Week in Focus; week commencing 18 February 2019
As another week passes in the Brexit saga, UK lawmakers are still no closer to agreeing on the best strategy for the nation to depart the EU with last week seeing further stalemate in Parliament. To recap events, the HoC rejected Labour amendment “A” which would have called for a full ‘meaningful vote’ by February 27th or the government would have to state that there is no longer a deal, while Parliament rejected the Blackford amendment “I” which would have extended Article 50 by at least 3 months. Furthermore, the UK government’s Brexit motion was also defeated which would have given parliamentary backing for PM May's plan to seek changes to her Brexit deal. In the wake of the vote (albeit non-binding), UK PM May's officials were subsequently reportedly preparing to compromise on their demands to re-write the Brexit agreement and tell the EU it doesn't want to renegotiate the agreement. This is in-fitting with reports earlier in the week suggesting that Brexit Secretary Barclay was angling towards alternative ways to address British concerns given the EU’s ongoing tough stance. One work around rather than re-opening the Withdrawal Agreement could be the formation of a separate document to supplement the current agreement and would expand on the current arrangement for the backstop (Barclay to meet with Barnier on Monday). This could help Brexit negotiations progress between the UK and EU but once again could face a backlash back home for PM May with some of the more die-hard Brexiteers still wanting a complete re-writing of the Withdrawal Agreement, whilst the opposition Labour Party’s stance calls for a customs union with the EU. Brexiteer Jacob Rees-Mogg (who is a good proxy for Brexiteer’s views on the matter) continues to bang the drum for the Malthouse Compromise, however, this remains an option which has thus far been widely discredited by the EU. As such, it still remains unclear exactly what is required for PM May to secure the Parliamentary arithmetic and whether it is possible to obtain from the EU. Looking ahead, ahead of last week’s vote, UK PM May declared that she would return to the HoC on Feb 26th to report on her progress in Brexit negotiations. May suggested that, if by that point, she hasn’t secured a final deal, additional voting on the next steps would take place. If by the end of the month, May has failed to make any meaningful progress, UK lawmakers might begin to try and take some executive powers away from PM May by passing legislation forcing May to seek an extension to Article 50 if no deal is secured by March 13th, thus removing (temporarily) the option of a no deal Brexit. Goldman Sachs currently see a 50% chance of PM May securing a ratified Brexit deal, 15% chance of a no deal and 35% of no Brexit at all.
Heading into the FOMC’s rate decision and statement, the market was looking for an update on the balance sheet, whether the Fed would maintain a “gradual” pace of rate hikes, whether it judges the balance of risks as “roughly balanced” and whether it revises its assessment of the economy. All of those factors saw dovish tweaks in the latest statement: on the balance sheet, the FOMC indicated that it was prepared to adjust the pace of the balance sheet run-off, it dumped language on “gradual” rate hikes, adding in that the Committee will be “patient” on future hikes. The language around “roughly balanced” risks was also dumped, and it downgraded its view of the economy slightly, now characterising it as “solid” from “strong”. The Fed also changed its view on inflation, which it now sees as “muted”. There were some fears among traders that the Fed might not be as dovish as hoped for; that fear was jettisoned with the release of the statement, and the dovish Fed saw risk assets bounce higher. In the press conference, Chair Powell sounded upbeat on the economy, reiterating his now familiar message of data-dependence and patience. He did note cross-current headwinds from the slowdown in Chinese and European growth. On rates, Powell said the case for raising rates has weakened somewhat. On the balance sheet, Powell said the policy will be driven by reserve demand, which he suggested was higher than it was a year ago. He also suggested that it was still not the Fed's primary tool of normalisation, that remains rates, though the balance sheet could be used if required (he later said that in a future downturn, the balance sheet would be used to stimulate the economy, but after using rates). He was quizzed about the ideal size of the balance sheet, though he dismissed the question, suggesting the size will be whatever is most efficient to implement the Fed's policy. Powell said rates were now in the range of estimates of neutral; previously he had seen them in the bottom end of the range of the estimates neutral. On the government shutdown, Powell said that it would leave an "imprint" on Q1 growth, though much of that would be made up in the Q2. On trade talks, Powell said that drawn out negotiations could weigh on business confidence.
The most recent policy announcement saw the central bank stand pat on rates as expected and maintain their guidance on rates and reinvestments. Focus for the press conference largely centred around the Bank’s assessment of the growth outlook for the Euro-area with policymakers opting to classify risks as now being ‘tilted to the downside’ vs. their prior view of ‘moving to the downside’. Since the release, Italy has entered into a technical recession, whilst Germany has narrowly avoided one. However, the account will unlikely provide much more of interest on the growth front with policymakers now likely to wait on the side-lines until the release of the March projections. Furthermore, from a policy perspective, little changed at the ECB last month with President Draghi stating that the implications for monetary policy from the assessment tweak were not discussed. Elsewhere on the policy front, the matter of TLTROs was raised during the press conference with Draghi stating that the matter was brought up by several officials but no decision was taken as the monetary case for a fresh round needs to be presented. Since the previous press conference, various source reports have painted a conflicting view about the Bank’s attitude to fresh funding measures with one report suggesting that TLTROs are seen as a priority, whilst another stated that the governing council sees no urgent need to unveil a fresh round of funding and questioning the necessity in doing so at all. As such, any greater clarity on the balance of views on this front will be a source of focus for markets; ultimately, ABN AMRO expect a TLTRO announcement at the June meeting. Other sources in recent weeks have reported that some ECB policy makers are hesitant to change interest rate guidance as it would impact the term of the next ECB President, adding that the ECB has time to change rate guidance. Any debate of this would be of great importance for the market as it’d raise serious questions over when exactly the ECB would shift from their current stance of rates remaining at their present levels at least through the summer of 2019 as this communique would be stale by the time Draghi departs the Bank.
GERMAN Q4 2018 GDP (Second reading)
This week, data showed German real GDP stagnated in Q4 (0.0% QOQ), though rebounded from Q3’s -0.2%, and managed to avoid a technical recession. “While this indicates that some of the transitory headwinds affecting German industry are finally fading, it seems the rebound in industrial activity may be spread out over several months,” Oxford Economics said. The press release indicated that domestic demand was the key driver of German growth in Q4. Investment was reportedly up, the release said, particularly construction and public consumption. Private consumption was up slightly, though net exports did not contribute to growth in Q4. Next week’s breakdown release will reveal more details. “The idea that net trade was a drag on growth is at odds with the monthly data, but we suspect the monthly import price numbers will be revised to reflect the crash in oil prices,” Pantheon Macroeconomics said. “At the moment, they point to a slight QQ increase in import prices in Q4, which makes no sense, and we assume that the stats office is using a timelier deflator for the GDP calculation.” Pantheon therefore believes that net exports were hit by a crash in import prices, due to falling oil prices, which boosted real imports via the deflator.
At the prior meeting, the RBA kept its Cash Rate at a record low of 1.50% as expected. The statement which followed was surprisingly less dovish than some anticipated as the CB mostly stuck with its usual rhetoric despite the recent slew of less than satisfactory data releases and shifting expectations RBA could cut this year. However, the next day, Governor Lowe shifted to a neutral policy outlook, citing increased domestic and global economic tail risks. Specifically, the Governor noted that the “Over the past year, the next-move-is-up scenarios were more likely than the next-move-is-down scenarios. Today, the probabilities appear to be more evenly balanced”. The SOMP which followed confirmed the Governor’s neutral bias on rates. Inflation and growth forecasts were trimmed for the period up to 2020 in response to weaker consumption, global uncertainties and downside risks. Growth for Dec 2019 and Dec 2020 were cut to 3.0% (Prev. 3.25%) and 2.75% (Prev. 3.0%) respectively, while Core CPI expectations for June and December 2019 were rolled back to 1.75% (Prev. 2.00%) and 2.00% (Prev. 2.25%) respectively.
UK JOBS REPORT
Asides from Brexit, UK investors will be mindful of the latest domestic labour market report. In terms of expectations, headline average earnings are expected to tick higher to 3.5% from 3.4% with the ex-bonus metric forecast to rise to 3.4% from 3.3% and the unemployment rate set to remain at 4.0%. Ahead of the release, Oxford Economics note that the numbers “may show some reaction to weak GDP growth and survey evidence that firms reined back job creation. However, with data already available for two of the three months of the quarter, Q4 still seems on course for a decent 120,000 gain in employment”. That said, given the continued focus on Brexit negotiations, domestic data will likely take somewhat of a backseat with the BoE standing pat on rates until the fog of Brexit has cleared.
Focus for the Eurozone next week from a data perspective will largely centre around the latest PMI metrics from the region which are due for release on Thursday. In terms of expectations, the EZ composite is forecast to fall to 50.8 from 51.0, manufacturing expected to slip to 50.3 from 50.5 and services to tick higher to 51.4 from 51.2. Ahead of the release, ING stress the importance of the numbers by stating they “will give a sense of if we're going to see a turnaround in growth figures, or whether we will move even closer to stagnation halfway through the first quarter”. Furthermore, RBC note, that given the ECB claims to be in ‘data watching mode’ ahead of its March 7th meeting, the release could have direct policy implications for the Bank, particularly if country and sector specific issues could extend the current EZ slowdown.
Oil traders will have an eye on weekend elections in Nigeria, where polls have put the incumbent Muhammadu Buhari slightly ahead, with former Vice President Atiku Abubakar slightly behind. This week, a Nigerian Court issued an arrest warrant for suspended Chief Justice Walter Onnoghen following his failure to appear at a hearing regarding allegations of corruption. "Onnoghen's case has drawn significant attention due to his role, which would normally include overseeing potential disputes in Nigeria's 16 Feb. elections," Stratfor reported, "as a result, supporters have said the case against him is politically motivated, with a group of militants from Nigeria's oil-rich Delta region threatening to resume attacks against oil pipelines and facilities if the trial proceeds." Oil traders will recall the 2016 attacks from the Niger Delta militants which significantly disrupted Nigerian output, which was running at a rate of 1.89mln BPD in December. The latest provides "a timely reminder that Nigerian authorities have yet to conclusively eliminate the threat posed by armed militants," PVM's analysts said, and "by consequence, the rumour mill is now in full swing that the OPEC member’s oil production is on the verge of a hiccup." The oil consultancy adds that "in any case, one thing is assured: Nigeria continues to be a hotspot of uncertainty and therefore a wildcard for the oil market."