Economic Data Analysis
Central Banks - Still Easing for Now
- Ongoing negotiations over Greek bail out, with ECB standing pat ahead of next LTRO.
- MPC likely to continue QE with further £50bn, but difficult judgements lie ahead.
- RBA to cut rates this week; easing Chinese inflation pressures could herald PBoC loosening.
Another week closes with the promise of a deal on the Greek PSI debt swap. The urgency for such a deal is rising with a hard deadline of 13 February approaching. The coming week will be a question of sequencing. The coming days should see Greece agree with the Troika measures to address deficit target slippage. This needs to be done by Monday's Euro Area finance ministers meeting so it can approve Greece's second bail out package, in turn necessary to allow the PSI deal to progress. The actual debt swap is slated for the second half of this month, to provide Greece with funds to meet its €14.5bn payment on 20 March. Markets remain sanguine over this sequence, but risks are evident.
The coming week will focus on the prospects of further central bank stimulus. The ECB should keep policy unchanged. The ECB's 3-year LTRO has provided a significant boost and gone some way to providing two of the three pil lars necessary to resolving the Euro area's debt crisis (growth stimulus and a contagion firebreak). The next operation is scheduled for 29 February and speculation has mounted that it could draw €1trn of demand. This would be an expansion of the ECB's balance sheet of around 14% of GDP, not far short of the BoE's current quantitative easing (18%). With this operation waiting in the wings, the ECB is likely to stand pat for now with the prospect of a narrowing of the interest rate corridor allowing a lowering of the refi rate still a possibility over the coming months. This month's press conference wil l likely pose questions over the likely LTRO uptake, the ECB's involvement in the Greek debt swap and the ECB's future SMP purchases - none of which we think Mr Draghi wil l be inclined to answer definitively.
By comparison, the Bank of England's MPC, which also meets, is likely to provide further stimulus. The surprising strength in the recent PMIs suggests that this month's meeting will have more to discuss than we had previously anticipated (despite forecasting a strengthening in both indices). The Committee's decision in January to wait for the medium-term Inflation Report forecasts has proven useful. The Committee has the difficult job of balancing early signs of cyclical recovery against the longer-term structural challenges the economy faces. The medium-term Inflation Report forecasts are still likely to show the economy flirting with recession (although downside risks may have moderated) and inflation falling steeply. Additionally, the Committee will be concerned about the ongoing structural impediments to private credit creation. These factors are likely to drive the MPC to a further £50bn of QE in February. Stimulus beyond that - we factor a further £75bn after next week's £50bn - will be more dependent on economic activity thereafter. It will also be impacted by the scale of ECB stimulus at the end of this month.
The coming week also sees key information for other central banks. Bernanke's semi-annual monetary policy testimony to the Senate on Tuesday is likely to maintain the Fed's dovish sentiment for now. Chinese inflation releases should confirm a slowing underlying trend (we forecast CPI constant at 4.1% despite the New Year holiday effect), supporting our view of further easing in the PBoC Reserve Ratio Requirement (100bps) in H1 and a modest easing in the policy rate around mid-year. The Reserve Bank of Australia also looks set to ease monetary policy this week (to 4.00%). Signs of a firming in global activity would support our call that this could be the last easing. But growing Euro area confidence could yet reverse if actual developments fail to keep pace with hopes.
UK DATA PREVIEW
MPC announcement (Feb)
The improvement in some of the recent economic indicators has led some to question the likelihood of further QE in the coming week. While recent PMIs suggests something of a cyclical pick-up, we still see the economy facing significant strucutral challenges. Indeed, while GDP is likely to be volatile on a quarterly basis, the economy looks to be on a flat to contracting trajectory. The Bank forecasts inflation to drop steeply this year, below target and remaining there for the remainder of the forecast horizon. The latest money supply and credit figures are also disturbing. The risks of a continued improvement in the outlook threatens stimulus beyond. Yet for now we are cautious of this improvement and still forecast £400bn in asset holding by end 2012.
Industrial production (Dec)
In the preliminary Q4 GDP release, industrial production was estimated by the ONS to have fallen by 1.2% on the quarter. This official projection is consistent with a rise of around 0.5% in December.This implied projection from the ONS, however, looks optimistic. Nothwithstanding the sharp 4.4% fall in utility output in November (partly due to unseasonably mild weather), we doubt electricity and gas production bounced back as sharply as the ONS expects (4%+) in December. Furthermore, anecdotal evidence suggests only a modest improvement in manufacturing output. Overall we look for manufacturing and industrial output to rise by 0.2% and 0.3% on the month, respectively. This would leave industry's fall at -1.3% in Q4, not enough to trigger a revision to wider GDP.
November's trade in goods deficit widened to £8.6bn as October's export surge retraced. Anecdotal evidence is mixed, but suggests a further easing in export volume growth in the months ahead. However, this month we think that both a drop in imports and a modest narrowing of the oil deficit should see the 'visibles' deficit remain unchanged at £8.6bn. Yet the significant improvement in the 'invisibles' balance, which has maintained a surplus of £6bn in the past two months, looks set to continue and on our forecasts will help deliver the narrowest quarterly total trade deficit in Q4 (£7.0bn) in two years. January appears to have posted a modest improvement in the export outlook. It is noticable that in economies exhibiting healthy growth, UK export volumes have soared over the past year, including a 20% rise to China and 40% to India.
Producer prices (Jan)
While we expect input prices to have risen by 1.0% in January, driven by a pick up in global commodity prices - the annual rate is set to continue decelerating, registering its fourth consecutive decline to reach a 2-yr low of 7.3%. We see further scope for slower input price inflation over coming months due to favourable base effects. Similarly for output prices we expect last years increases to help push the annual rate of inflation lower to 3.9% from 4.8% for the headline measure, with core' output price inflation slowing below 3.0% for the first time since Q1 2010 to 2.5%. This backdrop of weaker price pressures is expected to reflect in softer consumer price inflation over the coming months. However, the pace of global economic activity will determine the path of global commodity prices from here.