Yesterday was a good day for fans of boring central banking. Both the Bank of England and the European Central Bank decided that policy in their respective economies should stay as is – for the next month at least. This was not a great surprise to most especially in the case of the Bank of England.
No statement was forthcoming from the Monetary Policy Committee and now attention must turn to next Wednesday’s Quarterly Inflation Report. The report is likely to show an upgrade to growth and inflation estimates but the key for sterling will be how forward guidance is rearranged. Those who attended our Bank of England and European Central Bank webinar yesterday will have heard that we are not looking for a threshold change from 7.0% to a lower target – the MPC’s limited experience with defined figures has been short and not entirely fruitful. That being said, we will be expecting that the unemployment rate in the UK will need to approach its long-run structural average – below 6.5% – before there are concerted noises from BOE members that a rate hike is on the cards. We hope to see some attention paid to real wage declines next week, something that would strengthen talk of a balanced recovery.
With the European Central Bank also holding rates yesterday, attention switched to Draghi’s press conference. Euro rocked higher for 2 reasons during the speech; one very much within the remit of the ECB, and one that is not.
Recent inflation numbers from the Eurozone have heightened fears over the risk of deflation, something that Draghi dismissed yesterday. Similarities between the Japanese economy and what is happening in Europe at the moment are easy to make. Japan’s economy has been characterised for two decades by slow to non-existent growth, huge public indebtedness, low yields on government debt and falling prices. Compare and contrast that with the most recent data from the Eurozone and the hallmarks of the ‘Japanification’ are there for all to see.
The most recent slip in retail sales by 1.6% in December, the mother’s milk of retail, is the next harbinger for discounting and further deflationary pressures that could be shown as soon as next month. Draghi reiterated at this month’s ECB presser that rates will ‘stay low for an extended period of time’; that is simply not enough. The economy needs massive monetary stimulus and pro-structural policy changes to stave off a lost decade.
The other comment was about emerging market risk and the possibility that it hurts the European economy. Emerging markets provide a lot more trade to Eurozone economies than they do the US and we would likely see pressures in the periphery first. Euro moved higher on carry trade slippage, as it has done through the past week when the EM has wobbled.
So does Draghi’s refusal to acknowledge deflationary risks mean no more dovish moves in monetary policy? Not quite. The strangest of Draghi’s comments during the press conference was that the “complexity of situation prevented action this month”. Does this mean that policy changes will come next month? We think so.
In the meantime there’s the small issue of the US jobs report to deal with today. Between the poor expectations and the likelihood of a significant revision to last month’s figures we’d have to say the wind is definitely in the sales of a bullish surprise. The market is looking for 180k and the unemployment rate to stay at 6.7% upon publication at 13.30 GMT.
