It was clear that after the recent run of soft data, some were desperate for Fed Chairman Bernanke to drop hints about further QE when he spoke yesterday. As it was, whilst he was fairly cautious on the economic outlook (describing the recovery as “frustratingly slow”), he didn’t throw out any bones for commodity, FX or equity markets to latch onto. Bernanke is all too aware of the self-fulfilling momentum that could build around expectations for further QE and at this point in time, he does not want to light the touch-paper under further commodity and equity markets. Nevertheless, he did underline the fact that “accommodative monetary policies are still needed”. For now, it’s the right approach but, behind closed doors the Fed is likely looking into the merits of further QE at least.
Guest post by FXPro
Commentary
Germany trade performance wobbles in April. The numbers showed the largest drop in exports (of 5.5%) for more than a year as the trade balance fell from EUR 19.6bln to EUR 8.8bln.It’s only one month’s numbers, but the data will increase the fears that the slowdown in the global economy could adversely impact Germany’s export performance.
Greece still trying to achieve the impossible. If Greece pulls off the austerity plan that was outlined yesterday, it would be an unprecedented feat for an economy still in recession. The latest austerity plan has been presented by Greek PM Papaconstantinou, and aims for a deficit of 1% of GDP by 2015, from 7.5% of GDP this year. This level of fiscal consolidation is not unprecedented. If we look back through data for the OECD for the past forty years, there are at least five countries that have managed to improve their deficit/GDP ratio by this much (or greater) over a four year period. They are Norway, Belgium, Iceland, Ireland and Slovenia. The crucial difference though is that during the period of fiscal austerity, all of these examples were experiencing positive economic growth. In other words, the deficit reduction was achieved during relatively good times, economically. Now, the Greek economy may recover over the coming four years, but that looks very unlikely given the ongoing need for further convergence in competitiveness indicators (such as unit labour costs). But, given that Greece has been in recession for over two years now, and the government implemented what was likely the easier austerity measures, it’s a huge ask for the economy to grow under the weight of even more austerity measures. Indeed, in the examples mentioned above, their economies were also doing well ahead of the period of deficit reduction, as well as during. The Greek economy has been contracting for nine of the past 10 quarters. All in all, Greece has outlined a plan the likes of which have never been successfully achieved by another country, at least over the past forty years.
The game change for sterling. Two months ago, the market was still thinking there was a chance of a rate increase. Even though few expected one in April, the currency still softened immediately after the meeting result. This isn’t going to happen this time around when the decision of the June meeting on Thursday is announced. Indeed, what’s going to be of most interest this time around is whether either of the two dissenters (the third has left the MPC) come into line and vote for unchanged rates with the majority. The parallels with 2010 are starting to look uncanny. However, looking at the Citigroup economic surprise index (which aggregates data above or below expectations), what is apparent is that this year has seen data almost consistently fall below expectations, especially during May. In contrast, in 2010 the data held up pretty well up to May then fell off a cliff in June. For an economy that wants to rely more on net trade investment, the slowdown both in the domestic economy and overseas is not a welcome development. Furthermore, even though the IMF was putting the slowdown in domestic activity down to temporary factors yesterday (such as higher commodity prices), the squeeze on real incomes from higher taxes and the continued high level of unemployment are less temporary. The big surprise for this meeting would be for there to be continued votes for higher rates when the minutes are released in two weeks’ time.
More tightening likely from China. Battling hard to thwart the scourge of rising inflation, China’s policy officials may well decide to both hike key interest rates and allow the exchange rate to appreciate further in the near term. With data due for release in one week’s time, inflation last month may have risen to as high as 6.0%, up from 5.3% in April. The yuan remained around a 17-yr high against the dollar overnight and is likely to strengthen further given the recent weakness in the dollar. One idea which has gained some airplay recently is the suggestion that the PBOC may widen the daily trading band for the yuan against the dollar to 1.0% (from 0.5% currently) to permit the exchange rate to appreciate more rapidly in response to accelerating inflation. On interest rates, it is entirely plausible that the PBOC could hike the 1-yr lending rate by another 25bp over the next couple of weeks. Since October, the PBOC has raised the key rate by 100bp, the last increase being delivered early in April.
RBA adopts a more cautious approach. Yesterday’s decision by the RBA to leave the unofficial cash-rate target unchanged at 4.75% was no surprise, but the Aussie for the most part retained the slightly more cautious tone during the European and US sessions. The kiwi failed to retain the momentum of the Asia session, although the 0.8220 level was breached for a while in the weaker dollar environment. The more cautious tone on the Aussie may well remain, especially if global activity data continues to disappoint.
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