ECB to open the door to a modest slowing of asset purchases in Q4?

Chris Scicluna

Wall Street steady and UST yields up slightly even as payrolls disappoint; Japanese stocks continue to make new highs, leading a generally positive start to the week in Asia
While a 235k lift in non-farm payrolls in August was almost 500k shy of the consensus estimate, the S&P500 closed virtually unchanged on Friday in quiet pre-Labor Day weekend trade. And while the disappointing result – likely due to disruptions caused by growing virus cases and ongoing supply-chain problems – means that the Fed will likely delay a formal QE taper announcement until after this month’s FOMC meeting, the 10Y Treasury yield still ended the session 3bps higher at 1.32% following a short-lived spike lower. That bond yields finished higher and the curve steeper likely reflected other details of the report, which were firmer than the headline payrolls figure. For example, the household survey measure of employment increased more than 500k, and so the unemployment rate fell 0.2ppt to 5.2% just as the market had expected. In addition, a 0.6%M/M lift in average hourly earnings was double the consensus estimate and lifted annual growth to a sturdy 4.3%Y/Y. Later in the morning, a very solid reading on the ISM services index – albeit down 2.4pts to 61.7 – also pointed to an economy with good momentum, even if not quite as strong as at the beginning to the quarter.

Against that background, Japan’s equity market has continued to rally in the wake of Friday’s news that PM Suga would not seek to retain his leadership at this month’s impending LDP presidential election. After gaining 1.6% on Friday, the TOPIX has advanced a further 1.3% today to extend its winning streak to six sessions. Of course, the favourable trend also coincides with a downtrend in local virus cases as Japan’s accelerated vaccine rollout continues to play catch-up with the rates achieved in the likes of the UK and the US. With no economic data today, the focus for Japanese investors remained on the race to succeed Suga. While Fumio Kishida is perhaps still the front runner, polls by the Nikkei and Kyodo news agencies confirmed Taro Kono’s greater popularity with the general public. Meanwhile, the Nikkei reported that former communications minister Sanae Takaichi will enter the race this week and thus seek to be Japan’s first female PM, apparently with the notable support of former PM, Shinzo Abe.

Outside of Japan, Chinese stocks have also made a very strong start to the week with the CSI300 almost 2% to the highest level since mid-August. While Hong Kong has also made solid gains, stocks have increased only modestly in Singapore and have weakened slightly in Taiwan. Meanwhile, Australia’s ASX200 was little changed, as coronavirus case numbers remained elevated in New South Wales and increased in Victoria (the latter announcing an income-tested rent-relief package to help people who have lost more than 20% of their income as a result of the pandemic). Ahead of tomorrow’s RBA Board meeting, AGCB yields moved higher nonetheless as they tracked Friday’s lift in UST yields. The Kiwi 10Y bond yield also continued its upward trend, increasing to a more than two-year high as new virus cases in New Zealand remained at just 20 for a third consecutive day and the Government announced that restrictions outside of Auckland would ease further from midnight tomorrow, allowing public venues to reopen.

July spending and income data of most interest in Japan this week, together with the Economy Watchers survey for August; small upward revision to Q2 GDP also expected
As was the case last week, following a quiet Monday for economic data, most of the action in Japan this week will take place over the next two days. Tomorrow the release of the BoJ’s Consumption Activity Index and the MIC’s household spending survey will cast light on whether the surprising resilience of consumer spending in Q2 continued early in the current quarter. In addition, the MHLW’s Monthly Labour Survey will provide its take on developments in employment and labour incomes in July following last week’s surprisingly robust household survey. The Cabinet Office will also release the preliminary readings of its business indicator report for July. On Wednesday, our colleagues in Tokyo expect the Cabinet Office to lift its estimate of Q2 GDP growth by 0.1ppts to 0.4%Q/Q – also the consensus expectation – with stronger investment spending and a less negative contribution from inventories expected to drive the revision. Perhaps more importantly, Wednesday will also bring the release of the Economy Watchers Survey for August, which is likely to look somewhat softer in line with that month’s PMI readings (especially as regards the services sector). News on bank lending and corporate bankruptcies in August will also be of interest, while current account data for July will be released. On Thursday, the BoJ will release broad money growth data for August and the JMTBA will release preliminary machine tool orders data for August, thus ending this week’s data. Of course, aside from the economic data, the other major focus for investors in Japan this week will be the early jockeying to replace PM Suga as LDP President and thus PM.

August international trade and inflation reports ahead in China this week; credit data perhaps too
As in Japan, it was a quiet start to the week in China today with no economic data for investors to digest. Looking ahead, most interest will probably centre on tomorrow’s international trade report for August, to see whether last week’s much softer than expected PMI readings mainly reflects developments in domestic demand due to the late July virus outbreak and associated curbs on activity. Bloomberg’s survey indicates that the consensus expects only a modest slowing of growth in both exports and imports, with the former expected to have declined 2.1ppts to 17.1%Y/Y and the latter just 1.1ppts to 27.0%Y/Y (both measured in US dollar terms). Once the trade data is out of the way, Thursday’s CPI and PPI readings for August are the next diary entry of note. Here, the consensus expects annual inflation to have remained at 1.0%Y/Y and 9.0%Y/Y respectively, with the latter still boosted by the past year’s strong lift in commodity prices. Finally, late in the week – possibly over the weekend – we may also see the release of the money and credit aggregates for August, which are expected to point to a significant lift following surprisingly subdued credit creation in July.

ECB to open the door to a modest slowing of asset purchases in Q4?
This week’s main event will be Thursday’s announcements from the ECB following its latest monetary policy meeting. The Governing Council will receive updated economic projections. And based on those, coupled with an assessment of financial conditions, it will indicate the expected pace of PEPP purchases over the coming quarter. Last month’s Reuters interview with ECB Chief Economist Lane suggests, however, that we will not learn anything conclusive about the pace and nature of asset purchases beyond the end of this year.

With respect to the ECB’s economic projections, the outlook for GDP might be little changed from June, when growth of 4.6%, 4.7% and 2.1% was forecast in 2021, ‘22 and ‘23 respectively. While the growth outturn for Q2 of 2.0%Q/Q was 0.6ppt stronger than the ECB had expected three months ago, more intense supply bottlenecks, softer growth in demand from abroad and the spread of the Delta variant might all suggest that growth in the second half of the year will be a little softer than it previously thought. The forecast will still, however, suggest that the pre-Covid peak in GDP will be reached around the turn of the year. And confidence in the growth outlook further ahead should be bolstered by further good progress with vaccinations, with more than 70% of adults in the EU now having received two jabs. Of course, given recent outturns, the projection for inflation this year (1.9%) will be revised up above the ECB’s 2.0% target. But as there remain no signs of significant second-round effects on wages or expectations, the inflation projections for both 2022 and ‘23 (1.5% and 1.4% respectively) should be little changed. And so, in light of the ECB’s rate guidance, the inflation outlook will still be incompatible with rate hikes over the horizon.

The aim of the PEPP purchases, however, is to “maintain favourable financing conditions” throughout the pandemic. And with market interest rates currently lower than in June when the pace of purchases for Q3 was agreed, and less sovereign bond issuance to come than over recent quarters, there appears scope for a modest slowing in the pace of PEPP purchases in the coming quarter from the average rate between €75-80bn per month conducted throughout Q2 and so far in Q3. So not to risk a marked correction in periphery bonds, however, the Governing Council might wish also to commit to maintaining net purchases no lower than the rate close to €60bn per month conducted in Q1. So, the extent of any slowing in purchases, if at all, will likely be very modest indeed.

German factory orders data beat expectations; German IP and trade data to come this week along with updated euro area national accounts for Q2
The week’s euro area dataflow got underway this morning with German factory orders figures for July, which surprised significantly on the upside. The chunky increase of 3.4%M/M followed upwardly revised growth of 4.6%M/M – the best in eleven months – in June to take German manufacturing orders 15.7% above the pre-Covid level of February 2020 and also above the previous series high reached in December 2017. With the increase in July explained entirely by major orders, however, we should expect payback in August. Within the detail, domestic orders fell 2.5%M/M in July but foreign orders leapt 8.0%M/M despite a drop of 4.1%M/M in new orders from elsewhere within the euro area. Indeed, new orders from beyond the euro area rose a whopping 15.7%M/M thanks to those aforementioned major orders, which came not least from the shipbuilding sector. Indeed, those orders contributed to growth of 5.4%M/M in capital goods orders, while new orders for consumer goods jumped 7.5%M/M, with both categories reaching series highs. Orders for intermediate goods, however, fell 0.5%M/M.

Separately, this morning’s German data also reported a rise of 1.9%M/M in manufacturing turnover in July to suggest strongly that tomorrow’s IP data will report a return to growth following the drop of 1.3%M/M in June. Reflecting the significant ongoing mismatch between supply and demand, however, turnover was still down 4.6%M/M from the pre-pandemic level of February 2020. More July data from the euro area’s manufacturing sector will be forthcoming this week, with German and French goods trade numbers due on Thursday and Wednesday respectively, and French, Italian and Spanish IP data all out on Friday.

Among other data from the euro area due this week, today will also bring the August construction PMIs for the euro area and various member states, as well as the euro area Sentix survey for September. The similar German ZEW survey is due tomorrow along with tomorrow’s updated GDP figures for Q2, which will likely confirm the bounce back recorded in the initial estimate with growth of 2.0%Q/Q, 13.6%Y/Y. The expenditure breakdown, to be published for the first time, will show that household expenditure was the main driver as Covid restrictions were gradually eased. Fixed investment is also likely to have provided a positive contribution, while net trade remained a modest drag. Tomorrow will also bring revised employment numbers for Q2, which are expected to confirm that the increase (0.5%Q/Q, 760k) was underpinned by jobs growth in the services sector. German labour costs and French payrolls figures for Q2 are due on Wednesday.

Friday’s July GDP figures to garner most attention in the UK this week
In the UK, the most notable new data will be Friday’s release of July’s monthly GDP estimate, along with the production and trade figures for that month too. With final Covid restrictions having relaxed on 18 July, we expect to see another month of solid growth in the services sector. And construction output seems likely to rebound following three months of declines. But given persistent supply challenges – as well as the decision by some manufacturers (especially in the auto sub-sector) to bring forward their usual summer shutdown maintenance period to alleviate difficulties caused by staff shortages due to the so-called ‘pingdemic’ – production in the manufacturing sector is likely to have remained subdued. Overall, we expect GDP growth in July to be only slightly softer than the 1.0%M/M increase recorded in June, to leave output just 1½% lower than the pre-pandemic level. Beyond the GDP and associated data, the calendar will get underway on today with new car registrations figures for August, which – similar to the outturns in various euro area member states – will show persistent weakness amid the global semi-conductor shortage. And August surveys due this week include the construction PMI (today), BRC retail sales monitor (tomorrow), RICS house price balance and REC Report on Jobs (Thursday).

US markets closed today; an exceptionally quiet week thereafter with Friday’s PPI of most interest
US markets are closed today for the Labor Day holiday and the remainder of this week’s economic diary features more than the usual post-payrolls lull with an exceptionally small number of entries. The first report of any great note is Wednesday’s BLS JOLTS report for July, which given a non-farm payrolls gain of more than 1mn for that month will likely reveal a decline in the number of job vacancies from the record level reported in June. On Wednesday, the Fed will also release its latest Beige Book and consumer credit data for July. Friday brings the release of the PPI for August, which will likely attract most attention this week. Daiwa America’s Mike Moran expects the core PPI to have increased a further 0.6%M/M, which would be the smallest increase since March but still sufficient to lift the annual inflation rate above 6½%Y/Y. Given a recent decline in food prices, he expects a smaller 0.5%M/M lift in the headline index, which would nonetheless lift the annual inflation rate above 8%Y/Y. The release of final wholesale trade data for July will close out this week’s sparse calendar. Meanwhile, there are only a small number of scheduled Fed speeches this week, with a speech on the economic outlook by the NY Fed’s Williams on Wednesday likely to attract most interest.

Aussie job ads only slightly lower in August; tomorrow’s RBA Board meeting the focus in an otherwise sparse week for economic news, with the Bank’s QE taper plans of most interest
The ANZ’s measure of Australian jobs ads declined a further 2.5%M/M in August following a 1.3%M/M decline in July. This represents a modest fall considering the lockdowns in place in New South Wales, Victoria and Canberra, and leaves the series up 78.9%Y/Y and not far below the more than 12-year high reached back in June. In today’s other news, the Melbourne Institute’s monthly inflation gauge was steady in August, causing the annual inflation rate to ease 0.1ppts to 2.5%Y/Y. The trimmed mean declined 0.1%M/M, but annual inflation for this measure increased 0.4ppts to 2.3%Y/Y – the highest reading since November 2017, but coming off the exceptionally low levels reported a year earlier.

Looking ahead, the remainder of this week’s economic diary is devoid of significant economic reports, leaving the sole focus on tomorrow’s RBA Board meeting. Australia’s virus outbreak has clearly worsened significantly since the Board met last month, and thus the bank’s estimate of the near-term contraction in activity has surely grown materially, so that GDP growth this year will fall far short of the 4% foreseen previously. However, the Board will likely retain its previous constructive medium-term outlook for the economy, including its view that the economy will recover strongly once Australia’s vaccine rollout permits a greater reopening of the economy, including a reopening of the country’s border. As a result, it seems very unlikely that the RBA will make any changes to its main policy settings i.e. the cash rate and 3Y bond rate targets, which are presently set at 0.1%. However, the Board might elect to defer the tapering of its QE purchases, which in line with the decision taken in July and confirmed last month is presently scheduled to begin this month with weekly purchases cut by $A1bn to $A4bn. Local commentators seem somewhat divided on whether the RBA will or should delay the taper. We note that following last month’s meeting, Governor Lowe argued that deferring the taper would have little impact on economic conditions when it matters most (i.e. in the near term) and that fiscal policy was better placed to deliver the immediate support that impacted households and businesses require. On the face of it, this argument suggests a reasonably high hurdle to be cleared before the Board would backtrack on its previous decision.

Kiwi building activity lifts a further 2.0%Q/Q in Q2; more Q2 GDP indicators and August consumer spending and house sales data
The countdown to next week’s typically laggard Kiwi GDP report for Q2 continued today with news on construction activity during the quarter. According to Statistics New Zealand, the volume of work put in place increase a further 2.0%Q/Q following an upwardly-revised 4.1%Q/Q in Q1, leaving activity more than 40% above the lockdown impacted level reported a year earlier. All of the growth was generated by the booming residential building sector, where output increased a further 4.2%Q/Q and is now about 14% above pre-pandemic levels. By contrast, non-residential construction fell 1.5%Q/Q and remains more than 6% below its pre-pandemic level.

Looking ahead, further partial indicators of activity in Q2 will be released on Thursday, including figures from the manufacturing and wholesale trade sectors. On Friday, the Electronic Card Transactions report for August will provide an early indication of the impact of the latest virus outbreak on consumer spending. Late in the week, news on home sales during August might also be released by REINZ. 

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