Inflation in View as Markets Await RBA, Fed FOMC and BoE Decisions
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With the inflation situation deteriorating in most advanced economies, central bankers have some important decisions to make this week – kicking off with Australia on Tuesday, followed by the US Federal Reserve meeting on Wednesday and the Bank of England monetary policy committee on Thursday.
All three meetings will be wrestling with the issue of elevated inflation and how quickly to start tapering asset purchases and in the Bank of England’s whether to start increasing interest rates from this month.
The gatherings follow the European Central Bank (ECB) meeting last week, where policymakers sought to steer a course between tightening and maintaining sufficient stimulus to keep economic recovery on track.
RBA credibility risk as yields climb
The Reserve Bank of Australia has something of a credibility problem, with a surprise worsening of the inflation position catching the central bank on the hop.
RBA governor Philip Lowe faces a tough test on the bond purchasing front, after the bank failed to intervene in the market to maintain its yield target.
Last week’s inflation data saw headline CPI jump to 3.0% and the RBA’s preferred measure, the core inflation rate, hit a six-year high of 2.1%. That led to a bond sell-off and surging yields.
The RBA had previously forecast that inflation would not reach 2.0% until mid 2023. Markets are worried that the wayward forecast is just one indication that policymakers are behind the curve.
Key Australia bond yield surges
In addition, the key April 2024 bond hit 0.21%, more than twice the target level of 0.1% that the RBA is committed to maintaining. Even more worrying for the RBA, last Friday the yield at one stage touched 0.8%.
Analyst Ben Udy at Capital Economics sees the RBA now under pressure to step up tapering. “The strong rise in underlying inflation will keep pressure on the RBA to keep reducing monetary stimulus in the months ahead.”
Bloomberg Economics’ James McIntyre adds that Tuesday’s decision is “shaping up to be a potentially market-moving one”.
US Fed FOMC: market expects taper timing details
The Fed FOMC is expected to announce the start of the tapering of its $120 billion asset purchase programme. on Wednesday, after previous indication from FOMC members that the “substantial further progress” test on inflation has been met, although there is less clarity around labour market conditions.
However the market will be awaiting greater visibility on the timing of the stimulus withdrawal measures and the rate at which the purchases are slowed.
US inflation is running hot at 5.4% and the Fed’s preferred measure, the core personal consumption expenditures price index, rose year on year to 4.4% in September.
The meeting comes before the key non-farm payrolls data due on Friday.
US nonfarm payrolls on Friday
Economists forecast an increase of 450,000, which would be more than twice the previous month’s disappointing figures, with unemployment to be marginally improved at 4.7% compared to 4.8% the previous month.
Durable goods and manufacturing PMIs are also on tap, with PMI out today (Monday 1 November) this week, which will also help the markets to workout the ongoing strength of the economic recovery.
Data from China over the weekend showed a contraction in factory output for the second successive month.
Bank of England: hike expected but also a dial back on market hawkishness
BoE governor Andrew Bailey has recently said the central bank will “have to act” to control UK inflation, but whether the BoE pulls the trigger on Thursday will come down to the decision of the whole MPC.
In particular, two MPC members’ actions will be closely watched as possible swing voters, Ben Broadbent and Jon Cunliffe.
While the markets seem to have priced in a rate increase, analysts and economists remain divided.
Dan Hanson and Jamie Rush from Bloomberg Economics said: “There’s a fierce debate raging on the Monetary Policy Committee about whether to raise interest rates next week. Financial markets think it’s a done deal, thanks to a series of hawkish interventions by Governor Andrew Bailey. We’re less sure.”
ING analysts would seem to concur with that caution about the scale of imminent rate hike, although they do expect to see lift-off take place this Thursday.
Markets may be overestimating scale of future BoE tightening
“We expect a 15bp rate hike from the Bank of England next Thursday, following recent hawkish comments. But markets are overestimating the scale of future tightening, and we expect some modest pushback from policymakers in the form of lower medium-term inflation forecasts and a split rate hike vote.”
The ING analysts believe that policymakers may even be at pains to try and rollback some of the more hawkish expectations in the markets about the rate of tightening going into 2022.
“There seems little doubt now that markets are overestimating the extent of tightening next year. Investors reckon rates will need to go to 1.25% or higher, which is both higher than at any point since the financial crisis, and above what’s priced for the US Federal Reserve, whose inflation challenge is arguably more acute. We expect at most one or maybe two rate rises next year.”
The Bank of England needs to be careful not to to over egg the pudding and risk cutting off the lifeblood of the economic recovery by moving too aggressively on rates, given the demand dampening impact of the tax rises emanating from HM Treasury.
