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The Covid-19 shock to the real economy in China, and now the world, is colossal. Asia is leading the downturn, both because the outbreak started in China, but also because of its place in the supply chain.
Swoons in EZ investor sentiment are not always reliable leading indicators for the economic surveys, but it is fair to say that risks for today's advance PMIs are tilted to the downside, following the dreadful Sentix and ZEW headlines earlier this month.
In this Monitor we'll let the data be, and try to make some sense of the recent market volatility from a Eurozone perspective, with an eye to the implications for the economy and policymakers' actions.
Eurozone investors should by now be accustomed to direct intervention in private financial markets by policymakers.
Mexico's financial markets and risk metrics plunged early this week, following the AMLO government's decision to cancel the construction of the new airport in Mexico City, after a public consultation held in the previous four days.
Storm clouds gathered over Eurozone financial markets last week. The sell-off in equities accelerated, pushing the MSCI EU ex-UK to an 11-month low.
Yesterday's headline economic data in the euro area were solid across the board, though the details were mixed.
The Eurozone's external accounts were extremely volatile at the end of Q4.
Politics will be the key factor in LatAm over the coming quarters, as presidential and legislative elections take place throughout the region.
Peru's central bank kept the reference rate unchanged at 3.5% at Thursday's meeting, in line with our view and market expectations.
Banxico's tightening cycle has totalled 400 basis points, lifting rates to 7.0%. Since late 2015, Banxico has followed the Fed closely, but other external factors also have guided many of its decisions.
It seems that yesterday's PMI data left investors and analysts more confused than enlightened.
The coronavirus pandemic is wreaking havoc in Brazil.
The ECB held fire yesterday and kept its main refinancing and deposit rates unchanged at 0.0% and -0.4%, respectively. The central bank also left the pace of monthly asset purchases unchanged at €80B. The introductory statement overall confirmed the central bank's dovish stance.
We'll cover Friday's barrage of EZ economic data later in this Monitor, but first things first. We regret to inform readers that the ECB is behind the curve. Last week, Ms. Lagarde downplayed the idea that the central bank will respond to the shock from the Covid-19 outbreak.
Data on Friday showed that the downward trend in Brazil's unemployment continued into this year. The unadjusted unemployment rate fell to 11.2% in January, slightly below the consensus, and down from 12.0% in January last year.
The global coronavirus pandemic is hitting the LatAm economy at a particularly vulnerable time, following last year's stuttering economic recovery, temporary shocks in key economies and the effect of the global trade war.
Data released on Friday confirmed an appalling end to the first quarter for the Brazilian and Colombian economies. In Brazil, the March IBC-Br, a monthly proxy for GDP, plunged 5.9% month-to-month, close to expectations.
The Chilean economy was emerging in early Q1 from the self-inflicted shock from the social unrest in October, but the upturn was interrupted in early- March by the restrictive measures introduced to contain Covid-19.
The Brazilian presidential election has remained in the spotlight in recent days and is the main driver of asset price volatility.
China has undoubtedly been through a credit tightening, commonly explained as the PBoC attempting to engineer a squeeze, to spur on corporate deleveraging.
The presidential election in Argentina is only four months away and the race is heating up.
Chile's Q3 GDP report, released yesterday, confirmed that the economy gathered speed in the third quarter, but this is now in the rearview mirror.
We doubt there will ever be a fail-safe leading indicator of when a recession is about to hit, but asset prices can help us to assess the risks, at least.
Idiosyncratic developments have driven market volatility in LatAm in recent weeks.
Brazil's industrial sector is on the mend, but some of the key sub-sectors are struggling.
Peru is now in the grip of a severe political storm that is shaking the country's foundations and darkening the already fragile economic outlook.
The economic and political backdrop to this week's Monetary Policy Committee meeting is significantly more benign than when it last met on September 19.
Brazil's unadjusted current account surplus soared to USD2.9B in May, its highest level since 2006, from USD1.1B in May 2016.
Data released on Wednesday, along with the BCB's press release on Tuesday, supported our longstanding forecast of further rate cuts in Brazil in the very near term.
As we go to press, equities in the Eurozone are having a bad day following the collapse in U.S. and Asian equities earlier.
China's official, unadjusted trade data for October grabbed the headlines, as they look great at first glance.
News on Mr. Bolsonaro's economic plans and announcements on key names for his government this week are helping the currency and easing risks perception in Brazil.
For the MXN, last year was especially harsh. The currency endured extreme volatility, plunging 17% against the USD. So far, this year is off to a rocky start too. The MXN fell close to 2.5% during the first week of 2017.
Brazil's improving economic and political situation allowed the BCB to cut the Selic rate by 100bp to 8.25% at its Wednesday meeting, matching expectations.
The BoJ kept policy unchanged last week, but made a significant change to its communication, dropping its previous explicit statement on the timing for hitting the inflation target.
Don't write off the outlook for the construction sector purely on the basis of June's grim Markit/CIPS survey.
LatAm governments and central banks have been busy implementing additional measures to contain the spread of the virus, and acting rapidly to ease the effect on the economy.
We suspect that under the calm surface of the BoJ, a major decision is being debated.
Brazil's central bank conformed to expectations on Wednesday, cutting the Selic rate by 75 basis points to 12.25%, without bias. Overall, the BCB recognises that the economic signals have been mixed in recent weeks, but the Copom echoed our view that the data are pointing to a gradual stabilisation and, ultimately, a recovery in GDP growth later this year.
The cyclical upturn in the euro area's economy is going from strength to strength. Yesterday's second Q2 GDP estimate confirmed growth at 0.6% quarter- on-quarter, marginally stronger than the 0.5% rise in the first quarter.
Last month, the ECB set the scene for the majority of its key policy decisions over the next 12 months.
Recent polls in Argentina suggest that Alberto Fernández, from the opposition platform Frente de Todos, has comfortably beaten Mauricio Macri, to become Argentina's president.
The MPC made a concerted effort yesterday with its forecasts to signal that it is committed to raising Bank Rate at a faster rate than markets currently expect.
Why should Japan, the U.S., the Euro Area, the U.K. and Japan all have the same inflation target?
While we were out, data released in Mexico added to our downbeat view of the economy in the near term, supporting our base case for interest rate cuts in the near future.
Policymakers and governments are gradually deploying major fiscal and monetary policy measures to ease the hit from Covid-19 and the related financial crisis.
Brazilian inflation has been well under control in the past few months, laying the ground for a final rate cut at the monetary policy meeting on March 21.
This has been a very complicated week for LatAm policymakers, who are particularly uneasy about the performance of the FX market.
Market participants and analysts have gradually softened their cautious stance towards Mexico, as concerns about the new U.S. administration's trade and immigration policies have eased, and risks of a credit rating downgrade have lessened.
The ECB disappointed slightly on the big headlines in yesterday's policy announcements, but it delivered shock and awe with the details
Inflation appears no longer to be an issue for Mexican policymakers. The annual headline rate slowed to 3.0% year-over-year in February from 3.1% in January, in the middle of the central bank's target range, for the first time since May 2006.
The border security agreement between the U.S. and Mexico has strengthened hopes that the Sino- U.S. trade war will end soon.
Yesterday's industrial production report in Mexico added weight to the idea that the sector improved marginally in the first quarter, despite many external threats. Industrial output rose 0.1% month-to-month in February, following a similar gain in January. The calendar-adjusted year-over-year rate rose to -0.1%, after a modest 0.3% contraction in January.
Yesterday marked President AMLO's first 100 days in office, with skyrocketing approval ratings and improving consumer confidence.
This week's Monetary Policy Committee meetings in Chile, Mexico and Colombia look set to dominate market events in LatAm. On Friday, we expect Mexico's Banxico to keep rates on hold at 3.75%, after its unexpected 50bp increase in mid-February. At that time, the board cited growing concerns about financial markets, Mexico's weakened currency, and the country's fiscal situation, as reasons for its move.
Financial markets and economic data don't always go hand-in-hand, but it is rare to find the divergence presently on display in Italy.
Financial markets are pricing in a 20% chance that the Monetary Policy Committee will cut official interest rates during the next six months, broadly the same odds they ascribe to a rate increase. We think the probability of further easing is much slimmer than the market believes.
Financial markets have put maximum pressure on the ECB going into today's meeting, but we doubt it will be enough to spur the governing council into action so soon after announcing additional stimulus in December. We think the central bank will keep its refi and deposit rate unchanged at 0.05% and -0.3% respectively, and maintain the pace of asset purchases at €60B a month.
Investors in Eurozone banks continue to face uncertain times, despite the ECB's best efforts to prop up the economy and financial markets via QE. The latest hit to confidence comes from the bail-in of selected senior debt in Portugal's Banco Espirito Santo. When the troubled lender was restructured in mid-2014, the equity and junior debt were left in a "bad" bank--and were virtually wiped out--while the deposits and senior debt went into the "good" bank Novo Banco. Senior debt holders expecting to recoup their money, however, were startled earlier this month by the decision to "re-assign" five selected bonds with total face value of €2B from Novo Banco to the bad bank, in effect wiping out the investors.
The Fed deferred, but did not cancel, the start of its rate normalization last week. As a consequence, December is now the most likely meeting for the first hike. The Fed's core view of the U.S. economy remains the same, but policymakers want a bit more time to see how global developments affect the U.S. Our Chief Economist, Ian Shepherdson, expects the strength of the employment data, better Chinese numbers and calm financial markets to prevent any further postponement beyond Q4.
While financial markets remain obsessed with the Brexit saga, January's labour market data provided more evidence yesterday that the economy is coping well with the heightened uncertainty.
The plunge in Russia's financial markets, in response to targeted U.S. sanctions--see here--against Russian oligarchs and government officials, was the main EU news story yesterday.
The last few weeks' action in Eurozone financial markets has shown investors that the QE trade is not a one-way street. Higher short-rates could force the ECB to take preventive measures, but we don't think the central bank will be worried about rising long rates unless they shoot much higher.
Strong real M1 growth suggests the cyclical recovery is in good shape. But recent economic data indicate GDP growth slowed in Q4, and survey evidence deteriorated in January. This slightly downbeat message, however, is a far cry from the horror story told by financial markets. The recent collapse in stock-to-bond returns extends the decline which began in Q2 last year, signalling the Eurozone is on the brink of recession.
With financial markets still turbulent and the Governor stating only two weeks ago that economic conditions do not yet justify a rate hike, the Inflation Report on Thursday will not signal imminent action. Nonetheless, higher medium-term forecasts for inflation are likely to imply that the Committee still envisions raising interest rates this year.
The stakes are raised ahead of today's ECB meeting after the central bank's pledge in January to "review and reassess" its policy stance. Since then, survey data have weakened, inflation has fallen and volatility in financial markets has increased. The ECB likely will act accordingly and deliver a boost to monetary stimulus today.
Financial markets in the Eurozone will be pushed around by global events today. The Bank of Japan kicks off the party in the early hours CET, and the spectrum of investors' expectations is wide.
In recent weeks LatAm's currencies and stock markets, together with key commodity prices, have risen as financial markets' expectations for a rate increase by the Fed this year have faded. The COP has risen 8.5% over the last month, the MXN is up 2.5%, the CLP has climbed 1.4% and the PEN has been practically stable against the USD. The minutes of the Federal Reserve's latest meeting added strength to this market's view, showing that policymakers postponed an interest rate hike as they worried about a global slowdown, particularly China, the strong USD and the impact of the drop in stock prices.
The big story in financial markets at the moment is the idea that major global central banks are about to embark on a policy easing cycle.
Mexico has been one of LatAm's highlights in terms of financial markets and currency performance in recent months.
Financial markets in Brazil and Argentina have been under pressure this week, following negative news, both domestic and external. In Brazil, the Ibovespa index tumbled nearly 1.8% on Tuesday after a Senate Committee rejected the Government's labour reform bill.
Financial markets and economic survey data have been sending a downbeat message on the Eurozone economy so far this year. The composite PMI has declined to a 12-month low, consumer sentiment has weakened, and national business surveys have also been poor.
The 90-day truce in the trade wars between the U.S. and China, brokered on Saturday at the G20 meeting in Argentina, is a big deal for financial markets in the euro area, at least in the near term.
LatAm financial markets have performed solidly in the first sessions of the year, with most regional currencies trading more strongly against the USD.
The recent deal between Greece and the EU shows that the appetite for a repeat of last year's chaos is low. But investors' attention has turned to whether Portugal is waiting in the wings to reignite the sovereign debt crisis. Complacency is dangerous, but economic data suggest that a Portuguese shock to the Eurozone economy and financial markets is unlikely this year.
Financial markets have gone into another tailspin over the last fortnight, triggered by rising concern about the possibility of a no-deal Brexit and President Trump's threat of further tariffs on Chinese goods.
Growth momentum in Mexico has improved marginally over the last few months after the soft patch during the first quarter, with business and households gaining confidence in the economic recovery. But the upswing has been rather modest, due to the volatility in global financial markets and the challenging external environment. The outlook for the global economy has deteriorated over recent months due to China's problems, and commodity prices remain under pressure. All these factors are now weighing on investors' confidence and hurting EM across asset classes.
Argentina's financial markets and embattled currency have been under severe pressure in recent weeks, with the ARS hitting a new record low against the USD and government bonds sinking to distress levels.
The recovery of some key commodity prices, policy action in China, and stronger expectations that the U.S. Fed will start hiking rates later during the year, have helped reduce volatility in LatAm financial markets. Oil prices have rise by around 20% year-to-date, iron ore prices are up about 60% and copper has risen by 7%.
The preliminary estimate of first quarter GDP likely will confirm that the economic recovery lost considerable pace in early 2016. Bedlam in financial markets in January and business fears over the E.U. referendum are partly responsible for the slowdown. The deceleration, however, also reflects tighter fiscal policy, uncompetitive exports, and the economy running into supply-side constraints.
Last week's advance EZ GDP data for the first quarter suggest the economy shrugged off the volatility in financial markets. Eurostat's first estimate indicates that real GDP in the euro area rose 0.6% quarter-on-quarter in Q1, up from 0.3% in Q4, and above the consensus, 0.4%.
Financial markets' inflation expectations have risen sharply since the spring. Our first chart shows that the two-year forward rate derived from RPI inflation swaps has picked up to 3.8%, from 3.5% at the end of April.
Robust demand in the ECB's final TLTRO auction was the main story in EZ financial markets yesterday. Euro area banks--474 in total-- took up €233.5B in the March TLTRO, well above the consensus forecast €110B. To us, this strong demand is a sign that EZ banks are taking advantage of the TLTROs' incredibly generous conditions.
Multiple factors have shaken LatAm financial markets this week. China's market turmoil, commodity price oscillations, currency volatility, and political mayhem in every corner of the region, have all conspired against markets. But market chaos has also driven some central banks to rethink their monetary policy plans. For EM, in particular for LatAm, the stance of the Federal Reserve is key, given the region's close ties to the U.S., and the dollar.
The presumption in markets is that the French presidential election is the last hurdle to be overcome in the EZ economy. As long as Marine Le Pen is kept out of l'Élysée, animal spirits will be released in the economy and financial markets. We concede that a Le Pen victory would result in chaos, at least in the short run. Bond spreads would widen, equities would crash and the euro would plummet. But we also suspect that such volatility would be short-lived, similar to the convulsions after Brexit.
Andres Abadia authors our Latin American service. Andres is a native of Colombia and has many years' experience covering the global economy, with a particular focus on Latin America. In 2017, he won the Thomson Reuters Starmine Top Forecaster Award for Latam FX. Andres's research covers Brazil, Mexico, Argentina, Chile, Colombia, Peru and Venezuela, focusing on economic, political and financial developments. The countries of Latin America differ substantially in terms of structure, business cycle and politics, and Andres' researchhighlights the impact of these differences on currencies, interest rates and equity markets. He believes that most LatAm economies are heavily influenced by cyclical forces in the U.S. and China, as well as domestic policy shocks and local politics. He keeps a close eye on both external and domestic developments to forecast their effects on LatAm economies, monetary policy, and financial markets. Before starting to work at Pantheon Macroeconomics in 2013, Dr. Abadia was the Head of Research for Arcalia/Bancaja (now Bankia) in Madrid, and formerly Chief Economist for the same institution. Previously, he worked at Ahorro Coporacion Financiera, as an Economist. Andres earned a PhD in Applied Economics, and a Masters Degree in Economics and International Business Administration from Universidad Autónoma de Madrid, and a BSc in Economics from the Universidad Externado de Colombia.
Ian Shepherdson's mission is to present complex economic ideas in a clear, understandable and actionable manner to financial market professionals. He has worked in and around financial markets for more than 20 years, developing a strong sense for what is important to investors, traders, salespeople and risk managers.
With just one week to go, our Chief U.K. Economist Samuel Tombs will assess the likelihood of potential general election outcomes and their implications for financial market, Brexit and monetary policy
Ian Shepherdson comments on US Home-builders data
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