last year. The usual two out of nine Board members – Kataoka and Harada – dissented from those decisions. By unanimous vote, the Board agreed to continue ETF and J-REIT purchases at an annual pace of ¥6tn and ¥90bn respectively.

As to be expected, most attention was on the post-meeting policy statement and Governor Kuroda’s press conference. While Japan’s economy was still described as “expanding moderately”, as expected the Bank acknowledged that exports and industrial production had both “shown some weakness recently”, having been affected by a slowdown overseas. Indeed, trading partner economies are now described as growing “moderately on the whole” rather than “firmly on the whole”. Domestically, the Bank noted that business investment had continued on an increasing trend, with corporate profits and sentiment staying at “favourable levels on the whole” Private consumption was still said to be “increasing moderately”, thanks to a steady improvement in employment and income. Labour market conditions continued to be described as tightening steadily and financial conditions continued to be described as highly accommodative. As regards prices, the Bank continued to characterise core CPI inflation (i.e. CPI ex fresh food) as in the 0.5%-1.0% range.

Looking ahead, optimistically, the Bank continues to expect that Japan’s economy will continue its moderate expansion, despite the present slowdown in overseas economies. While acknowledging the likelihood of some further weakness in exports “for the time being”, given the Bank’s outlook for overseas economies, exports are expected to resume a moderate uptrend. Therefore, with domestic demand still expected to remain on an uptrend, the output gap remaining positive and inflation expectations forecast to increase over time, the Bank continues to expect annual CPI inflation to increase toward the 2% target at some indeterminate date. And despite some controversial comments today by Finance Minister Aso that an excessive focus on achieving 2% inflation might be problematic, Kuroda insisted in his press conference that the Policy Board was indeed fully committed to achieving that target. Finally, as previously, the risks to the BoJ’s assessment to the outlook continue to be characterised as mainly external to Japan, including risks stemming from US macroeconomic policy, protectionist moves and Brexit. Uncertainties related to the scheduled consumption tax hike in October also remain on the Bank’s radar.

In other news, after we sent out yesterday’s morning note, the Cabinet Office released its Synthetic Consumption Index for January – the best available monthly indicator of private consumption spending. The report included some sizeable revisions to prior months, bringing the index into line with the downward revision to growth in private consumption that was contained in last week’s second release of the national accounts for Q4. The bottom line was not good news for Q1 – following a newly estimated 1.2%M/M slump in December, the Cabinet Office index pointed to only a modest 0.3%M/M recovery in spending in January. As a result, the level of spending in January remained 0.6% below the average level in Q4. Barring favourable revisions, this means that consumer spending will likely need to rise strongly in February if growth across Q1 is to stand much chance of being positive. 

As expected, the House of Commons voted yesterday evening for the Prime Minister's request for an extension of the Article 50 deadline at the EU summit on 21-22 March. While there was a landslide majority in favour of the request (412 votes to 202), the result once again shone light on the PM’s diminishing authority as more than half of all Conservative MPs – including seven Cabinet Ministers (including Brexit Secretary Barclay) – voted against, suggesting that many Government members are more interested in jockeying for position to succeed Theresa May than delivering a sound Brexit policy. 

Not least as EU leaders wish to avoid the damage of a no-deal Brexit – and also wish to avoid being blamed for such an outcome – we fully expect that extension to be granted next week. But while the Parliamentary motion called for the extension to be a one-off and last to end-June, the length of the extension to be agreed by the EU remains to be seen, and will be influenced by what happens when May brings her deal back to the House of Commons once again for a third meaningful vote (MV3), most likely next Tuesday. 

Despite the PM’s major setbacks in the first two meaningful votes, she will still hope that – with a ‘no deal’ Brexit effectively ruled out – 75 MPs will be willing to reverse their opposition and vote to secure the majority in favour of the deal. If so, next Thursday she would be able to request a short ‘technical extension’ simply to allow time for the necessary legislation to be adopted and thus facilitate a smooth Brexit at end-June. But if she is still unable to secure that majority, she might have to make do with a lengthier Article 50 extension, perhaps to end-2020.

May yesterday conceded that, if her deal has not found a majority in Parliament by the time of the Summit, the Government would establish a new process to work with MPs to consider alternative ways forward, perhaps via a series of indicative votes on a range of Brexit options. That could well mean that most Labour MPs from Leave-voting constituencies are unlikely to back the PM’s deal next week, being able to hold out hopes of achieving the softer form of Brexit advocated by their party’s leadership in due course.

By the same token, faced with increased risks of a softer Brexit or no Brexit at all, the Northern Irish DUP and some Brexiter Conservatives might now be persuaded to vote in favour of May’s deal next week, not least as the Attorney General Geoffrey Cox was reportedly offering them further legal assurances. But Cox’s new arguments – seemingly based on the Vienna Convention that provides scope for unilateral withdrawal from international treaties – would seem unlikely to strengthen the case for the Withdrawal Agreement, and instead appear merely to represent an excuse for those MPs finally to support the deal without a loss of face. Moreover, vehement opposition from a number of hardcore Conservative Brexiters in the ERG suggests that May will fail again to find a Parliamentary majority in favour of her deal. And while she will hope that the majority against will be small enough to allow for a fourth meaningful vote after the summit to get her deal over the line. But Parliamentary process might not allow for an MV4. And given the process of indicative votes being lined up for after the Summit, in practice there remains a full range of possible scenarios for the way forward for Brexit.

Euro area:
In the euro area, today will bring final inflation figures for February. Despite the upbeat revision to the French figures yesterday, a notable upwards revision to Italian inflation today would also be required to nudge the aggregate euro area number higher from the flash reading of 1.5%Y/Y, up from 1.4%Y/Y in January. Indeed, we would likely need to see the Italian CPI estimate upwardly revised by 0.3ppt to 1.5%Y/Y, resulting in a large, albeit not unprecedented, increase of 0.6ppt from the previous month. But despite the upwards shift in Germany’s core inflation in February, not least due to rounding, we anticipate the 0.1ppt drop in the euro area’s core CPI rate to 1.0%Y/Y to be confirmed too. Today will also see Finnish Central Bank Governor – and potential candidate to succeed Mario Draghi as ECB President – Olli Rehn speak at a conference in Helsinki on the economic outlook and monetary policy.

This morning’s car registration figures suggested that momentum in the European market for new cars recovered further last month. Total new car registrations in the euro area were still down by 1.5%Y/Y, but that represented a significant improvement from the 5.6%Y/Y drop in January and was the best reading since September, when market activity plummeted following the introduction of new car emission testing standards. From the major euro area member states, results from Spain were most disappointing, with registrations down by nearly 9%Y/Y. But encouragingly, Germany and France reported the first positive growth rates for six months – exceeding 2%Y/Y in both countries – while the Italian data were also consistent with improvement. And new car sales look set to provide a positive contribution to the euro area private consumption in Q1. Later today the ECB should publish equivalent data on a seasonally adjusted basis – they will provide more insights into how new car sales growth are evolving this quarter compared to last.

In the US, the week end with a number of top-tier releases including February’s industrial production data, which are expected to report growth of 0.4%M/M, almost fully reversing the decline in January. In contrast, manufacturing output is likely to have remained soft last month despite the sharp decline in January (-0.9%M/M). March’s Empire Manufacturing survey is also due alongside the preliminary University of Michigan’s consumer sentiment survey for the same month.

Today China reported home price data for 70 cities in February. According to Bloomberg’s calculations, the simple average price of new homes rose 0.5%M/M. While this was the smallest increase in 11 months, base effects meant that annual growth still picked up 0.3ppt to 11.1%Y/Y. Prices rose 0.3%M/M in 1st tier cities – led by a 1.1%M/M increase in Guangzhou – lifting annual growth to 4.1%Y/Y. Prices rose 0.6%M/M in 2nd-tier cities (11.5%Y/Y) and 0.5%M/M in 3rd-tier cities (11.5%Y/Y). Meanwhile the average price of existing homes across all 70 cities rose 0.3%M/M and 7.8%Y/Y.

New Zealand:
On a day in New Zealand dominated by appalling mass shooting in Christchurch, today brought an update on the performance of the manufacturing sector. The Business-NZ manufacturing PMI rose 0.7pt to 53.7 in February – little different to the average reading over the past 12 months. Within the detail, the production index rebounded 2.6pts to 53.9 while, after hitting a 13-month low last month, the new orders index increased 2.5pts to 54.7. Less positively, the employment index fell 1.2pts to an 8-month low of 50.8, suggesting an understandable degree of caution about the outlook.

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