The global monetary easing cycle continues, but still in an unsynchronized manner. While more cuts are forthcoming from the Fed, it is likely that European and Japanese rates will stay on hold for now.
While the ECB is embarking on open-ended QE, the Federal Reserve has retained a reactive rather than pre-emptive approach – and the same can be said of the People’s Bank of China (PBoC). The Bank of Japan (BoJ), meanwhile, is dragging its feet on actual easing, hoping that firmer forward guidance is sufficient.
Looking ahead, we believe more rate cuts by the Fed are forthcoming, while the PBOC’s easing work also does not seem done yet, either – certainly if global economic weakness were to take a further turn for the worse. In the Eurozone and Japan, where easing room has been largely exhausted, the ECB and BoJ are to retain an easing bias but would likely stay on hold for the time being. In bond markets, the bounce in yields may have somewhat further to go. But given the asymmetric downside cyclical risks and secular trends, we would fade this.
The FOMC is divided. That is the main conclusion following the recent sequence of speeches by FOMC members, and judging from the minutes from the last meeting. They were less divided on the balance sheet, which will now expand again via T-bill purchases, but more divided on rates. Fortunately the three leading FOMC members (Powell, Clarida, Williams) appear to be in the same camp. They appear willing to cut rates in October and will probably want to avoid pre-committing to further easing, which is more or less what their stance was in July and September.
The market has priced in 25 basis points of easing for this meeting and it would be quite a shock if the FOMC were to deviate from this path. At the same time, it would be surprising to see much commitment to further easing beyond this, given the divergence within the FOMC, the preference for a meeting-by-meeting attitude and the stable ‘dot plot’ that was presented in September. So, the October meeting will probably disappoint somewhat, in the same way that the July and September meetings initially disappointed.
It was no surprise to hear outgoing ECB President Mario Draghi stressing the need for a prolonged phase of highly accommodative monetary policy, while reiterating that the ECB stands “ready to adjust all of its instruments, as appropriate” – hence retaining an easing bias. Moreover, the ECB’s Governing Council continues to expect keeping policy rates at “present or lower levels” until it sees the inflation outlook convincingly converge to the target, to the extent that such convergence is reflected consistently in core inflation dynamics.
Meanwhile, net asset purchases, which will be restarted on 1 November and amount to EUR 20bn per month, are still expected to run “for as long as necessary, and to end shortly before” the ECB starts raising rates (which, in turn, remains state-dependent on inflation dynamics).
The PBoC is taking a gradualist, targeted approach to monetary easing for a number of reasons, and so far has refrained from cutting its policy rates. The first and foremost reason is the trade dispute with the US. With US President Trump and Chinese President Xi Jinping possibly agreeing a ‘phase one’ trade deal next month at the APEC summit, the PBoC may not want to put further depreciation pressure on the CNY exchange rate.
Secondly, Chinese authorities seem to have a higher tolerance for slower growth than in the past, given the focus on deleveraging and de-risking their financial system, especially in the context of a pork-price-induced rise in consumer price inflation to 3% in September.
Thirdly, the stronger credit data in September may have reinforced belief that the Chinese macro data may soon start to bottom out, as also signaled by the OECD’s leading indicator and our Economic Barometer.
We are sticking to our view that the BoJ will leave monetary policy unchanged at its policy meeting on 30-31 October, apart from making possible minor changes in its forward policy guidance. There is persistent speculation in the markets that policymakers will reduce the short-term policy rate into more negative territory, in order to deal with potential further downside risks to economic activity and inflation. We remain skeptical about this possibility, though.
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