Global Daily – ECB in wait-and-see mode

by: Nick Kounis , Aline Schuiling , Bill Diviney

ECB View  – Governing Council wanted to avoid any shift in expectations – The ECB left all elements of its monetary policy unchanged at the September Governing Council meeting. The central bank’s main policy rates remained unchanged as well as its forward guidance on interest rates, which are “expected to remain at their present levels at least through the summer of 2019”. Also, the guidance on QE remained the same. After September 2018 the amount of monthly asset purchases will be reduced to EUR 15bn and net purchases will end in December, “subject to incoming data confirming that the ECB’s inflation target will be met”. Finally, the forward guidance on the reinvestment of the asset purchases also remained unchanged “principal payments from maturing securities purchased under the APP will be reinvested for an extended period of time after the end of our net asset purchases, and in any case for as long as necessary to maintain favourable liquidity conditions and an ample degree of monetary accommodation”. Overall, the ECB seems in wait-and-see mode and clearly attempted to avoid a shift in monetary policy expectations following the communication.

During his press statement ECB president Mario Draghi discussed the outlook for growth and inflation in the eurozone. He mentioned that the uncertainties related to protectionism, emerging markets and financial market volatility had “gained more prominence”, but that the central bank still saw the risks to its growth outlook as being “broadly balanced”. In its new Staff Macroeconomic Projections, the ECB had lowered its forecasts for GDP growth in 2018 and 2019 by 0.1 percentage point each, to 2.0% and 1.8%, respectively, while it kept its forecast for 2020 unchanged at 1.7%. The slight downward revisions for 2018 and 2019 were due to a “somewhat weaker contribution from net exports”, according to Mr Draghi. At the same time, he mentioned that the domestic part of the eurozone economy remains resilient. We think it would take a more severe turn in the economic data or economic confidence for the ECB to shift its language on the economic outlook.

The ECB’s forecast for headline inflation in all the three years of the forecasting period was kept unchanged at 1.7% in its new projections. The forecast for core inflation in 2018 was kept unchanged at 1.1%, but the projection for 2019 was lowered from 1.6% to 1.5% and that for 2020 from 1.9% to 1.8%, implying that it will still be somewhat below the ECB’s target that year. Mr. Draghi mentioned that “although underlying inflation remains muted, there is more evidence of rising wages”. As we have mentioned earlier, we think the recent pick-up in wage growth does not reflect the fact that the labour market is tightening, but merely has to be seen as compensation for the loss in real wage growth in 2017. Therefore, our own forecasts for core inflation (1.0% this year and 1.3% in 2019) remain below the ECB’s projections. Our baseline scenario remains that given ongoing subdued inflationary pressures, the ECB will hike in December 2019 (by 10bp taking the deposit rate to -0.3%), which is a little later than it is currently signalling. (Aline Schuiling & Nick Kounis)

US Macro: Goldilocks makes a comeback – Core CPI inflation for August came in weaker than expected at 0.1% mom; unrounded, it was the weakest reading since March 2017’s shock negative print. Year-on-year, core inflation fell to 2.2% from 2.4% in July. The weakness was driven mainly by core goods, in particular apparel which has now more than unwound the surprise strength we saw earlier in the year, while medical costs (both services and drugs prices) also fell on the month. Shelter and other services remained relatively firm. The weak CPI print comes in sharp contrast to the strong hourly earnings growth in Friday’s payrolls report, and suggests an economy that, as New York Fed President Williams put it recently, is ‘as good as it gets’ in its combination of strong growth and relatively subdued inflationary pressure. Combined with yesterday’s weak PPI reading, the print may raise renewed doubts over the Fed’s rate hike plans. However, we think the Fed will be more comforted by the uptrend in wage growth than concerned by weaker inflation. If anything, the cooling in annual core inflation from 2.4% to 2.2% means less of a need for the Fed to hike rates much above its estimate of neutral (2.9% as of June). This is consistent with our view of a further four rate hikes, which would take the fed funds rate to 2.75-3.00% by next June. (Bill Diviney)

BoE View: Still on track for just one rate hike in 2019 – The MPC kept Bank Rate on hold today at 0.75%, as was widely expected. The accompanying statement and minutes were fairly balanced in the assessment of the outlook for the economy and monetary policy. While recent pay growth numbers had been ‘a little stronger than had been expected’ in the August Quarterly Inflation Report, the MPC also acknowledged ‘greater uncertainty’ around the Brexit process since then. The forward guidance around rates was unchanged, with future increases to be ‘at a gradual pace and to a limited extent’. Governor Carney clarified in August that one rate rise a year is a ‘good rule of thumb’. Consistent with this, and with the elevated risks to the outlook of the UK economy, we continue to expect just one rate hike in 2019, which is one less hike than the Bloomberg consensus. (Bill Diviney)