All eyes on Karlsruhe

Emily Nicol
Chris Scicluna

Overview:
With Wall Street having closed higher (the S&P500 closed up 0.4%), Asian stock markets that were open today largely regained their poise and posted gains after yesterday’s torrid start to the week. For example, while markets in Korea were also closed along with those in Japan and China, the Hang Seng is currently up about 0.8%, with bourses from Taiwan to Australia higher too. European and US futures are higher too.

In the bond markets, after the US Treasury yesterday afternoon announced that it would issue $3trn of net marketable debt in the current quarter, more than $3trn more than announced three months ago, and an additional $677bn in the July-September quarter, UST yields are higher across a steeper curve, and up about 3bps at 10Y to 0.67%, the highest for a week. ACGBs followed USTs as a downbeat RBA predictably left the main elements of its monetary policy framework unchanged but widened the range of collateral accepted in its liquidity operations (details below). Meanwhile, ahead of this morning’s German Constitutional Court ruling on the consistency of the ECB’s public sector asset purchases with the nation’s constitutional law, Bunds have opened a little weaker again.

Aussie:
As was widely expected, the RBA’s latest monetary policy meeting brought no amendments to its key policy initiatives, with the cash rate unchanged at 0.25% and the current yield curve control target also maintained at 0.25% for 3Y yields. But, as other major central banks have done recently, the RBA broadened the range of corporate debt securities eligible as collateral in its domestic market operations to all investment grades – i.e. the minimum criterion for long-term debt is now BBB- compared with AAA previously, and that for short-term debt is A-3 (compared with A-1 previously). With Aussie bond market functioning having improved since the RBA launched its yield control framework, the Bank has recently scaled back the size and frequency of its asset purchases. However, Governor Lowe reiterated that it would ramp these back up again if required and that the current yield target will remain in place until decent progress is being made towards achieving the RBA’s goals for full employment and inflation – i.e. for a long time to come.

This was underscored by the RBA’s updated economic forecasts, for which full details and a range of scenarios to be published in Friday’s Monetary Policy Statement. Under the baseline scenario, the Bank expects GDP to contract by an unprecedented 10% in the first half of the year, and 6% over 2020 as a whole before by a bounce back at the same rate in 2021. Despite the government’s JobKeeper wage subsidy programme, the RBA expects the unemployment rate to peak above 10% over coming months and still remain above 7% at the end of next year – well above the Bank’s previous estimate of the NAIRU (about 4½%). Against this backdrop, and given also the recent slump in the oil price, free child care and deferrals of various administered price increases, headline inflation is expected to plunge into negative territory in Q2. And while it will rise thereafter, the Bank expects inflation to remain well below the 2-3% target range through 2021 (averaging 1-1½% for the year as a whole), with only a gradual increase further out too.

The sharp hit to the labour market was evident in new weekly payrolls data published by the ABS, which today showed a further 1½% drop in the number of employee jobs in the week to 18 April. This took the total decline since the week ending 14 March to 7½% - while not directly comparable, a similar drop in the official labour market figures would compare to a decline in employment of around 1mn. Unsurprisingly, the largest declines over the past six weeks were reported in the accommodation and food services sector, with payrolls there down by one-third, while arts and recreation services jobs also fell by 27%. But there were also double-digit declines in real estate, administrative support and other services. And while the decline in wages was inevitably most stark in these sectors too, the drop was widespread. Overall, total wages paid by employers were down more than 8% since mid-March. So, while the full effect of job losses in April won’t be fully reflected in that month’s official labour market statistics (which are calculated up to the middle of the month), we expect to see a hefty (and record) decline in employment that month when the figures are published on 14 May – the steepest drop previously was 75k in 1992.

Euro area:
The main event in the euro area today will be the announcement of the judgement of the German Federal Constitutional Court (Bundesverfassungsgericht) on the compatibility of the ECB's Asset Purchase Programme (APP) with Germany’s constitutional law. It is unclear whether the Court’s ruling will also apply to the ECB’s €750bn PEPP programme. A decision is expected at 10am CET. Key issues relate to the prohibition on monetary financing and whether the programme falls outside the remit of monetary policy.

As ever, it is very uncertain what precisely the German Court will decide. In 2017, it suggested that it was doubtful whether the ECB’s asset purchases were compatible with the prohibition of monetary financing and referred the case to the European Court of Justice. But the ECJ subsequently gave the ECB thumbs-up. And last year the German Court’s President suggested he could only disregard an EU ruling if it was “arbitrary and gravely unreasonable”.

So, while the Court might seem likely again to rule broadly in favour of the ECB’s initiative, a ruling against is still possible today. If the Court rules against the APP, this could prevent the Bundesbank from participating. While it would not prevent the ECB from purchasing its targeted amount of public sector securities, it would force the central bank to redesign the programme. A ruling in favour of the ECB might, however, embolden it to boost the current rate of asset purchase under the APP (€20bn per month with an additional €120bn from March to end-year) as well as the €750bn PEPP envelope.

After the French Labour Minister yesterday indicated that a massive 11.7mn workers in the private sector were now registered under the country’s partial unemployment plan, today’s labour market figures from Spain were similarly depressing. Indeed, the number of people registered in employment fell a whopping 691k in April, almost double the drop recorded in March, which itself was by far the largest on record. And so the number of people in employment fell to 18.4mn in April, a drop of 770k from a year earlier and the lowest reading since October 2017. As such, in non-seasonally adjusted terms, the number of jobless claims jumped again, by 282k following a rise of 302k in March, to 3.8mn, marking a rise of 21%Y/Y and the highest level for almost five years.

Euro area producer price inflation figures for March due later this morning are expected to show that the headline rate fell to -2.7%Y/Y in March, from -1.3%Y/Y, flagging disinflationary price pressures further down the pipeline emanating not least from lower oil prices and other commodities. Supply-side disruption will, however, add a positive impulse to prices of higher quality items along the value chain over coming months. Indeed, the FT has this morning reported that Volkswagen, for one, has already seen a sharp increase in the costs of key car components.

UK:
After data released yesterday revealed that new car registrations in Italy and Spain plunged to record lows of just over 4k cars apiece in April, marking declines of 97.5%Y/Y and 96.5%Y/Y respectively, this morning’s equivalent UK figures from the SMMT will show pretty much the same picture. Indeed, reports suggest that, with showrooms having remained shut for the entire month, UK registrations were also down 97%Y/Y from more than 161k a year earlier to a little over 4k, with 70% of the total reflecting purchases by companies buying for their fleets. SMMT expects full-year registrations to drop more than one quarter over the year as a whole.

The final UK services PMIs for April will also be published today. The flash estimates showed that the headline activity index fell a record 22.2pts to just 12.3, the lowest in the survey’s 22-year history. The detail will inevitably be alarming too. Indeed, after HMRC announced yesterday that 6.3mn jobs – almost one quarter of total employees – had been furloughed in the first two weeks of the government’s Job Retention Scheme, we would expect to see a downwards revision to the flash employment component of 25.3, which was down more than 18pts from March. And with last week’s final manufacturing output PMI having been revised slightly lower, we would expect to see the composite PMI nudged lower still from the 12.9 reading in the preliminary release.

US:
In the US, the focus this afternoon will be on the release of the non-manufacturing ISM and final services and composite PMIs, which are forecast to fall to levels consistent with an extremely deep contraction in activity – indeed, the flash headline services index fell in April to 27.0, the lowest level on record. Tomorrow will also bring final trade figures for March, which are likely to confirm a sharp fall in imports and exports, with the latter significantly disrupted by global travel restrictions.

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