Macroeconomics: The Week Ahead: 13 June to 17 June

The Week Ahead – Preview: 

The new week could prove to be pivotal, as the realities of the current battle against inflation across the world again bite back, (as evidenced by Friday’s post US CPI markets slide), with the key aspect being that much of this battle is down to longer term, rather than ephemeral factors, above all a woeful level of CapEx in key infrastructure in recent years. This is currently most palpably obvious in oil, gas and mining (see chart), and has occurred even in the face of a decade of ultra-low interest rates and 30 years of a transformational technology boom. The sad fact is that the developed world has placed greater emphasis on preserving a deeply flawed and fragile financial system, and failing to address what was exposed by the Global Financial Crisis (by focussing on bank balance sheet capital, instead of toxic instrumentation), and neglected core pillars of the real economy and its productive capacity, while worshipping at the altar of the ‘financialization of everything’, and creating an even bigger mountain of debt in the process. Take a look at the attached table of Market Implied Policy Rates for major economies, focussing above all on the column of how much further rates are expected to rise in various economies over the next year. Markets are discounting 250-300 bps of rate hikes in nearly all major economies over the next year, and much of that by the end of 2022, Japan and to a lesser extent China being the glaring exceptions. This is hardly a recipe for positive risk sentiment in markets, and certainly likely to keep volatility elevated given the myriad of uncertainties.

In that context, the new week brings an array of key activity data in the US, China and UK, which will be pitted against a barrage of central bank policy meetings: Fed, BoE, BoJ, SNB accompanied by Brazil’s BCB, with China’s PBOC seen holding its key 1-yr MTLF rate steady at 2.85%, though a 10 bps cut is a distinct possibility, both to augment stimulus measures and given Friday’s inflation readings. In broad terms, the run of data will be combed for recessionary signals, with the added irony that any signs of activity strength likely to be a case of ‘good news’ being bad (i.e. putting further upward pressure on rate expectations), while the pressure on central banks is to retain some semblance of control over rate trajectory narratives, despite having been proved hopelessly wrong on inflation. The rash of data has China Industrial Production, Retail Sales, FAI, Property Investment and Unemployment, UK monthly GDP, Industrial Production, Trade, Unemployment & Retail Sales and US PPI, Retail Sales, Industrial Production, NFIB, NAHB, NY & Philly Fed surveys and Housing Starts, with Japan Private Machinery Orders and Trade, Australia Unemployment, Indian CPI and the German ZEW survey also due. Into this mix is thrown: renewed lockdowns in Shanghai; Putin ditching the always false narrative of ‘NATO is threatening Russian security’ and committing explicitly to Russian imperialism; China upping its rhetoric on invading Taiwan; the outcome of the first round of voting in France’s parliamentary elections to digest; the first WTO ministerial conference in 5 years which may struggle to agree small symbolic measures given the very fractious geopolitical backdrop; and last but not least expectations of extreme hot weather in North America and Europe this week. In the commodities space, both OPEC and IEA publish their monthly Oil Market Reports, with the PDAC Mineral and Mining Convention in Canada in focus for the metals sector, and gas markets looking to the European trade group Eurogas annual conference, as well as the timeline for re-opening Freeport LNG plant in Texas after last week’s fire.

In terms of the Fed: Friday’s CPI will have been a major disappointment, particularly core CPI, although it should not have been a great surprise to the FOMC, and unsurprisingly markets have moved to discount a 75 bps hike at this or the July meeting. But two things argue for 50 bps, and against a 75 bps move: a) Powell has already rejected a 75 bps move, and if they did hike by 75 bps, they would effectively lose control of forward guidance on the trajectory and become hostage to markets goading them to be even more aggressive. To be sure, they have been wrong on the inflation outlook, and yes they are behind the curve (but then again so are most other central banks, above all DM). b) They have underlined that they are keeping a close eye on financial conditions (see attached chart of GS US Financial Conditions), and these are after Friday’s jump in yields, equity market tumble and credit spread widening, and persistent volatility across all asset classes, not to mention sky rocketing mortgage rates (not part of index), rapidly approaching the recent peak, which is close to the danger zone (above 99.50, see 2018/2019 for comparison, rather than the pandemic spike). They learnt a hard lesson in 2018/2019 that fixating on a specific ‘neutral rate’ and ignoring tightening financial conditions is not good policy making, therefore adding fuel to the current fire with a 75 bps hike would be very risky. While they are upbeat on the economic outlook and labour market, they do not want to find themselves being attacked by the political fraternity (and they are already under pressure), above all in a mid-term elections year. They also know that rising rates and withdrawing QE will not resolve any supply chain disruptions or structural issues, and may in fact exacerbate them, above all by crimping investment, as well as demand. Be that as it may, they have a serious dilemma on how they ‘sell’ this to markets and preserve some credibility. As the example of the ECB on Thursday demonstrated, if central banks are vague and ambiguous (as the ECB was about its instrumentation to curb peripheral spread widening), they risk losing any control of the narrative, and per se engendering even more financial instability. As an aside, there will be a torrent of ECB speakers this week, who will effectively be tasked with trying to regain some control over the rates and bond spread narrative.

The Bank of England is expected to stick to its less aggressive rate path, with a 25 bps rate hike to 1.25%. As this is a non-Monetary Policy Report meeting, the focus will initially be on the degree of dissent on the vote (consensus looks for 6-3, with Haskel, Mann & Saunders voting for 50 bps), along with the statement and minutes. The MPC faces an unenviable task, with inflation skyrocketing, inflation expectations jumping, forecasters predicting the economy will at best stagnate in 2023 if not fall into recession, and its public approval rating falling into negative territory for the first time since it gained independence in 1997 (not to mention a chaotic and beleaguered government). It is likely to stick to its very loose guidance on rates, i.e. that further rate hikes ‘may be necessary’ in coming months. The key question for this meeting is whether it sees the latest fiscal measures as easing the pressure on household spending, and by extension mitigating some of the recession risks.

As noted above, the Bank of Japan is not expected to hike at this week’s meeting or at any time in the next year, and while inflation is finally just above 2.0%, it does not believe that this will prove to be durable, and is thus sticking resolutely to it current ultra-accommodative policy settings. This in turn has kept the JPY under considerable pressure, even if the relatively low level of inflation as compared with its G7 peers actually means that it has the highest (though negative) real interest rates. Last week’s co-ordinated statement with the Finance Ministry and FSA warning on excessive JPY weakness did serve to stem some of the yen weakness, but rings somewhat hollow after LDP policy chief Takaichi told the Nikkei at the weekend that ‘now is not the right time for the government and central bank to intervene to support the yen’. Given no change in policy or hint thereof going forward, the focus will be on its economic assessment, which is likely to see growth expectations lowered, and some emphasis on the fact that inflation pressures are due to currency pressures on import costs, and definitely not being paced by domestic demand.

While those three central bank meetings will be the headline grabbers, there is speculation that Switzerland’s SNB may hike 25 bps to -0.50% this week,. The consensus looks for no change, with most expecting a rate hike in September, and for the SNB to be focussed on following (though not matching) the ECB. Recent comments from SNB speakers have acknowledged that the SNB has purposefully allowed the CHF to strengthen against the EUR to keep something of a lid on CPI, which is way below the Eurozone at 2.7% y/y. Last but not least Brazil’s central bank has already hiked rates by a cumulative 1,075 bps, and is expected to bring its tightening cycle to an end with a 50 bps hike to 13.25%, while retaining a tightening bias, if circumstances warrant. In the latter respect, the key question is how it assesses the latest proposals to cut federal taxes (PIS, Cofins and Cide) on gasoline and ethanol prices to zero. It has previously warned that while this would initially lower inflation materially, it may serve to put upward pressure on prices in the medium-term, as the high fiscal cost of such measures may raise Brazil’s country risk premium, thereby pressuring the BRL, and “increase inflation expectations, and consequently have an upward effect on prospective inflation.”

– In terms of the week’s run of data, a marginal rebound of 0.1% m/m in the UK’s Index of Services (after falling 0.2% m/m in March) is expected to pace a 0.1% m/m rebound in April monthly GDP (March -0.1%), with a modest 0.3% m/m seen for Industrial Production, with Construction Output expected to fall 0.5% m/m, following a run of five increases. The labour data are anticipated to show a more moderate 70K rise in May HMRC Payrolls, after a stronger than expected 121K rise in April, which in turn is expected to see the Feb-Apr FLS Employment measure rise 108K. Average Weekly Earnings are expected to continue to diverge, with bonus payments helping to inflate headline to 7.4% y/y (March 7.0%), while the ex-Bonus measure is seen slowing to 4.0% y/y from 4.2%, underlining the weakness in inflation adjusted basic pay. But it may be Retail Sales which proves pivotal, particularly after the GfK Consumer Confidence plunge to a record low. Headline Sales are forecast to reverse some of April’s Easter related 1.4% m/m rebound with a drop of 0.6%, while the ex-Auto Fuel measure is seen falling 0.9% m/m.

Over in the US, headline PPI is expected to echo CPI, picking up to 0.8% m/m from 0.5% thanks to energy prices, and still implying a 0.2 ppt fall y/y to 10.8%, though ex-Food & Energy pressures are expected to remain elevated at 0.6% m/m 8.6% y/y. Retail Sales will however be the focal point, with the sharp drop in Auto Sales set to weigh on headline with a rise of just 0.1% m/m (Apr 0.9%), though quite heavily offset by a price related rise in Gasoline sales, while the core ‘Control Group’ measure is seen up 0.3% m/m (vs. April 1.0%), and as ever all measures will be considerably weaker once adjusted for inflation. Anything weaker than expected will inevitably be jumped all over as signalling demand destruction due to inflation pressures. While Industrial Production and Manufacturing are forecast to post moderate gains, the focus will be more on the week’s run of surveys with the NY and Philly Fed Manufacturing indices seen rebounding somewhat after plunging in May, the NFIB continuing to remain weak at 93.0 vs. prior 93.2; but pride of place may go to the NAHB Housing Market Index, which is forecast to slip to 68.0, after sliding sharply to 69.0 in May, and given the rising mortgage rates, risks look to be to the downside.

China’s activity data are likely to remain depressed, but somewhat better than in April, with Retail Sales forecast to post a drop of 7.1% y/y (April -11.1%) aided somewhat by partial re-opening, while Industrial Production is seen posting a drop of -1.0% y/y (April -2.9%), with year to date Fixed Asset Investment expected to slow to 6.1% y/y from 6.8%, though accelerating in monthly y/y terms, as fiscal stimulus (most evident in hefty municipal borrowing) starts to get some traction. That said, the Unemployment rate is expected to remain at its recent high of 6.1%, while Property Investment is forecast to drop at a faster -4.0% y/y (April -2.7%), with Property Sales also likely to remain in a very steep decline (last -32.2% y/y). Given that the zero Covid policy remains largely in place, and the latest lockdown measures in Shanghai, any recovery is likely to be quite slow, and sporadic. Japan’s Machinery Orders are forecast to post a reactive correction to March’s 7.1% m/m jump with a drop of 1.3%, while Trade data are anticipated to see Exports picking up somewhat to 16.3% y/y from 12.5%, but be dwarfed by an energy price driven 43.7% y/y surge in Imports (last 28.3%)

The Q1 earnings season is largely done, with Adobe, Ferguson, Kroger & Oracle the only highlights on the US schedule. It will however be a busy week for Eurozone govt bond issuance, with ca. EUR 36.0 Bln in  total from Germany, France, Italy, Netherlands and Spain, with no coupon issuance scheduled in the US, UK or indeed Japan.