Fed and Flash PMIs Dominate the Week Ahead

The Federal Reserve meeting that concludes Wednesday is the most important event of the week. There are now few participants, if any, that expect the Fed to reduce its long-term asset purchases now or even next month. Many see the September as a more likely time frame and a recent poll found the median expectation for tapering to take place in October.

There are three aspects of the Fed's meeting that will garner attention. First is the statement itself. We suspect there will be little there to suggest change in QE. There are unlikely to be significant changes in the economic assessment. There may be some minor tweaks in the language. For example, the easing of price pressures may be noted in stronger terms that the last statement's recognition that inflation was "somewhat below" the FOMC's long-term objective.

Second, the Fed will provided updated forecasts. These may be more important than usual as it is part of the Fed's forward guidance. If the Fed is to taper off its asset purchases, ideally, it would be reflected in anticipation of quicker growth, a faster decline in unemployment, and/or high inflation. Yet, we expect little change in the forecasts, and, if anything, it may shave this year's growth forecast from the 2.3%-2.8% pace forecast in March. The unemployment rate was forecast at 7.3%-7.5% this year and in May it stood at 7.6%. We look for little change there. The core PCE deflator forecast was 1.5%-1.6%. In April it stood at 1.1%. There does seem to be scope for the Fed's forecasts to be shaved a bit.

Third, Bernanke will hold his post-meeting press conference. We expect his prepared remarks to avoid specifics about tapering, except to note that 1) tapering is not the same as tightening and 2) the Fed's decision is data dependent.   We see the recent tapering talk as an effective exercise of forward guidance that succeeded in removing or at least diminishing the risk of asset bubbles being fueled by the Fed's continued purchases. 

The ECB has also been engaged in a successful forward guidance exercise.  The talk of being "open-minded" about a negative deposit rate appeared to have helped give the 25 bp refi rate cut greater impact insofar as it suggested the ECB can still do more.  This week's main euro zone data will be the flash PMIs.  They are expected to confirm an improving cyclical outlook.  

The ECB also suggested it was looking at potential ways to help facilitate lending to small and medium sized businesses.  Yet this increasing looks like something for the governments rather than the central bank.  Before the weekend the four largest euro area members (Germany, France, Italy and Spain) agreed to look at mobilizing the European Investment Bank (EIB) that can channel funds through state development banks for SMEs. 

Sterling is trading near four-month highs.  It reports inflation figures this week and retail sales.  They are both expected to tick up.  CPI has been trending lower since late 2011, but is sticky in the 2.2%-2.7% range.  Retail sales have been soft, declining five of the last seven months and three of the last four.  Minutes from the MPC meeting early this month will be released, but given that Carney takes the reins in a couple of weeks probably denies the minutes of having much market impact.  

The Reserve Bank of Australia also publishes the minutes from its recent meeting.  While scope exists for additional easing, the market has moved away from a July cut.  We anticipate an August rate cut and a rate cut in Q4. 

In addition to the Federal Reserve's meeting, the Swiss National Bank and Norway's central bank meets this week.  We expect both to announce no change in policy.  

The G8 Summit kicks off today.  The EU agreement before the weekend paves the way to launch a trans-Atlantic free trade talks.  Moreover, with Europe moving away from its austerity thrust, this blunts a potential criticism.  Ironically, the US, which has been critical of Europe's austerity emphasis, has the tightest fiscal policy within the G8 this year.   Japan may come under pressure to implement structural reforms after Abe's "third arrow" was a bit of a dud, disappointing those who anticipated bolder action.  However, it is politics, and especially responding to developments in Syria that may be the most divisive, though Russia seems isolated within the G8.  

Japan reports May trade figures near midweek and another large trade deficit is expected.  After improving on a seasonally adjusted basis in March and April, some widening is expected.  While exports are likely to improve for the third consecutive month, import growth also continues.  The weaker yen appears to be lifting the value of imports more than exports.  

Among the emerging markets we note that India left rates steady today, as expected.  Turkey's central bank meets tomorrow and no change is expected.  South Africa reports CPI and current account figures on Wednesday.  The flash Chinese PMI is due Thursday.