ECB to deploy all available tools?

Emily Nicol
Chris Scicluna

With President Trump responding to the coronavirus by banning travel between the US and certain European countries, and confusion persisting in terms of the US fiscal response to the crisis, investor confidence has withered even further. So, the global stock rout continues, while major government bonds struggle to know which way to turn, and oil prices have fallen back once again (Brent crude now back below $35bbl).

Indeed, after yesterday’s dire showing on Wall Street (S&P500 closed down 4.9%), futures point to further steep losses today. Asian-Pacific stock markets were hammered again too. The TOPIX fell 4.1% as the yen appreciated back through 104/$ and a government business survey added to evidence of a further steep decline in GDP this quarter. And Australia’s ASX tanked more than 7% despite the government’s confirmation of its plans for a fiscal stimulus package worth roughly 1% of GDP. European stocks have inevitably fallen sharply on opening: the bear market in the Europe Stoxx 600 has intensified, falling about 5% to its lowest level since June 2016.

In bond markets, USTs reversed yesterday’s late losses in Asian time (10Y yields currently down about 10bps to around 0.77%). But JGB yields edged higher (10Y yields up 1bp to about -0.065%) amid continued uncertainty as to what the BoJ might announce next week. Government data also revealed a record amount of foreign bond purchases by Japanese investors (about 10 times last year’s weekly average) last week. And ahead of the ECB’s policy announcement – which should be the day’s main event and needs to bring a substantive easing package – core euro govvies have followed USTs higher this morning while BTPs have reversed most of yesterday’s gains.

Euro area:
After the Fed’s action last week and yesterday’s emergency BoE policy announcement, it would be extraordinary if the ECB stuck its head in the sand and failed to act aggressively today. Certainly, investor sentiment would take another kicking. Thankfully, reports yesterday suggested that Christine Lagarde will be arguing for substantive easing. And, as in September, while some members will resist, a package of measures seems likely to be on the table.

With Italy in lockdown and the number of deaths continuing to rise steadily, the virus spreading rapidly across Spain, France and other member states, the oil price having crashed, and the euro close to its strongest levels in trade-weighted terms for a decade, the outlook for both GDP and inflation have deteriorated sharply, underscoring the case for further monetary easing. Indeed, deep recession is looking increasingly likely and inflation could well fall off a cliff. So, at a minimum, we should expect the Governing Council to provide a meaningful rate cut on the TLTROs and/or a new lending facility with a lower interest rate to support lending to SMEs. But more substantive action looks to be in order.

A cut of at least 10bps in the deposit rate to -0.60% or below, offset by an increase in the tiering ratio to ease the impact on the banks, would seem likely. Likewise, an increase in corporate bond purchases should be agreed. And a decision to increase the issue and issuer limits on the ECB’s public sector asset purchases as a precursor to a possible future in buying of such securities might also be in order.

For the record, in terms of economic data, this morning will bring euro area industrial production figures for January. With output having jumped in four of the five largest member states (Germany +3.0%M/M, France +1.2%, Italy +3.7%M/M, Spain +0.2%M/M, Netherlands +3.1%M/M), the euro area figures are likely to report production growth of more than 2%M/M in January, reversing the decline seen in December but nevertheless leaving output still lower on a three-month basis and also lower compared with a year ago. In the markets, Italy will sell 7Y, 10Y and 20Y bonds.

Today’s MoF/Cabinet Office Business Outlook Survey – often a good guide to the tone of the more comprehensive and closely-watched BoJ Tankan survey (due 1 April) – was predictably downbeat about business conditions in Q1 as the coronavirus pandemic hit foreign and domestic demand alike. And unsurprisingly, on balance, firms remained pessimistic about the outlook ahead too.

Amongst large firms, a net 10.1% of respondents judged business conditions to have worsened in Q1 (a drop of almost 4ppts from Q4 when demand was whacked by October’s consumption tax hike). The survey reported significant deterioration in the manufacturing (a net 17.2% signalled weaker conditions) and non-manufacturing sectors alike – a net 17.2% and 6.6% reported weakening conditions respectively, the most since the 2011 quake. Small- and medium-sized firms were unsurprisingly even more downbeat. While businesses were somewhat less gloomy about the outlook, on balance, they continued to anticipate a further deterioration in conditions in Q2. And only large and medium-sized firms projected a return to a modestly positive net balance for economic conditions in Q3 – a position that seems bound to change for the worse should the Tokyo Olympics in July be postponed.

Against this backdrop, firms were once again less upbeat about their expected sales in the current fiscal year (down 0.5ppt to -0.5%Y/Y), forecasting the first annual decline for three years. However, they were a touch less pessimistic about their projected profits, albeit still forecasting a drop of almost 6%Y/Y overall and a near-10%Y/Y decline in manufacturing. Against this backdrop, firms’ capex projections were downwardly revised significantly, with firms estimating that spending on plant and machinery and software was up 3%Y/Y in FY19, less than half the forecast three months ago. While firms were somewhat more upbeat about their sales and profits outlook in FY20 (forecasting growth of 1.0%Y/Y and 2.1%Y/Y respectively), they will likely become less sanguine the longer the coronavirus impacts economic activity.

With respect to inflation, today’s goods PPI release further illustrated the growing disinflationary pressures down the pipeline. In particular, producer prices fell a steeper-than-expected 0.4%M/M in February to leave the annual rate moderating 0.7ppt to 0.8%Y/Y, a three-month low. When excluding the consumption tax, the headline PPI rate fell to of -0.8%Y/Y. Within the detail, the weakness last month predictably reflected energy – prices of petroleum and coal products fell 4.8%M/M to leave the annual rate at just 1.6%Y/Y, down from 9.0%Y/Y previously. So, with raw and intermediate material costs having weakened, producer prices of final consumer goods also fell back in February, down 0.8%Y/Y. While supply constraints might well push prices of some intermediate goods higher over the near term, against the backdrop of weaker demand, the recent yen appreciation and the subsequent oil price crash, underlying inflationary pressures will continue to weaken.

The Australian government today announced an economic support package, nominally worth A$17.6bn, including a mix of measures geared at supporting SMEs and households that has been common in the policy responses to the crisis in other major economies. In particular, new measures worth A$3.9bn, including accelerated depreciation allowances for the coming fifteen months, aim to support business investment over the short term. SMEs will benefit from cash-flow assistance (A$6.7bn) with a further A$1.3bn allocated to subsidise wages for apprentices. Extra cash has also been allocated to help the tourism sector, which has taken a big hit from the coronavirus. And the government will also provide one-off cash payments to welfare recipients and lower-income households (around half of which will be pensioners), with almost 90% of payments expected to be made by mid-April. Overall, the Treasury suggests that Q2 GDP growth could be boosted by 1.5ppt from the measures. That looks a heroic assumption to us. And despite the RBA’s recent monetary easing (and likelihood of further policy action next month), Australia’s economy remains at risk of technical recession, which would be the first for almost thirty years.

After yesterday’s spurt of policymaking – with the 50bps rate cut and credit easing measures from the BoE followed by confirmation of the government’s stimulus measures – today should be quiet for UK economic news. Data wise, however, the latest RICS survey added to evidence that, before the coronavirus hit Europe, the UK’s housing market was enjoying something of a renaissance. In particular, the survey’s headline price index rose 11pts in February to a net balance of +29%, suggesting the strongest price growth in almost six years. And prices were reportedly rising across the UK, with London among those regions showing the greatest vigour. The survey also reported a significant increase in buyer enquiries and new selling instructions, and significant optimism about the sales and price outlook for the remainder of the year. Of course, until the coronavirus recedes, however, those hopes will now be dashed and activity in the market seems likely to shrivel.

The usual weekly jobless claims data from the US will be closely watched today for signs of a sudden hit to the labour market from the coronavirus. Only modest increases in initial and continuing claims are expected, however. Meanwhile, like in Japan, today will bring US PPI figures for February, which are likely to flag a notable weakening in pipeline pressures on the back of weaker oil prices. The Fed’s flow of funds figures for Q4 are also due. In the markets, the Treasury will sell 30Y bonds. 

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