Global Daily – US inflection point?

by: Bill Diviney

US Macro: Fall in ISM New Orders suggests slower investment growth in 2019 – The ISM manufacturing PMI fell by 2.1 points to 57.7 in October, weaker than consensus (59.0) but closer to our forecast (58.5). While both Production and New Orders declined, Production remained relatively elevated at 59.9, while New Orders fell to the lowest level since April 2017 at 57.7. Historically, the ISM New Orders Index is a strong leading indicator for investment in the US, and the decline is consistent with our view that the strength we have seen in investment over the past two years is likely to ease in 2019 (the New Orders Index has the highest correlation with investment two quarters ahead). The decline is also consistent with a sharp fall in the Conference Board’s CEO Confidence measure, which fell to 55 in Q3 from 63 in Q2 – the lowest reading since President Trump’s inauguration, and driven by concerns over trade policy and expectations of moderating growth in 2019. All told, we expect growth to remain above potential over the next 2-3 quarters, supported by solid private consumption and the ramping up in government spending, but that a slowdown in investment will drive a cooling in momentum from the exceptionally high growth rates the US economy is currently experiencing. Looking further forward, we expect economic growth to eventually slow to sub-trend rates by the end of next year on the back of higher interest rates and the fading of fiscal stimulus. (Bill Diviney)

BoE View: Slight hawkish tilt could mean more tightening ahead – The MPC kept monetary policy on hold, in a unanimous decision that was widely expected. The Quarterly Inflation Report had a slight hawkish bias, with the projection for a positive output gap brought forward from Q4 20 to Q4 19, although the magnitude of the change – 0.25pp – was marginal. Nonetheless, two factors lead us to believe the BoE may tighten a little more than the ‘good rule of thumb’ of 1 rate hike per year that Governor Carney had previously indicated. First, the Bank’s assumptions did not take account of the Chancellor’s recent Budget announcement, which was surprisingly expansionary – and is likely to add c.0.3pp to 2019 GDP growth according to OBR estimates. Second, in the press conference, Governor Carney indicated that a Brexit deal based on Chequers would be ‘above’ the average of the range of outcomes on which the BoE conditions its forecasts, and so such a deal would likely lead the BoE to raise its growth and inflation forecasts should that transpire. We continue to expect one rate hike in both 2019 and 2020 as a base case, but the risk looks tilted towards an additional rate hike over that horizon.

Aside from the base case, Governor Carney fielded persistent questioning over the MPC’s reaction function in the risk scenario of a No-deal Brexit. Similar to what he had reportedly told the Cabinet recently, he stated that the MPC’s reaction would not be ‘automatic’ and could be ‘in either direction’. We believe the nuance in this statement is important – countering an expectation that the reaction would be automatic. In reality, the MPC’s bias would still likely be for easing rather than tightening, given that such a scenario would probably drive a sharp decline in business and consumer confidence, but that policy could well remain on hold if the hit to supply is greater than that to demand. For policy to be tightened, we think a significant rise in inflation expectations would be necessary. See our report on Brexit scenarios for more. (Bill Diviney)