More BoE QE on its way soon

Emily Nicol
Chris Scicluna

Overview:
The BoE announced this morning that it left Bank Rate and its asset purchase programme unchanged, and presented a very downbeat scenario of the economic outlook, featuring the sharpest full-year economic contraction for three centuries (see detail below). With some investors having anticipated a clearer signal of near-term policy easing, however, sterling has risen about 1 cent while Gilt yields are about 2bps higher across the curve. Other European bond markets are similarly a touch weaker (10Y Bund yields about 1bp higher, 10Y BTP yields up a further 2.5bps). Having risen significantly particularly at the longer end of the curve on supply concerns, USTs are little changed (10Y yields at 0.70%).

Despite some further exceptionally weak German and French economic data this morning (more on these and today’s other data releases below too), European equities have opened roughly ½% higher, and US stock futures are up too. Japanese investors also returned from the Golden Week holidays to a modest gain in the Topix, which closed up 0.3%. But most other Asian stock-markets posted modest losses, e.g. China’s CSI300 closed down 0.3% despite some stronger than expected Chinese export data. While concerns about US-China trade had weighed as Donald Trump had threatened to “terminate” the current first-phase agreement, reports a little while ago suggest that Chinese Vice Premier Liu He and US Trade Rep Robert Lighthizer will speak as soon as next week, perhaps to try to clear the air.

Bank of England:
As expected, the BoE’s MPC left Bank Rate at 0.1% and its current programme of net Gilt and corporate bond purchases unchanged at £200bn. While the rate decision was unanimous, two out of nine MPC members (the external members Haskel and Saunders) wanted to increase the programme of asset purchases by a further £100bn and extend the programme through to August. With the purchases currently on track to conclude by the beginning of July, we are confident that they will be augmented and the programme extended (perhaps to last through to December) at the next MPC meeting in mid-June.

The BoE’s assessment of the impact of the pandemic on UK economic activity, expanded upon in a new Monetary Policy Report, was sobering. Among other things, the MPC noted that payments data currently point to a reduction in the level of household consumption of around 30%. And according to the Bank’s Decision Maker Panel, companies’ sales are expected to be around 45% lower than normal in the current quarter while business investment is likely to be roughly halved. Moreover, despite the protection provided by the government’s Job Retention Scheme, which is subsidising incomes for more than one fifth of employees, it also expects to see a pronounced rise in the unemployment rate.

The MPC acknowledged the impossibility of forecasting the economic outlook with any precision at the current conjuncture, with the key determinant bound to be the evolution of the pandemic. Nevertheless, the Bank published what it judged to be a “plausible” illustrative scenario, conditioned on the market-implied expectation that Bank Rate remains at its current level into 2022, whereby the current social distancing measures are gradually lifted but a degree of precautionary behaviour by households and businesses persists.

On this basis, the BoE estimates that GDP would unprecedentedly fall about 25%Q/Q in the current quarter, before recovering from the second half of the year on. Full-year GDP would fall 14% in 2020 – a minimal difference to the drop of 13.5% in our own baseline scenario and the weakest annual rate since 1706 (!) – with household consumption down at the same rate and business investment down by more than one quarter. However, GDP would subsequently rebound 15% in 2021 and a more moderate 3% in 2022. The unemployment rate would rise to 9% before falling gradually over the coming couple of years.

In terms of prices, due to the weakness of demand as well as the plunge in fuel prices, inflation would be expected to drop to around 0% at the end of the current year (and average 0.6% over 2020 as a whole). And while inflation would similarly be expected to average 0.5% next year, the recovery in output would be expected to push inflation higher to average about 2.0% - in line with the BoE’s target – in 2022.

The MPC recognised, however, the significant uncertainties. Some of these relate to the medium term, including the risks that current events will lead to lasting scarring of the economy via an increase in the longer-term equilibrium unemployment rate and a diminished willingness of firms to invest. Over the very near term, the MPC also felt that the risks were probably skewed towards an even longer period of precautionary behaviour than assumed in its baseline scenario, as voluntary social distancing might be more material, workers might be worried about their job security for a longer period of time and companies could remain more risk averse too. And so, given the severity of the near-term baseline scenario even before those additional downside risks are recognised, the case for an extension and augmentation of the BoE’s asset purchases over the remainder of the year would seem strong.

Economic data:
A busy day for economic data has already brought releases of note from Germany, France, China and Australia.

  • After yesterday’s disappointing German factory orders data, today’s IP figures were predictably weak. In particular, total output fell more than 9%M/M in March, to leave it down almost 11½% compared with a year ago. And when excluding the positive outturn from the construction sector, industrial production was down more than 11%M/M, likewise the steepest pace of decline since re-unification. Indeed, manufacturing output fell to its lowest level in almost a decade, with sharp drops in production of capital goods (-16 ½%M/M), consumer durables (-10.9%M/M) and intermediate goods (-7.4%M/M) alike. So, despite a positive start to the year for German IP, today’s figures confirmed that total output fell more than 1%Q/Q in Q1, with manufacturing production down almost 2%Q/Q, both a similar pace of contraction to that seen in Q4.

  • French IP figures were similarly woeful. Total output plummeted a record-16.2%M/M in March, to its joint lowest level since the series began in 1990, to leave it down more than 17%Y/Y. And like in Germany, the drop in manufacturing was steeper still, down more than 18%M/M, with immense declines in production of intermediate goods (-21%M/M), capital goods (-24.4%M/M) and consumer durables (-45.4%M/M) as auto output halved from February. In contrast to Germany, construction activity collapsed in France in March, down more than 40%M/M. Overall, total output was down more than 5½%Q/Q in Q1, with manufacturing production down more than 6%Q/Q.

  • The first estimate of French private sector payrolls in Q1 was also predictably weak. In particular, at the end of the first quarter, the number of jobs had dropped by a net 453.8k, 2.3%Q/Q, with those in the non-agricultural sector down 442.2k, 2.6%Q/Q, the steepest quarterly drop since the series began at the end of 1970 by a considerable margin. Indeed, during the global financial crisis, the sharpest decline recorded was -0.9%Q/Q. The overall weakness principally reflected an unprecedented decline in temporary workers (-37%Q/Q). When excluding these, employment fell 1.3%Q/Q.

  • Unsurprisingly, the respective statistical agencies Destatis and INSEE flagged greater uncertainty with respect to the latest figures due to data collection issues against the backdrop of the Covid-19 crisis, which could in turn lead to greater revisions that normal.
  • In contrast, the latest Chinese export data surprised significantly on the upside, to deliver a massive widening of the trade surplus in April to $45.3bn (CNY313bn), more than double the surplus in March. Indeed, exports returned to positive growth (3.2%Y/Y in $terms) but imports declined at a steeper pace (-14.2%Y/Y). This performance likely reflected a supply-side improvement in China, as manufacturers gradually returned to some form of normality and started to complete a backlog of orders, rather than a pickup in external demand. Certainly, the marked decline in imports that month likely in part reflected disruptions to supply chains associated with increased lockdown measures elsewhere as well ongoing subdued domestic demand.

  • In Australia, there was similarly a notable upwards surprise to final trade figures for March, with the trade surplus jumping more than A$6½bn to a record $10.6bn as the value of exports surged (15%M/M) and imports fell (-3.6%M/M). Despite the slump in exports of services (-9%M/M) associated with the ban on incoming tourist arrivals, goods exports were boosted by a significant rebound in iron ore shipments (32%M/M) as demand from China returned. Indeed, shipments to that country were up almost 12%Y/Y, accounting for almost one-third of the total year-on-year increase in March. Notwithstanding the better performance in March, export values were still down over the first quarter as a whole by almost 2½%Q/Q. Meanwhile, imports were down more than 7%Q/Q (not least as a ban on overseas travel saw import services drop more than 18½%M/M in March). And so, while it remains to be seen to what extent this reflects price effects, today’s data on balance suggest that net trade provided a modest positive contribution to Q1 GDP growth.

Looking ahead to the rest of the day, the main focus will be on the US weekly jobless claims figures which seem likely to bring another large figure for initial claims, while the Challenger job cuts data will again report a notable increase in April. Today will also bring US non-farm productivity and unit labour costs data for Q1, as well as consumer credit figures for March. From the euro area, Italian retail sales figures for March are expected to report a significant double-digit decline in spending that month.

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