Fed leaves policy settings and economic view unchanged

Emily Nicol

Fed leaves policy settings and economic view unchanged; little clarity still on timing of QE taper plans, but indications that MBS and Treasury taper will occur simultaneously
The key focus during yesterday’s US session was the Fed’s FOMC policy announcement, followed by Chair Powell’s post-meeting press conference. As expected, the Committee held the target fed funds rate at 0-¼%. And after last month’s modest technical adjustment, the interest rate on banks’ required and excess reserves was held steady at 0.15%. The FOMC did approve a new standing repo facility that will automatically inject reserves into the banking system by allowing primary dealers to borrow from the Fed at their discretion via a repurchase agreement. However, this programme is irrelevant at this time given that there are more-than-ample reserves in the banking system.

As far as the post-meeting statement was concerned, there were only three material changes from the missive delivered in June. The first change was a nod to the recent increase in domestic coronavirus cases, with the Fed removing previous text referring to the reduced spread of the virus in the US. The second change was to wording concerning sectors most impacted by the pandemic. Unlike in June, these sectors were no longer described as weak, but the statement did note that these sectors had not fully recovered. The third change was to reflect the beginning of QE taper discussions. Specifically, the Committee added a sentence acknowledging that the economy had made progress towards its employment and inflation goals since it laid out its current asset purchase plan last December, and stated that it will continue to assess progress in coming meetings.

Unsurprisingly, during the post-meeting press conference, reporters sought greater clarity on the Committee’s most recent tapering discussion. Powell indicated that that the Committee took a “deep dive” into the timing, pace, and composition of changes in the programme, but said that officials made no decisions. When pressed, Powell again declined to define what constitutes “substantial further progress” toward the goals of maximum employment and stable prices and so offered no insight on the potential timing of the taper. He noted again that the standard of “substantial further progress” had not been met and that there was still “ground to cover”, especially on the labour market side. As to whether the tapering of MBS purchases might begin sooner than the tapering of Treasury purchases – especially in light of the sharp rise in home prices over the past year – Powell indicated that early tapering of MBS did not receive broad support among Fed officials. He indicated that he believed tapering on MBS and Treasuries would start simultaneously, but left the door open to the possibility of a faster tapering of MBS.

The remainder of the press conference covered familiar ground. Importantly, the post-meeting statement and Powell’s comments at the press conference showed no change in the Fed’s view on inflation. Recent price pressure has been more pronounced than expected – and Powell indicated that the near-term risk was probably also to the upside – but the pressure is still viewed as transitory. He sees the possibility of pressure persisting for some time, but expressed some confidence that it will eventually fade as supply-side adjustments allow production to catch up with the burst of demand.

US markets unmoved by the Fed; China leads Asian equities higher today
With the Fed providing no major surprises, the US trading session was characterised by little volatility. Going into the Fed’s announcement, the S&P500 had been tracking sideways and it subsequently closed little changed. Similarly, in the bond market the 10Y note closed the session unchanged at 1.24. In the FX markets, the greenback did weaken a little after the Fed’s announcement and has fallen a little further during Asian time. There has been little reaction to reports that the Senate has the votes required to advance the latest bipartisan attempt at an infrastructure proposal, with S&P mini futures just fractionally stronger as we write (Nasdaq futures are a little weaker, with Facebook stock declining in extending trading due to some concerns about its earnings guidance).

Turning to today’s Asia-Pacific markets, the focus today has been on the latest developments in China. After falling precipitously at the beginning of the week, stocks have rebounded for a second day in Chinese markets following reports that regulators are taking steps to reassure investors that in future the impact on markets will be considered when new regulatory policies are introduced. So as we write, the Hang Seng is up over 2½% today while the CSI300 is up around 2%.

The rebound in Chinese markets has underpinned modest gains elsewhere in the Asia-Pacific region. In Japan, where investors are awaiting tomorrow’s deluge of monthly activity indicators, the TOPIX has increased 0.4%, even with Tokyo reporting a record 3,177 new coronavirus cases over the past day. Stocks have increased a little more than ½% in Singapore and by ¼% in South Korea, where new virus cases fell to 1,674 from a record high of almost 1,900 the previous day. In Australia, where the ABS confirmed that export prices had surged to a record high in Q2, the ASX200 has increased 0.5% but bond yields are little changed. In virus news, New South Wales reported a record 239 new virus cases over the past day, leading the Premier to announce new restrictions (mask-wearing outside the home will be compulsory in eight Sydney ‘hotspot’ areas, and other than in exceptional circumstances residents will not be permitted to move more than 5kms from their homes).

European Commission indicators expected to point to solid business confidence, but a moderation in consumer sentiment
Following last week’s upbeat flash PMIs and various national surveys this week – including softer German business and French consumer indices – today concludes with the European Commission’s (EC) business and consumer surveys. The headline euro area economic sentiment index is expected to rise for the sixth consecutive month in July, by ½pt – to 118 – the highest level since May 2000. Within the detail, industrial confidence is forecast to move broadly sideways from June’s record high of 12.7, while services sentiment is expected to rise 1.4pts to 19.3, which would be the highest since April 2007. In contrast, probably due to the spread of the delta variant, the EC’s consumer confidence indicator is highly likely to align with the preliminary estimate, which dropped 1pt to -4.4, a level nevertheless only beaten once in the past three years. While selling price expectations of manufacturers are likely to remain extremely high by historical standards, consumer price expectations are likely to remain well contained.

Flash German and Spanish inflation set to jump
Nevertheless, the flash German and Spanish consumer price inflation numbers for July, the first from the large member states, will report further notable increases. The EU-harmonised measure of German inflation is expected to rise 0.8ppt to 2.9%Y/Y – the highest since September 2008 – not least due to base effects associated with the temporary VAT cut last year. Indeed, figures from North Rhine Westphalia published earlier this morning showed that inflation jumped 1.6ppts to 4.1%Y/Y. Spanish HICP inflation is forecast to rise 0.4ppt to 2.9%Y/Y, which would be the highest since February 2017. Meanwhile, Germany’s unemployment rate is expected to edge down 0.1ppt in July to 5.8%, which would be the lowest since March 2020.

ECB account might shed some light on unresolved issues
Beyond the economic data, today also sees the publication of the account of the ECB’s special policy meeting of 7-8 July when the Governing Council agreed its strategic policy review conclusions. All decisions, including the setting of a symmetric 2% inflation target, were unanimous. But the account might shine light on the debate on issues that are still unresolved, including the purpose and effectiveness of the asset purchases and likely PEPP pace into the autumn and beyond.

UK car production in June at second-weakest since 1953; bank lending figures due later today
Figures published by the SMMT this morning emphasised the severely dampening effect supply bottlenecks continue to have on car production. In particular, UK auto factories produced just 69k units in June, admittedly up 22% from the Covid-hit outturn a year ago, but representing the second-worst June since 1953. And coming on the back of a challenging first six months of the year, with the renewed pandemic, global chip shortage and Brexit taking their toll, this left car production during H121 down by one quarter from the same period in 2019 and down my more than 40% compared with the comparative average between 2015 and 2018. Manufacturers also expressed concerns about staff shortages due to self-isolation associated with the so-called ‘pingdemic’. And with supply issues expected to continue to last into 2022, the outlook for car manufacturers looks set to remain challenging, with one study forecasting that planned production for 2021 could be reduced by as much as 100,000 units.

Later this morning will bring the BoE’s consumer credit and mortgage lending figures for June, with the latter expected to have been boosted by the rush to complete purchases ahead of the end of the government’s stamp duty relief last month.

Advance Q2 GDP report the highlight of today’s US economic diary; another huge day for corporate reporting too
With the Fed out of the way, attention in the US today will focus on the latest economic data and corporate reporting. As far as the former is concerned, the highlight today will be the advance GDP report for Q2. While yesterday’s advance trade reported pointed to a wider deficit in June than expected, Daiwa America’s Mike Moran does not expect this to have a pronounced impact on his earlier estimate that GDP likely advanced a very solid 8.0%AR. While net exports may make a modest negative contribution to growth – following very large negative contributions over the previous three quarters – he expects the report to point to strong growth in consumption and a moderate advance in business capex. Residential construction and perhaps inventories will weigh on growth, however. Aside from the GDP report, today’s other key releases are the pending home sales report for June and the weekly jobless claims report. Meanwhile, another huge day for corporate reporting will include earnings updates from the likes of Amazon, Merck and Mastercard.

Australian export prices surge to new record high in Q1, imports prices slightly firmer
Following on from yesterday’s CPI report, today the ABS released its International Trade Prices Indexes report for Q2. Driven by particularly sharp increases for metal ores and energy products, the export price index surged by a further 13.2%Q/Q to a record high, with prices also up 26.0%Y/Y. By contrast, despite sharply higher prices for imported petroleum, fertilisers and metals, overall import prices increased a relatively subdued 1.9%Q/Q in Q2 and so were still down 2.5%Y/Y – a result that implies another huge lift in Australia’s terms of trade – and thus national income – during the quarter.

Kiwi business activity expectations ease a little in July; firms’ year-ahead inflation expectation soars to a 9-year high
The ANZ’s Business Outlook Survey for July pointed to a slight easing of general business confidence and near-term activity expectations, possibly reflecting a combination of virus developments in Australia and growing expectations that the RBNZ will tighten domestic monetary policy settings before long. Most importantly, the activity outlook index – which has the best correlation with GDP growth – fell to 26.3 in July from 31.6 in June, bringing it almost down to its long-term average. Firms’ investment intentions also eased from the four-year high reported in June, but employment intentions increased to a new four-year and both series remain well above average levels – an indication of the pressure on spare capacity in the economy. Indeed, the number of firms reporting an intention to raise their prices was only fractionally below the all-time high reported last month and firms’ one-year-ahead forecast for inflation increases a further 0.29ppt to 2.70% – the highest reading since April 2012.

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