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Fed will not act “pre-emptively”

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Outlook

The market likes PMI’s these days for the simple reason that they are a pretty good forecaster of upcoming growth. The eurozone gain reported today, for example, a 15-year high, means Q2 growth should be up around 1.3% and acceleration in Q3 to 2.6% from lesser numbers previously expected, according to Morgan Stanley.

Most other places got a dip in their PMI’s, including Japan and the UK, and the US is also expected to deliver a dip today in the flash. But unless it’s dramatic, it won’t affect the growth forecasts, which are still world-beaters at 6%-plus (except for China, which wins the growth sweepstakes at 8-9%).

In the US, we also get the current account today, something hardly anybody watches anymore and even fewer understand. This time the expectation is for a deficit near or beyond the record from Dec 2005 at $209.6 billion. We also get more housing data. So far it’s pretty clear that wild price increases are damping demand. Gee. Yesterday existing home sales fell 0.9% m/m in May for the 4th month of declines, likely due to house prices up 24% y/y, the biggest one-time price increase since records began in 1999. This is some messed-up market. Notice the Fed doesn’t consider this price rise “data” it should be attending (unlike Canada).

Fed will not act “pre-emptively”

Attention is still focused on central banks. Yesterday Fed chief Powell repeated that the Fed will not act “pre-emptively” because “we fear the possible onset of inflation.” This is another way of saying data comes first, before forecasts built on models, but we find it less reassuring than the markets at large. After all, the assertion that inflation is only transitory is based on a forecast. Yesterday New York Fed Pres Williams recanted and said rate hikes are way off in the future. Cleveland Fed Pres Mester said we should wait to see how the summer plays out for clarity perhaps by the September meeting. We hesitate to say the cacophony of Fed voices is deliberate to confuse matters because each Fed is free to speak, but that’s the result.

Meanwhile, some central banks are forging ahead on real and forecast data. First up were Norway and then Canada announcing intent. Then we had Brazil executing hikes and in rather large numbers. Yesterday Hungary hiked by 30 bp and said it will adjust monthly, while the Czech central bank is expected to hike by 25 bp today. Australia could act as soon as July 6 and New Zealand is in sync. The Mexican central bank meets July 8th.

That leaves the Bank of England as a top CB. Attention is going to tomorrow’s BoE policy meeting, with plenty of ammunition on both sides. Recall that the May meeting brought a cut in weekly purchases, which the Bank insisted was only housekeeping and technical, and not a harbinger of ending QE. Also, chief economist Haldane wanted a £50 billion cut in the QE ceiling to £825 billion, and given the excellent recent data, more members might see policy as overly accommodative.

In contrast, on the side of wait-and-see, the latest Covid outbreak of the delta variant that postponed full re-opening to July 19 has to be a factor and may even be the source of a more divided committee than usual.

Econoday seems to bend toward some less dovish outcome, which is also our view. See its inflation chart; even if the headline CPI is only 2.1% and core is 2%, it took big jumps to get there and more are expected, however transitory. “Upside risks to inflation have been boosted by signs of a rapid recovery in economic growth. After contracting in January, GDP expanded fully 5.2 percent through April. At the same time, even just a flat June would still see second quarter retail sales volumes up some 12.6 percent versus the first quarter. The rebound in both demand and supply has been reflected in the labour market where the ILO jobless rate is now at its lowest level since the third quarter of last year. Meanwhile, Brexit effects on trade with the EU remain negative but seem to have dwindled markedly since the start of the year.”

Fed will not act “pre-emptively”

Note that today’s flash PMI includes fresh data on input cost inflation, now up for the 5th month and at the record high last seen in 2008, while output price inflation is hitting an all-time high for the second month in a row (FT).

The other fly in the ointment (the first being the delta variant) is the ending of the wages subsidy for furloughed workers, technically the Coronavirus Job Retention Scheme, which will end in September. If the BoE waits until those effects arrive, that’s not until November, and by then, inflation could be wildly higher. So, bottom line, we imagine the BoE will sound a bit hawkish and the markets will exaggerate it to imminent tapering/hikes, which should favor sterling.

Or it may be priced in already. The Daily Shot offers this chart from ING naming published market sources. It shows expectations of 4 bp this year and 25 bp next year.

Fed will not act “pre-emptively”

To summarize, the Fed is resisting any groundswell in markets that it needs to address inflation, insisting it has time to see how transitory it will turn out to be. So far the economics universe is willing to go along, being able to blind itself to existing home sales prices up 24% y/y, and never mind oil closing in on $75. But while the Fed waits, others are acting. So far it’s not the majors (sorry, Norway and Hungary), but the Bank of England has the opportunity to change that. If the UK seems hawkish, watch for the Fed to be named “behind the curve” and the dollar to suffer.

Meanwhile, the current move is corrective and it remains to be seen how far it goes before ending.

Tidbit: Everyone wonders how the UK economy has weathered Brexit so well when every story ahead of time was nothing but doom and gloom. Here’s one answer: according to the FT, “UK exporters have been given more than £12bn in state financial support to keep Britain trading with the rest of the world through Brexit and the pandemic.

“UK Export Finance, the government’s export credit agency, provided British businesses with the highest level of financial support in 30 years in the 12 months to the end of March, according to its annual report published on Wednesday. This is almost treble the amount from the previous financial year, to help exports to 77 countries.” Aid takes the form of loan guarantees, insurance and direct lending. “UKEF provided more than £7bn in support to companies disrupted by the pandemic, such as Rolls-Royce, Ford, easyJet and British Airways, with a mixture of trade guarantees and insurance to encourage private sector lending to exporters.”

US Tidbit: It’s not fresh news anymore but still getting airtime–last February, Trump wanted to quarantine US citizens returning from abroad, including those cruise ship passengers, at Gitmo. Nobody should be shocked–it’s perfectly consistent with his mindset. Separately, Maddow reported that the fruitcake guy with the fake name (he changed it from Jeffry Jovan Philyaw to J Hutton Pulitzer) who is heading the fake Arizona “audit” of the ballots, is a supporter of the UFO fruitcake crowd who say it was aliens who shot JFK and brought down the World Trade Center. Note that these are the associates and lackeys of the Republican party.


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