Fed Warn Of Disinflation With BOE, ECB In The Wings

Yesterday’s onslaught of US data was a real mixed bag for the world’s largest economy, but found traders still eager to back the USD over most other currencies. Strong jobs data from ADP started the ball rolling. ADP’s jobs numbers have typically underestimated the number of jobs added to the US economy in one month, as seen by the revisions higher that take place later down the line. Yesterday’s number of 200,000 jobs added was well above the 180,000 estimate and Friday’s NFP consensus of 185,000. Given the innate relationship of Fed monetary policy and the jobs market, it was a no-brainer that traders would get behind the USD as a result.

Calling GDP a ‘win’ for the US wasn’t so clear. While the headline number beat estimates (1.7% annualised vs 1.0% expected), figures for the first quarter of this year and the last quarter of 2012 were revised down heavily, pushing the actual annual growth rate down to around 1%. Unemployment remains at 7.6% and the structural issues around growth show that we should not be viewing the US economy as healthy.

The role of inflation in the US economy is key, with the Fed’s preferred inflation measure, the Personal Consumption Expenditure index, slipping to 0.8% – the second lowest on record. The Fed’s target is 2.5%.

At last night’s Fed meeting, the Federal Open Markets Committee, the rate-setting portion of the Federal Reserve, warned of disinflation at its latest meeting. “The committee recognizes that inflation persistently below its 2 percent objective could pose risks to economic performance, but it anticipates that inflation will move back toward its objective over the medium term”. Apart from these thoughts on prices, there was little new from the Fed and, with no August meeting, it is 6 weeks until the next gathering of the FOMC; the meeting that a fair few of my profession believe will signal ‘tapering’ of the Fed’s asset purchases. Overnight, the USD has remained in the driving seat.

Overnight, as it is the 1st of the month, we have been inundated with readings from Asian manufacturing sectors. PMIs are some of my favourite indicators (wow, that’s sad), but unfortunately, today’s readings are tending to suggest a continuation of the recent fall-off in economic prospects. Readings from Japan, Australia, South Korea, Taiwan, Vietnam, Indonesia, India and Russia were all lower and most were below the 50.0 bound that delineates growth and contraction.

European numbers have started well with Ireland beating expectations (51.0 vs 50.3) but the real numbers that people want are the Southern European periphery and core – Spain at 8.15am BST, Italy at 8.45am, France at 8.50am, Germany at 08.55am and the entire Eurozone at 9.00am. Expectations are of razor thin growth overall.

The UK’s measure is expected to advance once more and may stymie the recent downfall in GBP for a couple of hours at least.

Today is dominated by the meetings of the Bank of England and the European Central Bank; both are expected to be dovish but just by how much? Sterling has come in for a beating against the single currency on the basis that, while both central banks have spoken about forward guidance and rates remaining lower for longer, we envisage the path to these is a lot easier for Dr Carney than it is for Mr Draghi.

We do not believe that there will be any action from either bank today, with the BOE signalling that any interest rate comment will take place at the Bank’s Quarterly Inflation Report due next Wednesday. This may only delay the pain for sterling for another 6 days however. There is the possibility of further QE today as part of a new policy initiative but we are unconvinced.

Once again, the ECB meeting is a trickier one to read given the sea change in policy from never ‘pre-committing’ to future policy actions to the forward guidance of ‘expecting the key ECB interest rates to remain at present or lower levels for an extended period’. We doubt that we’ll see any rate action this month, especially considering next month’s meeting the committee will have updated growth and inflation projections.