Should we care about the European Central Bank?

Thoughts of the Day

The ECB will hold their policy meeting next week and comments from various members of the committee seem to indicate that they’re very likely to start cutting interest rates next week. They were the last of the major central banks (excluding the Bank of Japan) to start hiking interest rates in this cycle and looks likely to be the first to begin the interest rate cutting cycle. This is something we should pay attention to as this means that they’re now confident that inflation will continue to head lower even if they start cutting interest rates.
Of course, there’s always a chance that they are wrong, and will have to backtrack but policymakers tend to move too slow when trends start to end and reverse. If this remains true to history, it could mean the war on inflation could indeed be over and disinflation could be something that the major central banks will have to contend with in the months ahead.

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Day Ahead

  • US GDP 2nd Estimate (Growth rate: +1.5% QoQ expected vs +3.4% prev, Price Index: +3.1% QoQ expected vs +1.7% prev)
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What Happened Yesterday

Market Movements as of New York Close 29 May 24

US bond yields continue to grind higher after the weak 5-year auction results of the day before. Yesterday’s 7-year auction also had weaker than expected demand with the yield at 4.65%, slightly higher than the expected 4.637%. This being the 3rd auction in the row that had lower than expected demand worried investors. The higher US bond yields weighed on market sentiment and caused asset prices to weaken on the day. 

The US stock market opened lower from Tuesday. It then remained within a narrow range throughout the New York session. The S&P 500 fell -0.74% (high: -0.45%, low: -0.82%), the Dow Jones dropped -1.06% (high: -0.135%, low: -1.13%) while the Nasdaq slipped -0.70%  (high: -0.29%, low: -0.86%).

The crypto market was down on the day due to broad based risk aversion.
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Headlines & Market Impact

US firms grow more pessimistic on economic outlook, Fed survey shows

Notable Snippet: U.S. economic activity continued to expand from early April through mid-May but firms grew more downbeat about the future amid weakening consumer demand while inflation continued to increase at a modest pace, a U.S. Federal Reserve survey showed on Wednesday, as central bankers mull how long they will need to keep interest rates at current levels.

The survey, released roughly every six weeks, comes as policy makers remain uncertain on when to start a rate-cutting cycle after holding interest rates in the range of 5.25% to 5.50% for the past 10 months. They are keenly watching trends in activity, jobs and pricing pressures in order to make their decision.

“National economic activity continued to expand…however, conditions varied across industries and districts,” the Fed said in its survey, known as the “Beige Book,” which polled business contacts across the central bank’s 12 districts through May 20. “Overall outlooks grew somewhat more pessimistic amid reports of rising uncertainty and greater downside risk.”

Waning consumer demand was an ongoing concern for many firms, the Dallas Fed noted, while the continued conflict in the Middle East and further geopolitical tensions across the world were also cited as downside risks.

Most Fed districts reported slight or modest growth in economic activity, while two noted no change, the survey said. In particular, retail spending was described as flat to up slightly, echoing recent data that indicated consumers are pulling back on spending.

Wage growth continued to grow mostly at a moderate pace but several Fed districts reported firms telling them it was now at pre-pandemic historical averages or was normalising toward those rates.

U.S. job gains were the fewest in six months in April and the increase in annual wages fell below 4.0% for the first time in nearly three years, although the labour market remains fairly tight.

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IMF upgrades China’s GDP growth forecasts but warns of risks ahead

Notable Snippet: China’s economy is set to grow 5% this year, after a “strong” first quarter, the International Monetary Fund said on Wednesday, upgrading its earlier forecast of 4.6% expansion though it expects slower growth in the years ahead.

The global lender’s new projections come as Beijing steps up efforts to shore up an uneven recovery in the world’s second-biggest economy, which has stumbled in the face of a protracted property crisis and its ripple effects across investors, consumers and businesses.

The IMF said it had revised up both its 2024 and 2025 GDP targets by 0.4 percentage points but warned that growth in China would slow to 3.3% by 2029 due to an ageing population and slower expansion in productivity.

It now expects China’s economy to grow 5% in 2024 and to slow to 4.5% in 2025.

“The upgrade that we have for this year mainly reflects the fact that first quarter GDP growth came in stronger than expected, and there were some additional policy measures that were recently announced,” IMF’s First Deputy Managing Director Gita Gopinath said in Beijing.

A Reuters poll that was completed before the first quarter GDP data had forecast China’s 2024 growth at 4.6%, but many economists have upgraded their projections since the release of the stronger numbers.

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European Central Bank’s Knot says monetary policy to ease ‘gradually,’ as markets brace for June rate cut

Notable Snippet: European Central Bank Governing Council member Klaas Knot said it would “soon” be time to ease monetary policy in the region, but cautioned that the process would need to be done slowly to keep inflation in check.

“It can soon be appropriate to ease the currently restrictive monetary policy stance and gradually take our foot off the brake … policy rates will slowly but gradually move into less restrictive levels,” Knot, head of the central bank of the Netherlands, said at the Barclays-CEPR International Monetary Policy Forum in London Tuesday.

A slew of ECB policymakers have firmly suggested a first rate cut in this current cycle will come at next week’s June meeting, leading money markets to fully price in that scenario. In a Reuters poll of 82 economists this week, all said they expected a June cut.

But there is uncertainty about the outlook from there, particularly given the stickiness of services inflation in the euro zone and the murky global picture.

While it was the last of the three to begin hiking, the ECB is now near-certain to begin cutting before both the U.S. Federal Reserve and the Bank of England, which have both indicated they require further progress to be made on reducing inflation.

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Phan Vee Leung
CIO & Founder, TrackRecord