- As expected Fed policymakers ended QE and maintained the “considerable time” forward guidance…
- …but tone was more hawkish, with FOMC signalling that labour market slack is diminishing
- Our base scenario remains that the Fed will hike in June 2015 and then at subsequent meetings; markets adjusted rate hike expectations, but are still lagging well behind in our view
- ECB survey shows demand for bank loans rose in Q3, while credit conditions eased
Vote of confidence for the US economy and end to QE
FOMC members issued an optimistic statement about the US economy. They pointed explicitly to “solid job gains and a lower unemployment rate” and noted that “underutilisation of labour resources is gradually diminishing”. This is an important shift since the more dovish FOMC members had often used ‘significant slack’ as an argument to maintain accommodative monetary policy. This strong language and explicit reference to the diminishing slack in the labour market not only set the stage for the end the asset purchase programme at the meeting, but it is a clear indication that rate hikes are on the cards next year. The optimistic tone went beyond the labour market as Committee members signalled that they “continue to see sufficient underlying strength in the broader economy to support ongoing progress toward maximum employment and price stability”. While the FOMC noted that inflation was undershooting its objective, it did not sound concerned. It expected inflation to be held down in the near term, but still judged that the risk of a persistent undershoot had diminished.
FOMC appears on track for rate hikes next year
The Committee left in place the ‘considerable time’ phrase in its forward guidance as expected, suggesting that a rate hike is not an imminent prospect. It also left itself some flexibility stating that a rate hike could come sooner or later than currently anticipated depending on incoming information. However, the positive tone on the labour market signals the direction of the FOMC’s thinking. Following the statement, Treasury yields, especially on the short end, and the dollar rose, as markets increased rate hike expectations somewhat. However, they continue to lag behind the likely evolution of short rates for next year in our view. We expect the Fed to raise rates from the middle of next year onwards. The adjustment in market rate hike expectations still has a way to go in our view.
ECB survey points to continued thawing of bank lending conditions…
The ECB’s Bank Lending Survey for Q3 pointed to a continuation of the gradually improving trends seen over recent quarters. The demand for loans continued to rise according to senior loan officers at banks across all categories. The demand for loans to nonfinancial corporations (+6 from +4 in Q2) and for housing (+23 from +19) strengthened further, while demand for consumer credit eased but remained as relatively high levels (+10 from +17). Meanwhile, banks continued to ease credit conditions, though in most cases at a somewhat slower pace. Credit standards on loans to non-financial corporations (-2 from -3 in Q2), for housing (-2 from -4) and consumer credit (-7 from -2) all eased in Q3.
…though also some signs of weak confidence recently
The improvement in the demand and supply of loans is encouraging. Firming demand for loans is generally indicative of an improving economy, while easing credit conditions may also be a sign that banks are more ready to lend having cleaned up their balance sheets and raised capital over recent quarters. The steps that the ECB is taking suggest that the thawing of the bank lending channel will continue. The assessment of banks – consisting of the AQR and stress test – suggested that banks are now very well capitalised. Having said all this, there were also some more negative signs in the report, which emphasised the risk that deteriorating confidence in the outlook could undermine prospects, despite improving fundamentals. For instance, increased corporate demand for loans was mainly due to M&A and debt restructuring, while demand for loans for the purposes of fixed investment actually fell back. In addition, banks’ ‘risk perceptions’ about the business and macroeconomic outlook had increased. We think improving fundamentals will support confidence over time and see a moderate economic recovery.