- US Data Surprise Index stuck below 50%. Last week only 6 of the 18 US macro indicators I tracked beat expectations. It was the 9th straight week my surprise index has failed to break above 50% highlighting the generally disappointing macro backdrop for financial markets. Only good news: the 4-week average continued to drift upwards reaching a 6-week high 38.5%. Macro is still more of a headwind for markets, but the drag is fading.
- The rapidly vanishing US budget deficit. The CBO released its latest updated budget projections last week, which show a $200 billion improvement in the estimated deficit for this year, which should come at 4% of GDP and improve further to just 2.1% in 2015. The main driver is stronger revenue growth, surely helped by this year's tax hikes and more rapidly growing property and capital gains taxes. However, the CBO also highlights the fact that deficits as a percent of GDP will increase again in second half of the decade and Debt/GDP will merely stabilize around 70% of GDP, but not improve. So, the Fiscal Crisis is over, no further near term adjustments appear necessary, but the longer term fiscal reform needs remain.
- US Consumer backdrop is improving again. Both April Retail Sales and the first look at May Consumer Confidence beat expectations. Sales - excluding gas stations - rebounded strongly after a weaker March likely highlighting the weather impact on growth in the past few months. Better still, the University of Michigan Consumer Confidence index jumped to a new post-recession high underscoring that despite recent volatility in the surveys the upward trend in sentiment remains in place.
- Not much evidence of improving US business activity. The first 2 regional manufacturing surveys for the New York and Philadelphia regions both disappointed expectations, both headline indices fell back below zero, both ISM-equivalent composites are below 50. The one bright spot last week was a better than expected increase in the NFIB Small Business Optimism index, which hit a 6-month high in April. However, it seems we will have to wait another month before we may see signs of a stronger rebound in business activity.
- US inflation is slowing sharply. Both CPI and PPI indices fell more than expected in April on the back of a sharp drop in energy prices in the past few months. The decline in core inflation is less dramatic, but both core CPI and core PPI are trading below the Fed's 2% inflation target. In fact, the Fed's preferred inflation measure, the PCE Deflator, is likely to fall to 0.7%; the last time inflation slowed that much triggered the start of the Fed's QE program.
- US housing data remains volatile. Home builder sentiment rebounded in May after a period of, what I would call, consolidation. The index had improved too much compared to actual housing activity and a period of adjustment doesn't mean the recovery is over. Housing Starts posted a steep drop in April reversing strong gains in the prior 2 months. Meanwhile, Building Permits, which should lead starts, surged above 1 million for the first time in nearly 5 years(!). Data remains extremely volatile, but the upward trend in all housing indicators remains on track.
- Eurozone GDP data shows no end to recession. The cold winter weather was probably the main culprit behind the disappointing Q1 GDP data in the Eurozone. All major economies missed expectations. Germany posted barely positive growth numbers, in France it's now officially a 'Double Dip' recession, while Italy and Spain continued to contract at more serious rates. Best Eurozone growth performance so far comes from Greece, which posted a 3.4% growth rate - of course from very depressed levels.
- Strong Japanese GDP growth highlights positive 'Abenomics' shock. Q1 GDP growth beat expectations posting a strong 3.5% annualized gain. The growth surprise was partially the result of more severe deflation with the GDP Deflator falling at an annualized rate of -1.7%; nominal GDP increased a less impressive 1.5%. Consumption and Net Exports were the main drivers of growth last quarter, while business investment continued to contract. Consumer Confidence remained near recent highs suggesting the current growth trend showed spill over into the current quarter.
- No sign of improving growth in China. Industrial Production missed expectations, stabilizing around the recent 9.5% growth trend that has been in place for the past 12 months; that's a far cry from the near 15% average through much of 2010 and 2011. Retail Sales fared better against expectations, but show a similar down shift in growth rates compared to the past few years. Both reports are evidence of the structural slowdown in China.
- Global (Dis-)Inflation Watch. Last week Canada and Sweden joint a host of countries showing weaker than expected inflation trends. In Sweden actual deflation intensified with CPI falling to -0.6%; April was the 6th consecutive month prices in Sweden have been flat or falling. Canada's inflation rate slowed to a joint-post-recession low 0.4%. This is more evidence of a global inflation slowdown that is predominantly driven by sharply lower energy prices, but also the result of weaker than expected growth. In Sweden, the inflation downside surprise is likely to trigger further rate cuts; the Bank of Canada has so far not reacted and not even removed its marginal tightening bias.
3 more rate cuts last week in Turkey, Serbia and, surprisingly, Israel; a quieter week ahead
- Last Week's Highlights: There were 8 central bank strategy meetings on the calendar last week, which brought 3 more rate cuts taking the total number of easing measures among the 40 central banks in my Global Central Bank Monitor to 11 for the month of May, the largest number since July of last year. One of the banks cutting rates last week was Turkey's CBRT, which lowered both its main Repo Rate and its interest rate corridor by 25 basis points to 4.50% and 6.50%/3.50%, respectively. CBRT continues its sophisticated monetary policy approach that utilized more tools in a more varied way than most of its peers. Lowering Deposit and Lending Rates, which make up the interest rate corridor, weakens the Lira and discourages capital inflows, a major drivers of credit growth. CBRT augmented the move with a Repo Rate cut, which some commentators believed was designed to counter possible additional upward pressure on the Lira as a result of last week's ratings upgrade; Moody's raised Turkey's sovereign ratings to Baa3. At the same time, CBRT raised Reserve Requirements to offset the stimulative effect of lower rates on domestic credit growth and implemented further measures to boost foreign currency reserves. CBRT targets 3 separate policy goals. First, lowering interest rates weakens the currency and deters capital inflows. Second, raising Reserve Requirements tightens domestic credit conditions to keep inflation low. Third, raising reserve coefficients on foreign currency loans raises FX reserves at the central bank, a macro-prudential measure increase in financial stability. The second rate cut last week came from National Bank of Serbia, which lowered rates 50 basis points to 11.25%. The move was a small surprise as most economists in the Bloomberg survey expected a smaller quarter-point cut. Bank of Israel also pulled a surprise last week with an extraordinary intra-meeting 25 basis points rate cut to 1.25%. The bank's statement listed the recent Shekel strength, policy easing by other central banks and downward revisions to global growth expectations as the main drivers of the decision.
- Also in the calendar last week: The 4 remaining banks on the schedule left rates unchanged. Already in my 'Cutters' category, Latvijas Banka kept rates at 2.50%. The bank last eased in September, but has left rates unchanged since and describes policy as "appropriate" despite the fact that annual CPI inflation has fallen below 0% in April. The bank is focused on stability in the run up to Euro adoption in 2014, but continued deflation may open the door for further policy rate convergence with the Eurozone. In my 'Do Nothings' category of central banks that haven't changed policy in over a year Bank Indonesia and Chile's BCCh did exactly as labeled leaving rates at 5.75% and 5.00%, respectively; none of the economists polled by Bloomberg expected a change. Russia's CBR and Iceland's Sedlabanki are already in my 'Hikers' category, but refrained from further tightening last week leaving policy rates unchanged at 8.25% and 6.00%, respectively. In Russia the number of forecasters looking for a rate cut is slowly increasing in response to weaker economic activity. Yet, inflation above 7% is likely preventing CBR from lowering its main Refinancing Rate in the near term. The bank did cut rates on longer term Repo operations driven by expectations that "the rate of inflation will return to the target [..] in the second half of 2013". Sedlabanki, on the other hand, retained a tightening bias. The decision to leave rates unchanged was based on slowing growth and an inflation trend that is now "expected to reach the [..] target earlier than previously anticipated". However, the bank's statement added "it is still the case that as spare capacity disappears from the economy, it is necessary that slack in monetary policy should disappear as well"; that's the tightening bias.
- This Week's Highlights: This will be a quiet week for central bank watchers with only 2 further policy meetings scheduled, none of which is expected to result in additional policy changes. Bank of Japan (Wed) is not expected to change its monetary base targets for 2013 (¥200 trillion) or 2014 (¥270 trillion). Growth rebounded strongly in Q1, but bond market volatility has also increased sharply, which suggests the bank is likely to opt for stability for a while rather than further action. Meanwhile, South African Reserve Bank (Thu) is also expected to leave rates unchanged - in this case at 5.00%. SARB's policy backdrop remains extremely difficult with inflation at 5.9% running at the upper end of its 3% to 6% target zone, the Rand falling steadily and growth slowing. It seems likely policy rates will remain unchanged for a while until inflation heads back to the middle of the target zone.
The global easing cycle is alive and well: I missed 6 rate cuts in the past two weeks, while on vacation; this week already brought 2 and could deceiver at least 1 more
- Last (2) Week's Highlights: No fewer than 15 central banks had policy meetings on the calendar while I was on vacation, which delivered several surprise rate cuts. The Federal Reserve's FOMC meeting wasn't one of them, nor were any changes expected. Yet, the statement highlighted 2 issues that received some market attention. First, the bank ratcheted up its verbal attack on Congress' obsession with fiscal austerity by stressing "fiscal policy is [now] restraining economic growth". In addition, the statement added the notion that the "Committee is prepared to increase or reduce the pace of its purchases [..] as the outlook for the labor market or inflation changes", which is probably aimed at silencing the one-sided debate when and how the Fed would taper the current pace of asset purchases. Not so much surprise, but relief was the reaction to the ECB's rate cut that lower the Repo Rate to 0.50%. After acknowledging in April that inflation had fallen below its 2% target and seeing the latest 1.2% CPI estimate, plus of course the continued recession in much of the Eurozone, it was clear the bank would finally act. It won't help much, but I expect the bank will cut rates again June to counter the growing deflation risk. No surprises in the UK where the Bank of England left both rates and Asset Purchase Target unchanged. It was the last MPC meeting ahead of the upcoming change in governorship. Next month's meeting could be more interesting when new governor Carney will lay out his plans and philosophies about what monetary policy can achieve in the coming years. A more genuine surprise was the Bank of Korea's decision to lower rates 25 basis points to 2.50%; only 6 of the 20 forecasters in the Bloomberg poll expected a cut. The economic backdrop of weak growth and very low inflation had been consistent with further policy easing for a while. Yet, it seemed the bank was taking a back seat to the government's more stimulative fiscal policy, which actually seems to work; the country's PMI survey is one of the strongest in the region. However, inflation has fallen further to the joint-lowest rate in 13 years(!), which most likely prompted the rate action.
- Also on the calendar last (2) weeks: Poland's NBP surprised forecasters cutting rates 25 basis points to 3.00%; only about a third of the 38 economists polled by Bloomberg expected the move. The bank had cut rates 5 times through March, but decided to pause in April. However, growth remains weak and inflation still "markedly below the NBP's inflation target". Rates are still significantly higher compared to neighboring Czech Republic and of course the Eurozone suggesting Poland's easing cycle will continue. Reserve Bank of Australia also surprised forecasters cutting rates 25 basis points to 2.75%; here only 28% of the 29 economists in the Bloomberg survey expected the move. The bank is clearly in fine-tuning mode citing both growth and inflation running a bit below target. The statement also highlights the bank's believe that first effects of recent rate cuts are starting emerge and the announcement by the government to run a bigger fiscal deficit next year probably closes the door on further cuts. Denmark's Nationalbanken cut policy rates 20 basis points to 0.20% in reaction to the ECB rate cut. The bank's main task is to keep the Krone within its ERM II band. In the past, there had been upward pressure on the Krone as a result of capital flight out of the Eurozone forcing Nationalbanken to cut rates below the ECB's floor. The reduction in systemic risk allowed the bank to reduce the policy rate differential again. I would expect a similar reaction, if the ECB, as I expect, cuts rates in June; that would take Danish policy rates to 0.10%. India's Reserve Bank also lowered rates by 25 basis points to 7.25%; the move was expected by the majority of economists surveyed by Bloomberg. Inflation trends continued to improve; both the more widely watched Wholesale Price Index as well as the new CPI index have slowed in recent months opening to door for further rate cuts to combat the weakening growth momentum. The Monetary Policy Statement highlights the bank's bearish outlook stating "activity will remain subdued during the first half of this year". However, the bank is more cautious on inflation stating "although headline WPI inflation has eased [..] to come close to the Reserve Bank’s tolerance threshold, [..] food price pressures [..] and supply constraints [..] could lead to a generalisation of inflation". As long as inflation slows RBI is likely to keep lowering policy rates. The real test will come if and when inflation turns and growth continues to slow. Czech National Bank left policy rates unchanged at 0.05%. The bank used up its interest rate tools when it cut rates to quasi-zero last November. CNB has in the past stated that the hurdle for more unconventional policy is quite high. Hence the bank will eventually slip from my 'Cutter' category into the 'Do Nothings'.
- No surprises among the 4 banks already in my 'Do Nothings' category. In Europe, Norway's Norgesbank and Romania's BNR left rates at 1.50% and 5.25%. Inflation has picked up in both countries; yet, in Norway at 1.9% it's still below target; Romania's inflation rate at 5.3% on the other hand is running above BNR's target zone making its neutral stance more tenuous. Malaysia's Bank Negara left rates unchanged at 3.00%. The statement retained the phrase "the MPC considers the current stance of monetary policy to be appropriate" underscoring the bank's neutral stance. Peru's BCRP left rates at 4.25%; none of the 15 forecasters surveyed by Bloomberg expected a change. The statement reiterated growth is near potential and inflation close to target; no need for policy changes in the foreseeable future. Finally, in my 'Hikers' category of banks that last raised rates in the past 12 months, Egypt's CBE left its key policy rate unchanged at 9.25%. The Bloomberg survey was split with half the forecasters expecting no change, the other half looking for cuts of 25 or 50 basis point. Inflation remains persistently high in excess of 7%, yet the economy still suffers from political uncertainty making this a very difficult environment for the bank.
- This Week's Highlights: There are 8 central bank policy meetings on the calendar this week. Already on the record, Bank of Israel surprised central bank watchers with a 25 basis point rate cut to 1.50% on Monday; only 2 of the 11 economists polled by Bloomberg expected another rate cut. BOI has cut rates intermittently since starting its easing cycle in September 2011. Yet, with inflation falling below 1% the door is clearly open for more monetary stimulus. National Bank of Serbia surprised with a bigger than expected 50 basis point rate cut to 11.25%. The sharp inflation slowdown in recent months is allowing the bank to start reversing the 8 rate hikes between February and June of last year. Already in my 'Do Nothings' category, Bank Indonesia left policy rates unchanged at 5.75%; nine of the 15 forecasters polled by Bloomberg expected a rate change. Inflation had picked up in recent months, but is showing signs of rolling over again Enough for BI to remain on hold for the foreseeable future. However, the bank retains a marginal tightening bias through its strategy of "absorbing [..] excess liquidity using its longer-term instruments".
- Also on the calendar this week: Still to come Iceland's Sedlabanki (Wed) is still in my 'Hikers' category after last rising rates in November. Yet, inflation has slowed below 4% for the first time in almost 3 years and the currency has strengthened this year vis-a-vis the Euro. Sedlabanki is likely on hold and may possibly start to look at selective rate cuts in the coming months. Russia's CBR (Wed) is also still in my 'Hikers' category, but its policy backdrop remains more challenging. Inflation hasn't yet reversed the sharp increase above 7% and the Ruble has weakened again in the past few months. However growth is slowing evidenced by declines in both of Russia's manufacturing and service sector PMI indices. A small number of forecasters are looking for a rate cut, yet the majority expects CBR to remain on hold. Turkey's CBRT (Thu) is expected to continue its policy of gradually easing monetary policy. The recent Lira weakness suggests the bank's policy of deterring capital inflows through lowering the interest rate corridor that drives deposit rates is working. The bank adjusted the corridor downwards 8 times since last July, but lowered the Repo Rate that drives the cost of domestic credit only twice. Now that both inflation and growth are slowing CBRT may revert back to more Repo Rate cuts; 11 of the 13 forecasters in the Bloomberg poll expect such a move. Also in Eastern Europe, Latvijas Banka (Thu) has left rates unchanged at 2.50% since its last cut in September. However, inflation has fallen below 0% and the economy is slowing. Bloomberg has no survey, but it's likely deflation will force the bank to lower rates further. Finally, Chile's BCCh (Thu) has been on hold since January 2012 and is expected to leave policy rates at the current 5.00%.
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