BoJ, Fed and BoE meet this week

Chris Scicluna

Wall Street extends its soft September as bond yields move up ahead of this week’s FOMC meeting; stocks sink in Hong Kong and Australia; most other major Asian markets closed
The historical tendency for equity markets to underperform in September continued to play out on Friday. Indeed, the S&P500 fell a further 0.9% to its lowest close since mid-August, with volumes very heavy given the quadruple options and futures expiry. The decline occurred against the background of a sell-off in the Treasury market and a stronger greenback, with the 10Y yield rising a further 2bps to 1.36% as investors perhaps began to look ahead nervously to this week’s FOMC meeting.

While public holidays today saw the closure of markets in Japan, Mainland China, Taiwan and South Korea, it has nonetheless been an eventful start to the week. The focus has again been on the Hong Kong stock market, with the Hang Seng slumping more than 3% to a 14-month low and now around 9% below its mid-February peak. The source of the angst is ongoing worries about the broader implications of worsening developments at the beleaguered China Evergrande Group – its stock has plunged a further 15% today – and reports that more companies in the property sector might be prospective targets for Beijing’s regulators. Australia’s ASX200 has also had a weak session, closing down a further 2%, with resource stocks under particular pressure due to a further sharp decline in the price of iron ore (trading below $100mt in Singapore today). The poor start in Asia has fed back into US equity futures, with S&P minis presently down 0.9%. While the holiday in Japan meant no trading in US cash bonds, Treasury futures have firmed slightly today and so Aussie 10Y bonds are trading close to Friday’s levels.

BoJ meeting and flash PMIs the focus of a holiday-punctuated week in Japan
Public holidays have abbreviated this week’s Japanese economic diary, with the market closed today for Respect for the Aged Day and again on Thursday for Autumnal Equinox Day. Between the two holidays, the only diary entry of note is the two-day BoJ Board meeting, which concludes on Wednesday. While activity in the current quarter has continued to be constrained by the delta virus outbreak, the Board will likely to retain an optimistic view on the economic outlook amidst accelerated progress in the vaccination programme. So, while there is no prospect of the Bank achieving its inflation target in the foreseeable future, we share the strong consensus view that the Board will once again leave all of its main policy settings unchanged, including retaining its short-term policy rate at -0.1% and the 10Y JGB yield target at 0%.

On the data front, this week’s only significant economic reports will be released on Friday. Most interest will probably centre on the flash PMIs for September, with a particular focus on the services PMI following its decline to a 15-month low of 42.9 in August. Given the findings of the advance CPI for the Tokyo area, the national CPI for August is likely to remain close to the previous month’s reading of -0.3%Y/Y, weighed down by the steep decline in mobile phone call charges back that occurred in April. Given a fall in fresh food prices, the BoJ’s forecast measure of core inflation (which excludes fresh food) will likely print a little firmer than the headline inflation rate. However, the BoJ’s preferred measure of core inflation – which excludes both fresh food and energy prices – will likely print a little weaker than headline inflation, with the latter boosted by the rebound in energy prices. Aside from the BoJ and economic data, local politics will also remain in focus given the upcoming LDP presidential election and the subsequent Lower House election a month or so later.

Focus on BoE monetary announcements, although policy likely to remain on hold as power price spike set to push inflation higher but GDP growth lower
The main event in the UK will be the BoE’s monetary policy announcements on Thursday. This week’s meeting will be the first to feature new external member Catherine Mann and Chief Economist Huw Pill. The reaction function of Mann appears to be dovish. But Pill’s reaction function is more difficult to discern. While his published work has emphasised the need to protect the independence of the BoE from pressures associated with large-scale bond purchases and the risk of fiscal dominance, his views on the appropriate monetary stance at the present juncture are not clear.

Of course, this week’s meeting will take place against the backdrop of the recent leap in inflation. While both headline and core CPI rates jumped in August to multi-year highs above 3%Y/Y, the BoE should not be surprised. After all, the largest contributor to the rise was the base effect associated with last year’s hospitality subsidies and VAT cut. And certain other pressures, not least related to used car prices, seem bound to be transitory. The BoE’s most recent projection, which foresaw inflation rising slightly above 4.0%Y/Y in Q421 and Q122, remains broadly credible, although developments in the wholesale power markets seem likely to push that peak higher still. But that projection also suggested that UK inflation was likely to fall back close to the 2.0%Y/Y by the end of the forecast period. And the majority on the MPC will continue to expect inflation to fall back in due course, even if it remains higher for longer than previously expected. However, given those developments in energy markets, and supply shortages widespread causing production difficulties and empty supermarket shelves, vacancies up to a record high, as well as hints of rising wage settlements, the MPC seems highly likely to flag that the risks to the inflation outlook are skewed to the upside.

At the same time, however, economic recovery momentum appears to have been levelling off over the summer. UK GDP growth slowed to 0.1%M/M, and Friday’s August retail sales release reported the longest unbroken losing streak on the series. Over the near term, there are notable additional downside risks to demand too. In particular, the ending of the furlough scheme this month seems likely to trigger a jump in unemployment, while cuts to the main universal benefit payment will significantly reduce incomes for 6 million people from early October. At the same time, pressures on power prices and possible power cuts to come, among other supply challenges, seem likely to weigh on production and spending alike. So, the BoE’s near-term GDP forecast now looks overoptimistic and the minutes of this meeting might well acknowledge that.

What does that all mean for policy? We certainly expect the majority on the MPC to continue to emphasise that there remain two-sided risks around the path for inflation in the medium term. Moreover, with risk management considerations also still pertinent, just as early in the last decade when inflation jumped above 5%Y/Y and remained above target for four years, the MPC will not tighten policy precipitously in response to supply-driven price pressures that it suspects have a good chance of being temporary. But while we still do not expect the BoE to raise rates for several quarters to come, we acknowledge that the decision on QE is more finely balanced. If the MPC judges that the risks to the inflation have become more significantly skewed to the upside since the August meeting, and that the need for a rate hike next year has increased, we acknowledge that a majority could vote to end the net Gilt purchases when the stock reaches £850bn. However, beyond providing a signal with respect to possible tightening next year, the impact of such a modest tightening of policy would likely be negligible. And, on balance, we doubt that a majority in favour of such a move will be found, particularly when the downside risks to GDP have undeniably increased. So, we expect the QE Gilt purchase target to be left at £875bn this week.

UK sentiment surveys likely to flag ongoing supply constraints
Turning to the UK data releases, sentiment surveys for September will include the preliminary PMIs on Thursday. These should remain consistent with relatively positive economic growth momentum this month, albeit with some further levelling off in business optimism. In particular, the composite PMI is expected to have slipped back from the 54.8 reading in August to a seven-month low, with supply bottlenecks continuing to weigh especially on activity in the manufacturing sector. Ahead of this, the CBI will publish its industrial trends survey tomorrow. Meanwhile, the CBI’s distributive trades and GfK consumer confidence surveys on Friday might point to a further moderation in retail sales growth at the end of the third quarter. Ahead of the Autumn Budget and Spending Review (27 October), tomorrow’s release of public sector finance figures for August will be closely watched for any room for near-term fiscal giveaways.

Euro area flash PMIs to point to slowing recovery momentum
Today’s most notable euro area data have already been released with German producer price inflation surprising on the upside once again. The headline PPI rate jumped 1.6ppts to 12.0%Y/Y (versus the Bloomberg median forecast of 11.1%Y/Y), the highest since the first OPEC shock in 1974. On the month, prices rose 1.5%M/M, the second highest rise this cycle. The main cause of the further jump in producer price inflation was energy (up 3.6ppts to a new high of 24.0%Y/Y), in particular driven by pressures in natural gas prices. Intermediate goods inflation remained strong too, rising 1.5ppts to 17.1%Y/Y. But while still less acute, pressures appeared to pick up in capital goods (up 0.6ppt to 2.4%Y/Y) and consumer items (durable consumer goods inflation rose 0.6ppt to 2.8%Y/Y and the rate for non-durables rose 0.3ppt to 2.1%Y/Y).

While events in European power markets will obviously remain closely watched this week, the main data focus will be the latest round of sentiment surveys, which are expected to reveal that, whilst confidence remains relatively high in September, there has been a further loss of momentum as supply constraints continue to curb the recovery. This will likely be evident in the preliminary PMIs – to be published on Thursday – from the euro area, Germany and France. While the flash euro area services activity PMI is expected to have moved broadly sideways, benefitting from the decline in the spread of the delta variant, the manufacturing PMI is expected to have fallen further as the sector continues to be impacted by supply bottlenecks. Overall, the euro area composite output PMI is expected to ease back slightly from the still-elevated reading of 59.0 recorded in August. The back end of the week also sees the release of national sentiment indicators from the largest member states, including the French INSEE business survey on Thursday, and Germany’s Ifo business survey and Italy’s ISTAT manufacturing and consumer confidence indicators on Friday. Ahead of this, the calendar will also bring the European Commission’s preliminary consumer confidence indicator (on Wednesday), which is expected to have moved sideways (at -5.3) having fallen in the previous two months, to leave it still some way above the average since the start of the pandemic (-12.1).

Fed likely to indicate that it remains on cause for QE taper this year; a light data flow includes housing indicators and the flash PMI
The key focus in the US this week will, of course, be the outcome of the Fed’s two-day FOMC meeting, which concludes on Wednesday. For investors, one key point of interest will be updated guidance on the likely timing of a start to the tapering of the Fed’s asset purchases. Another point of interest will be the Fed’s updated Summary of Economic Projections, to see what these imply about the timing of an eventual subsequent lift in the Fed’s policy rate. Writing in his latest weekly, Daiwa America’s Mike Moran notes that the Fed could easily justify backing away from its assessment that it might be appropriate to begin the taper this year, perhaps citing rising virus case numbers and recent soft payrolls and CPI readings. However, Mike expects the Fed to stick with its previous guidance, with record job vacancies and last week’s strong retail sales report suggesting that the recovery remains on track. Regarding the medium-term outlook, investors will be interested to see whether there has been any chance in the seven of 18 officials that predicted a first lift in the target federal funds rate as soon as next year (the median participant forecast a first hike in 2023). Mike argues that while one or two participants might bring their predicted first rate hike forward, it is most likely that 2023 will remain the year of ‘lift-off’ for the median participant. Meanwhile, the Fed’s economic projections are likely to report slightly weaker GDP growth this year than envisaged in June, but a about a 1ppt lift in the forecast of core inflation to circa 4%Y/Y.

Turning to the economic data flow, a light week begins today with the NAHB housing survey for September, followed tomorrow by the release of housing starts and permits data for August. While he expects some softening of single unit starts in light of lower new home sales and rising inventories, Mike expects a continuation of the recent positive trend in multi-unit starts to leave overall starts little changed. The focus on housing will continue on Wednesday with the release of existing home sales data for August, which Mike also expects will have changed little from July. Thursday features the release of the flash Markit PMIs for September and the Conference Board’s leading index for August. The week will conclude on Friday with the release of new home sales data for August, which Mike thinks will exhibit the approximate stability expected in this week’s other housing indicators.

A very quiet week ahead in China, at least as far as economic data is concerned
In Mainland China were markets closed today for the Mid-Autumn Festival holiday, which also continues tomorrow. When markets re-open on Wednesday, the PBoC will announce the 1Y and 5Y prime loan rates for the coming month, which provide the benchmark rates for mortgage and corporate lending. With the PBoC retaining the 1Y MLF rate at 2.95% last week, unsurprisingly Bloomberg’s survey indicates a strong expectation that the prime rates will remain at 3.85% and 4.65% respectively for a 17th consecutive month.

A quiet week ahead in Australia, with local markets likely paying more attention to the Fed
There were no economic releases in Australia today and the remainder of this week’s diary is very unlikely to drive local markets, which instead will take their direction from how US markets respond to this week’s FOMC meeting. Tomorrow will bring the release of the minutes from this month’s RBA Board meeting, but these are unlikely to provide any additional insight beyond what was communicated in last week’s speech by Governor Lowe. The only data this week is tomorrow’s weekly ANZ-Roy Morgan consumer confidence reading and Friday’s flash PMI readings for September (the latter perhaps rebounding modestly from their steep August decline).

Kiwi service sector PMI slumps in August as lockdown weighs; consumer sentiment and trade data still ahead this week
The only data release in New Zealand today was the BNZ-Business NZ services PMI for August. Mimicking the slump in last week’s manufacturing PMI, the headline index plunged 20.3pts to an 18-month low of 35.6, with the activity/sales index down an even sharper 35.2pts to just 25.8 – not a surprising result with all but essential businesses closed for at least part of the period (depending on their location). The new orders index all fell a steep 27.2pts to 32.8. However, as with the manufacturing survey, the resilience of the employment index offered some comfort, falling a comparatively modest 5.6pts to 49.2. With regions outside of Auckland no longer subject to the strict lockdown, and the Government announcing a slight easing of restrictions in Auckland from midnight tomorrow, some improvement in the survey is likely next month.

Looking ahead to the remainder of the week, tomorrow the quarterly Westpac survey will doubtless show a decline in consumer confidence due to the virus outbreak. The only other domestic economic report scheduled this week is Friday’s merchandise trade report for August. Ahead of next month’s RBNZ policy review, there will also be some interest in the release tomorrow of the notes from a speech by Assistant Governor Hawkesby titled “A Least Regrets Approach to Uncertainty” (the speech was meant to be delivered to a now postponed conference).

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