All eyes on the EU as ECB faces ‘nightmare scenario’ of record inflation and need to hike rates again
Last week was the fourth successive week of gains for equity markets in Europe as well as the US, despite some high-profile earnings misses.
It’s been particularly notable that while there were some notable earnings misses, especially in the tech sector, by and large the more traditional areas of the market have performed better.
“While equity markets have been rebounding strongly, we’ve seen the US dollar, as well as bond yields start to go in the opposite direction, with sharp falls in both in recent days, begging the question as to why the sudden about turn,” CMC Markets’ chief market analyst Michael Hewson said this morning.
“We’ve seen evidence that inflation may be starting to slow in the US, while at the same time there is increasing concern that the rate rises seen so far are starting to act as a drag on certain parts of the economy, the housing market more noticeably.”
These concerns are likely to have been behind the recent decisions by the RBA, and the Bank of Canada to hike rates by less than expected in recent weeks.
There were also the recent reported comments from San Francisco Fed President Mary Daly just over a week ago, when she said that after November, the time could be ripe for talk about stepping down the current pace of aggressive rate hikes.
“This in turn has fed a hope, or an expectation, that this week’s Fed meeting could see a slight softening of the US central bank’s tone about the size of future rate increases, as we head into 2023,” Hewson said.
“It’s certainly a narrative that isn’t likely to be confined to Mary Daly given that Fed vice-chair Lael Brainard articulated similar concerns in comments made recently,” he continued.
There also seems to be a similar debate amongst other central banks about the balancing act or trade-offs between hiking aggressively and the longer-term impact on the growth glide path of the economy, with last week’s ECB meeting a case in point, where the decision to raise rates by 75bps was not unanimous, with the hawks winning out on this occasion.
Hewson stressed that “we are certainly not anticipating a pause in the Fed’s hiking cycle but rather than seeing big rate moves, we start to see a reduction in the size of any future increases,” after this week’s expected 75bps move, with perhaps 25bps or 50bps in December.
While US inflation appears to be showing signs of slowing, the same can’t be said for inflation in Europe which appears to be continuing to rise, after last week’s hot German inflation numbers for October.
“The sharp rise seen here is likely to manifest itself in today’s final EU CPI numbers for October which are expected to push up above 10 per cent to 10.3 per cent,” Hewson noted.
“Core prices are also expected to rise, from 4.8 per cent to 5 per cent, which in turn could continue to exert upward pressure on rates across Europe,” he said.
“This is the nightmare scenario for the ECB, as the pressure to hike further will only increase at the same time as the economy continues to slow,” Hewson pointed out.
UK mortgage and credit card lending data
In the UK, the latest mortgage and credit card lending data is expected to show further weakness in September.
Mortgage approvals are expected to slow to 63.7k, from 74.3k in August, ahead of the next increase in the energy price cap in October. Net lending on mortgages is expected to slow to £5.2bn from £6.1bn.
Net consumer credit is also expected to slow slightly to £1bn, from £1.1bn.
“As we look ahead to this week’s price action the main driver is undoubtedly going to be Wednesday’s Fed meeting, followed by the Friday payrolls report, although the Bank of England could well provide some fireworks given recent moves in gilt and sterling markets,” Hewson said.
“After last week’s positive finish European markets look set to start the week slightly higher, despite another set of weak Chinese services and manufacturing PMIs, which has prompted a mixed Asia session,” he concluded.