Macro: Tracking the Loss of Momentum

The two axis around which risk appetites gravitated for the past six months is in full force next week.  The first is Covid-19 itself.  Many countries are experiencing a new intensification of the virus spread, including wide swathes of Europe and more than half the US states.  New social distancing rules are being (re-)imposed, which cannot have constructive consequences for near-term economic consequences. Canada's Trudeau warned that his country was at a tipping point for the second wave.  

With some trepidation, the northern hemisphere heads for winter and less outdoors just as many people's acceptance of the limitations of the pandemic grows thin.  China claims to have been using its own expedited vaccine on hundreds of thousands of people before finishing phase three testing to confirm its safety and effectiveness. Beijing appears to have gone beyond the emergency situation recognized as an exception by international standards of WHO.  The challenge of returning to school and work has proved more difficult than initially appreciated.  It is difficult to find a locale where strict social distancing rules were enforced too long while there seems to be plenty of premature relaxation.  A vaccine, improved therapeutics, or herd immunity is necessary, so we can begin to determine how this year's experience will creating lasting changes besides accelerating some trends, including work flexibility and shopping on-line. 

The other axis is the response to the shock.  Both the public and private sectors have responded.  Canada, Australia, and the UK have announced fresh fiscal measures over the past week or so.  Negotiations for more fiscal stimulus amid mounting evidence that the pace of recovery has moderated have been abandoned.  Many economists have been removing it from the assumption of their Q4 GDP forecasts, but the markets' reaction on October 6 suggested many had not taken it on board.  Ironically, there is a broad agreement that more fiscal support is needed, and the Federal Reserve has been beating this drum too.  The election will determine the size and priorities of the fiscal package. 

The Reserve Bank of Australia's statement at the conclusion of last week's meeting seemed to open the door a bit more to an easier monetary policy. The government unveiled new fiscal efforts as well. The 3-year yield, which the central bank targets at the same time as its cash rate of 25 bp, has been trading closer to 12 bp.   The RBA meets again on November 3, and speculation has increased that a small rate cut will be delivered.  The Bank of England meets a few days later, and a rate cut and an increase in Gilt purchases are anticipated.  

Unacceptably low inflation, a slowing recovery, strengthening euro, and a surge in Covid appears to have resolved the recent debate over whether the ECB will use the entire amount earmarked to be bought under the Pandemic Emergency Purchase Program.  Recall in June, it was expanded to 1.3 trillion euros (from 750 bln) and extended to the middle of 2021 from the end of 2020.  The program is likely to be expanded, perhaps by 500 bln euros, and extended to the end of 2021.  Moreover, by adopting a rate on loans (TLTRO) below the deposit rate,  the ECB created space to lower rates again.  The October 29 ECB meeting will discuss and provide a few word cues of its intent before moving in December.  

Until the end of next week, and the EU summit, which we will discuss shortly, the focus reverts back to how the private sector is coping.  Most of the data will inform forecasts for Q3, but outside of corporate earnings, the macro story may not particularly salient for the market outside of headline risk.  It is well appreciated that the high-income economies bounced back in a big way in Q3.  It is also widely recognized that many economies appeared to lose momentum in the last half of the quarter. 

Insight from the beginning of the new quarter is desired, recognizing the trade-off between timeliness and accuracy, in terms of identifying a broad trend.  It comes next week in the form of the NY and Philadelphia Fed manufacturing surveys.  Germany's ZEW investor survey for October will also be reported.  Weekly initial jobless claims in the US will be for the first full week of October, and the week ahead is the survey period for the next monthly jobs report.  

The US and China will report producer and consumer prices for September next week.  Simply put, US price pressures are increasing while China's are moderating.  In recent months, US inflation measures have more often surprised on the upside, but are still modest.  The headline US CPI rate is expected to have ticked up to 1.4% last month from 1.3%.  Looking ahead, the base effect alone warns of the risk of additional upside pressure in Q4.  Core prices are a bit firmer at 1.7%, where the median forecast in the Bloomberg survey is for an unchanged year-over-year. In Q4 2019, the core rate rose by a little more than 0.1% on average, making for relatively easy year-over-year comparisons.    The change is US producer prices have been negative on a year-over-year basis from April through August and are expected to have returned into positive territory in September.

China's CPI is decelerating.  Recall it stood at 5.4% in January and 2.4% in August.  It is expected to have fallen to 2% in September.  Food prices are moderating.  They rose by 13.2% year-over-year in July and 11.2% in August.  The rise in pork prices slowed to only around 50% from over 85%. Core prices posted their first year-over-year decline in a decade in August (-0.1%).  There appear to be two drivers.  First, Beijing's response to the crisis has not included much help for households and demand.  Second is the knock-on effect of lower energy prices and technological advancement as transportation and communication prices eased.  Since the middle of last year, China's producer prices have been negative, but the deflationary thrust has been weakening since May when it reached -3.7% year-over-year.  It expected to have been nearly halved to 1.8% in September.  

Japan, the eurozone, and the US report industrial production figures next week, but each is a bit different.  Japan has already reported its August figure.  It offers a final reading after initially reporting a 1.7% increase after a record 8.7% gain in July. It was the third consecutive increase, and autos and electronics appeared to lead advance.  The largest eurozone members have reported disappointing national figures for August, including a 0.2% decline in Germany (median forecast in the Bloomberg survey was for a 1.5% gain).  Italy was ironically the exception.  It reported a jump of 7.7% compared with forecasts for a 1.4% rise.  After rising by 4.7% in July, industrial output in aggregate may be less than 1%.  

The US reports September industrial output.  Many economists are looking for an acceleration after a 0.4% gain in August to 0.7%.  We see downside risks to the consensus with manufacturing contributing less (rising by 0.8% vs.1.0% in July) and utilities unlikely to repeat August's 3.3% surge.  Mining rose in August (0.8%) for the first time since January, will oil and gas drilling fell by 8% after slumping 18% in July.  Recall that the price of WTI for November dropped by 6.25% in September, the first decline since April.  US capacity utilization finished last year near 77.2% and collapsed to about 64% in April.  It had recovered to 71.4% in August and may have edged a little higher in September.  

The US also reports September retail sales, which account for around 40% of household consumption, which in turn is around 70% of GDP.  Economists were disappointed in August.  The median forecast then was for a 1.0% increase in the headline and 0.3% in the core elements, which feeds into GDP models.  Instead, the government reported retail sales increased by 0.6%, and the core fell by 0.1%.  The Bloomberg survey's median forecast looks for a 0.7% increase in the headline, helped by auto sales, which were stronger than expected, and a 0.1%in the core rate.  As the labor market readings have weaker than expected, and some government transfers ended, the risk seems to be on the downside. 

Among other data points, China's trade figures always attract attention.  Chinese September figures will confirm that it remains far behind in achieving interim trade targets in the Phase 1 trade deal with the US. The eurozone's aggregate August trade surplus will also be reported.  German and French figures have disappointed, so the risk is on the downside after three months of a growing surplus.  July's surplus was about 20.3 bln euros, about a quarter larger than July 2019.  

Australia and the UK report their latest employment figures.  Australia saw an unexpected surge of 111k jobs in August, of which roughly two-thirds were part-time positions.  The market had been looking for around a 35k loss of jogs, and although the median was off by a mile,  it again looks for around a 35k loss of jobs.   August was the third consecutive monthly gain, and about half of the jobs lost appear to have returned, but there is a significant discrepancy, which could have a knock-on effect on income and consumption.  Of the 373k full-time positions lost in the four months from March through June, only 75k returned in June and July. 

The UK jobs data are difficult to read, given the furlough program ending later this month.  The general sense is the 4.3% unemployment rate understates the situation.  The average hourly earnings component may be distorted by the composition change employment.  The UK does appear to still be losing jobs (three-month over three-month basis), and a new jobs program begins next month, based more on the German model, where the government subsidizes wages of those that the employer reduces working hours.  

The bigger event for the UK is the EU summit.  Prime Minister Johnson has ostensibly threatened to terminate the trade talks if there was no agreement to allow UK businesses to prepare.  It is not exactly clear where Johnson is drawing the line.  It appears that he wants to feel comfortable that an agreement is still possible.  Despite the UK's Internal Market bill, which threatens to override the Withdrawal Agreement, which had been negotiated with the EU and approved by the UK's Parliament, the EU has indicated it is willing to continue to negotiate.  Some progress has reportedly been made. Still, great uncertainty over the outcome keeps implied volatility in both cable and the euro-sterling cross ed elevated, though off last month's peak.  The endgame could extend to the EU summit in mid-November, for which relations with China were to be the chief topic.  

 

   

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