Fed and Riksbank to Hike 75bp; BoE and Norges Bank 50bp

US – Europe – $-Bloc and Scandies – China/Japan – Covid-19 Monitoring

US

Summary

• Fed to hike 75bp.
• Residential market to weaken further though impact on CPI limited.

Fed

I expect a 75bp hike on Wednesday. In addition, since the Fed has very deliberately and explicitly let go of forward guidance, I see a risk that it could also let go of the dot plot, since it constitutes LT forward guidance.

This is not my base case scenario; however, I expect the dot plot to market the terminal rate by raising it by about 50bp while maintaining a soft landing scenario. (See my FOMC preview: forward guidance is out, will the dot plot follow?)

During the press conference I will be on the lookout for Powell’s views on 3 issues:

1. The divergence between inflation expectations, that are going down, and actual inflation, that is going up. 
2. The Fed is struggling to tighten financial conditions, and therefore to slow the economy. 
3. Raising the inflation target and/or extending the period of convergence to the target to reduce the employment cost of lowering inflation.

The Fed has no doubt noticed 1 and 2. I don’t expect that it has impacted their policy yet but the issues are not going away and at some point the Fed will have to confront them.

I don’t expect Powell to mention the 3^rd issue directly since markets would likely react by pricing out hikes and financial conditions would likely ease. Still, the issue is being debated in policy circles and the extension of the SEP forecast to 2025 will give us some sense of where the Fed stands on the issue (see The 2023 Fed policy debate: higher inflation to avoid higher unemployment?)

As of this writing Chair Powell is scheduled to speak on Friday.

Data

This week’s data further demonstrated that inflation is accelerating (see August 2022 CPI: In Line with Macro Drivers). The next fright for Fed and markets is going to be a further acceleration in wage inflation. The avoidance of a strike by railway workers, through a 24% salary increase over 5 years as well as a general pick up in strike activity, suggests it is a question of when, rather than if. 

This week’s key data is on residential real estate, with the NAHB index on Monday, permits and starts on Tuesday, and existing home sales on Wednesday. Home sales have been falling since January and therefore the gloomy consensus forecast appears reasonable to me. At the same time new listings have been falling sharply, which could give some resiliency to prices.  The next release of house prices on 27 September. In any event the relationship between house prices and OER in the consumer price indices is limited in the short term.

Other important data include:

• Unemployment claims (Thursday): The consensus expects roughly no change.  The data is noisy, so I do not have much conviction. If anything a negative surprise is possible in line with a strengthening economy.
• Current account balance (Thursday): The consensus expectations of an improvement appear reasonable in view of the improvement in the trade balance.
• S&P PMIs (Friday) and KC Fed manufacturing survey (Thursday): The consensus expects small improvements which seems plausible in view of the strengthening economy.

Events/Political Developments

The end of the fiscal year is upon us and Congress is going through its usual government funding antics. A Continuing Resolution (CR) has to be passed by 30 September to prevent a government shutdown and this time around opposition comes from liberal democrats. 

Over the summer, Senate majority leader Schumer made a deal with Senator Manchin where Manchin supported the administration Inflation Reduction Act (formerly known as Build Back Better) in exchange for the Democrats liberalizing energy permitting rules by the end of September. 

To get the permitting measure voted by end-September, the Democratic leadership has attached it to the CR, which liberal democrats have vowed not to vote.

As usual, a last minute deal is likely to get through as the Democrats cannot afford a government shutdown ahead of mid-terms where they are expected to lose the House but might keep the Senate.

Links to New York Fed POMOs/TOMOs:  Repos, Treasury, MBS, CMBS

Europe

Summary

• The UK is out on Monday for the Queen’s funeral.
• The early week will be focused on ECB speaker comments, which are likely to sustain hawkish rhetoric.
• The UK will see two big events, with the BoE likely to hike rates by 50bp and begin active QT on Thursday, while the Chancellor will present his ‘fiscal event’ on Friday.
• Preliminary PMI data will dominate Friday. Expect a continued decline in sentiment readings, with a risk of UK services dropping sub-50.

ECB Comments to Sustain Hawkishness

The week ahead will provide more opportunities for ECB speakers to fall in line behind the recent acceleration in hiking. This will include the hawks emphasising the need to sustain the hiking momentum to prevent de-anchoring expectations, and pointing towards the continued weakness in the currency. The doves will be more focused on the need to keep periphery spreads anchored.

With the Italian elections on Sunday 25 September and core EGB yields re-testing YTD highs, even with spreads relatively constrained it is likely that 10Y BTPs will try a break above 4% soon. Fundamentally, we feel the TPI is strong enough to defend the spread from sustained widening and the capacity for even a Eurosceptic coalition, to seriously derail reforms necessary for the receipt of EU RRF monies is limited. However, that does not mean the market won’t to test the ECB’s mettle in the near-term.

BoE to Hike 50bp, Begin QT – but Path to Dovish Pivot Begins Now

The BoE’s delayed meeting will likely see it hiking 50bp and beginning the active sale of gilts (likely at the previously guided £10bn per quarter). The lack of updated forecasts (not due until November), and the disinflationary effect of recent fiscal stimulus (to be fully announced on Friday) should dissuade the MPC from considering an acceleration right now. Instead, it is likely that Governor Bailey will want to wait and see the medium-term inflation impacts of the spending package before giving further such guidance. Ultimately, when that time comes (at the November MPR), we expect they will err on the dovish side.

By our calculations, the spending will significantly dampen near-term inflation, and add little to the rate further out (Chart 1). Consumers will avoid the savings crunch that would have otherwise been the case, but they will still be looking into declining real wages into the middle of next year. Last week’s August retail sales numbers showed just how much pain this is inflicting – next week’s CBI September retail sales will likely show this weakness continues.

PMIs to Show Weakness Persists

Next week’s preliminary September PMIs (Friday) should show a continued negative outlook across the Eurozone and UK. Weakness is likely to remain most visible in the European manufacturing sector, although there is also a strong risk that (given the declines in UK consumer confidence and retail spend) the services reading there drops into contractionary territory. Such an outturn would feed into our anticipated timeline for the BoE to tilt dovish at the November MPR (Chart 2). The offset may be the GfK consumer confidence release for September (also Friday). Here, it will be important to see whether the recent energy price cap freeze has lifted the outlook at all.

$-Bloc and Scandies

Central Bank Watch

Reserve Bank of Australia

There have been three key updates since the RBA hiked the cash rate to 2.35% (+50bp):

1. NAB Business Survey: The headline business confidence (+21) and conditions indices (+20) rose, painting a better picture of the economy. However, there were areas where weakness started to show.
2. Inflation Expectations: The 30% symmetric trimmed mean measure fell 0.6pp.
3. Governor Lowe: He proved nerved by the recent stubborn US inflation print and commented that ‘the general inflation psychology appears to be shifting; it is easier for firms to put their prices up and the public is more accepting of this’.

Our base case for October has changed; we see the RBA hiking the cash rate to 2.85% (+50bp). However, we acknowledge that 25bp remains a live option. Meanwhile, on the terminal rate, while we think they will pass 3%, we think that the market-implied terminal rate of 4% is too high.

Bank of Canada

Four key data points remain before the next meeting: August (20 September) and September inflation (19 October) prints as well as an updated consumer expectations survey (16 October) and business outlook survey (17 October). At this juncture, we continue to see the BoC hiking the overnight rate to 3.75% (+50bp) on 26 October.

Reserve Bank of New Zealand

We have been an inch more hawkish than the RBNZ and in line with market expectations. The strong GDP print (+1.7% QoQ) helped our case. We remain confident that the RBNZ will take the OCR to 4% through two 50bps hikes in October and November, and then re-assess the situation. It may mean, at least, another 25bp further down the line.

Norges Bank

The regional survey hinted our suspicions could be true – the Norway economy is weakening. We continue to see Norges Bank hiking the policy rate to 2.25% (+50bp) on 22 September, 75bp seems unrealistic.

Riksbank

Riksbank hiked the policy rate to 0.75% (+50bp) in June, revising their forecasts for higher inflation and lower unemployment in the process. Even with the revisions, forecasts for higher inflation and lower unemployment were beaten significantly. Moreover, wage growth and inflation expectations are picking up, while SEK is nearly 2% weaker than the central bank expected.

We expect the Riksbank will follow the ECB into a faster hiking cycle, while the Taylor rule suggests they could go to near double digits. However, we do not think the Riksbank will hike that far. Sweden’s economy is highly levered while consumers are already feeling the burn.

We expect the Riksbank to double the policy rate to 1.50% (+75bp) on 20 September, though would not rule out a 100bp move. We expect them to follow up in November with another 75bp hike.

Calendar Preview

A busy week for data and speeches, here are the key releases:

Australia

• RBA Kearns at the AFR Property Summit (Sunday, 23:10 GMT +1:00):The housing market has begun to collapse in Australia. However, RBA monetary policy is little influenced by house prices.
• September RBA Minutes (Tuesday, 02:30 GMT +1:00): Minutes in Australia are more of a summary than a typical set of minutes you would see at other central banks. It means less importance is typically placed on them. Moreover, the extra information we would have gained was likely dispersed by Governor Lowe’s Parliamentary Testimony.
• RBA Bullock at Bloomberg (Wednesday, 03:00 GMT +1:00): We are looking for any signs that the Deputy Governor thinks the central bank needs to proceed with 50bp at this juncture.

Canada

• Inflation (Tuesday, 13:30 GMT +1:00): Following a stubborn US CPI print, we will see the first of two new inflation prints available to the BoC at its October meeting. We expect the headline number to continue to fall and the core number to remain stubborn, keeping pressure on the BoC.
• Retail Sales (Friday, 13:30 GMT +1:00): StatCan’s advance estimate showed a 2% decline in retail sales due to lower gas sales. Meanwhile, the RBC Consumer Spending Tracker suggests spending on other items was flat through the month. We agree with consensus who expect a 2% fall.

New Zealand

• Both speeches (by RBNZ Orr and RBNZ Hawkesby) will not deliver anything that could materially affect the outlook of the central bank’s monetary policy.

Norway

• Norges Bank Interest Rate Decision (Thursday, 09:00 GMT +1:00): We expect them to hike the policy rate to 2.25% (+50bp).

Sweden

• Riksbank Interest Rate Decision (Tuesday, 08:30 GMT +1:00): We expect them to double the policy rate to 1.5% (+75bp).
• Speeches by Riksbank Ohlsson and Floden (Thursday): We expect that they could likely hint that the Riksbank will continue at a fast pace given they were more hawkish members of the June meeting.

Links to BOJ Rinban , BOE OMO

China/Japan

The BoJ is holding its policy meeting this week and is expected to stay on hold. Please see Bilal’s comments in our new publication, Friday Reflections, where he  gives an overview of our high level views across all markets.

Key data releases this week include Japan’s CPI and PMIs. 

COVID-19 Monitoring

Dominique Dwor-Frecaut is a macro strategist based in Southern California. She has worked on EM and DMs at hedge funds, on the sell side, the NY Fed , the IMF and the World Bank. She publishes the blog Macro Sis that discusses the drivers of macro returns.

Henry Occleston is a Strategist, who focuses on European markets. Formerly, he worked in European credit and rates strategy at Mizuho Bank, and market strategy at Lloyds Bank.

Ben Ford is Researcher at Macro Hive. Ben studied BSc Financial Mathematics at Cardiff University and MSc Finance at Cass Business School, his dissertations were on the tails of GARCH volatility models, and foreign exchange investment strategies during crises, respectively.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)