ECB’s updated policy guidance should be relatively dovish

Chris Scicluna
Emily Nicol

Asian equity markets firmer today following a further rebound on Wall Street; bond yields also lift after USTs recover Monday’s drop; improved risk sentiment weighs on the dollar and yen
The worries expressed on Wall Street at the beginning of the week continued to evaporate yesterday. Amidst a flow of corporate earnings reports that mostly beat expectations the S&P500 rebounded a further 0.8% to close in on last week’s record high. In contrast to the previous day’s recovery, the rebound in sentiment flowed materially through to the bond market, with the 10YUST closing up 7bps at 1.29%, thus erasing the large decline seen back on Monday. The improvement in risk sentiment was also evident in the FX market, with the dollar and yen both losing support. And with commodities – especially oil – enjoying a solid rebound, commodity-linked currencies such as the AUD and NZD led the gains.

Since the close US equity futures have firmed up 10-20bps further and 10Y UST yields are a couple of bps lower. Against that background, while markets were closed in Japan today for a public holiday, other bourses in Asia have firmed today. After three consecutive down days, a 1.6% rebound in Hong Kong has led the market higher, while the KOSPI has broken a four-day losing streak with a gain of around 1%. While stocks have also advanced more than 1% in Singapore, the gains in Mainland China have been much more modest with the CSI300 little better than flat for the session.

In Australia, the ASX200 has advanced 1.0%, led by a rally in energy and materials stocks, with the ABS reporting another record merchandise trade surplus in June and the NAB’s quarterly business survey confirming a very upbeat business outlook, at least prior to the latest virus outbreak (more on these reports below). AGCB yields have also increased but, with new virus case numbers hitting a new high in both New South Wales and Victoria over the past 24 hours, Aussie bonds have outperformed their UST counterparts with the 10Y AGCB now trading 9bps below the 10Y UST – the most since November last year, when the market was mulling the possibility that the RBA might take the cash rate below zero.

Updated ECB policy guidance and economic assessment should be dovish as delta variant spreads
The main focus today will be on the conclusion of the ECB meeting, where the Governing Council will adjust its forward guidance to take account of its recent strategic policy review conclusions including the 2% symmetric inflation target. Unlike the agreement on the strategic review, the new policy guidance will not need to be unanimous, so the majority will not need to make too many concessions to the minority hawks. On balance, therefore, we expect a dovish statement from a policy perspective, with the additional possibility that the Governing Council will shift its assessment of the balance of risks to the downside in light of the intensifying spread of the delta variant.

In terms of the immediate path of policy, nevertheless, we expect the Governing Council to leave to the September meeting – when it will receive updated forecasts – the decision as to whether to maintain the PEPP purchases at a significantly higher pace than at the start of the year. However, with inflation still not expected to return to target before 2024, and concerns about the spread of the delta variant, we expect the new guidance to underscore the need for policy to be both “forceful” and “persistent” over the horizon. The Governing Council might state that the key ECB interest rates are expected to remain at their present or lower levels until it has seen the inflation outlook robustly converge to 2% within its projection horizon. And it might add guidance on the expected timeframe for that expectation, e.g. signalling the likelihood of no rate hikes before 2023 at the earliest.

While the Governing Council will also likely reaffirm that net PEPP purchases are expected to be maintained until at least the end of March 2022 and until it judges that the coronavirus crisis phase is over, it might also possibly add new guidance as to the nature of the net purchases to be conducted once the PEPP has concluded. A signal that the post-pandemic purchases would retain the flexibility of the PEPP to allow for mitigation of fragmentation risks would clearly benefit periphery bonds.

French business confidence softens only slightly despite spread of delta variant
Ahead of tomorrow’s flash PMIs for July, this morning’s French business confidence survey suggested that sentiment has softened only very slightly and remains strong by historical standards despite the recent rapid spread of the delta variant, which yesterday saw the authorities announce more than 20k new coronavirus cases in the previous 24 hours. In particular, the headline survey business climate index dropped just 1pt to 113, well above the long-run average of 100. In the manufacturing sector, the headline climate index rose a further 2pts to a three-year high of 110 boosted by assessments of order books and future production expectations. However, the share of firms in the sector reporting problems with supply chains rose to the highest since 2000 with producers of machinery and equipment joining car manufacturers as particularly affected. Meanwhile, the headline confidence index for retail trade fell 1pt on lower expected sales but it too remained very high at 115. And despite a similar softening in expected future demand, the services index was unchanged at 112, well above the long-run average.

Nevertheless, the spread of delta and associated imposition of new selected restrictions – and heated political debates over vaccine passports, masks, etc, – might well weigh a little more heavily on consumer confidence in the euro area, as might the severe flooding in Germany, Austria and the Low Countries over recent weeks too. So, we think that this afternoon’s flash European Commission consumer confidence index will fall short of the expected rise to a two-decade high.

Speech by BoE’s Broadbent to give a guide to the balance of views on the MPC, with CBI industrial survey to set the tone for tomorrow’s flash manufacturing PMIs
Following the recent hawkish comments from MPC members Saunders and Ramsden, but dovish comments from fellow member Haskel and nominee Mann (who will join in September), focus this morning will turn to BoE Deputy Governor Broadbent’s speech on the inflation outlook to gauge the balance of views on the Committee. In addition, today’s CBI industrial trends survey is expected to show that, against the backdrop of the intensifying pandemic in the UK, with supply bottlenecks and labour shortages binding for many firms, manufacturing optimism slipped back slightly in the three months to July, albeit from an elevated level.

US dataflow resumes with existing home sales, leading index and Kansas Fed manufacturing survey; jobless claims also due, along with a number of corporate earnings reports
Following the surprising firm housing starts data released earlier this week, today’s Daiwa America’s Mike Moran expects the existing home sales report for June to also be robust. He is picking a 3.4%M/M rebound in in sales. – albeit leaving them well shy of last year’s highs – on the back of the already-published rebound in pending home sales in May. Today will also bring the release of the Conference Board’s leading index for June – likely posting another sizeable increase – and the Kansas Fed’s manufacturing data for July. As well as the weekly jobless claims report, the corporate reporting season will step up a gear with around 30 major companies scheduled to share their results, including Intel, Twitter and AT&T.

A record trade surplus in Australia in June
Today the ABS released preliminary merchandise trade figures for June (the final time that preliminary data will be released). In unadjusted terms (no seasonally-adjusted data are released), total exports increased a strong 8%M/M, leading annual growth to an impressive 33%Y/Y. Growth was driven by significant increases in metalliferous ores, coal, non-monetary gold, and gas. Indeed, metalliferous ores – mostly iron ore – now account for half of Australia’s monthly exports, with growth continuing to be driven by demand from China. Coming off a smaller base, imports also increased 8%M/M in June and so were up 21%Y/Y. The increase was led by a sharp increase in imports of petroleum – now back at pre-pandemic levels – as well as chunky increases in imports of road vehicles, transport equipment and specialised machinery. Overall imports of consumption goods increased 4%M/M and 20%Y/Y. These preliminary figures indicate an unadjusted record merchandise trade surplus of A$13.3bn in June – only slightly larger than last month but A$5.5bn larger than in the same month a year earlier.

Australia’s quarterly NAB business survey points to improved business conditions, expectations of further improvement – at least before the latest virus outbreak
In other Aussie news, today also saw the release of the quarterly edition of the NAB business survey for Q2, which provides additional detail – including regarding firms’ near-term expectations – not found in the monthly survey. At the outset it is worth noting that the survey period was 18 May to 10 June, so the survey only partially captured the previous lockdown in Victoria and of course does not capture the current wider lockdown at all. With that important caveat, predictably, the survey pointed to strong economic outcomes in Q3 and beyond. As indicated by the improvement in monthly survey, the current business conditions index increased 15pts to a record 32 in Q2, with firms indicating that they expected conditions to remain at least as good over the over coming 12 months.

Importantly, the survey also pointed to a further strengthening of expectations for future employment and capex, with the 12-month month outlook for the former increasing to a record high. This reflects a 2.7ppst increase in the rate of capacity utilisation to a record high 85.0%. Perhaps not surprisingly, such a high rate of capacity utilisation is contributing to upward pressure on costs and selling prices. Firms reported a 1.2%Q/Q lift in labour costs during Q2 – albeit likely at least partially reflecting employment gains – while final product prices increased 0.6%Q/Q, marking the largest increase reported since 2008.

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