All eyes on the ECB policy annoucement

Emily Nicol

ECB likely to press ahead with pre-committed pace of tightening despite heightened financial instability
The key focus in the euro area today will be the ECB’s policy announcement. While the Governing Council effectively pre-committed at its February meeting to a 50bps hike this week, the ECB will be wary of the impact of the fallout from the SVB collapse on financial stability in the euro area. The moves in euro area govvies have been marked. While yields have shifted slightly higher this morning, 2Y Bund yields yesterday were down some 93bps from last week’s peak, while 10Y yields were more than 60bps lower. Market-implied probabilities for the Deposit Rate had been scaled back significantly, with a hike of 25bps now priced in for today with only one more increase of the same magnitude in May, compared with an additional cumulative hike of 150bps expected this cycle just a week ago.

On balance, we continue to see the 50bps rate hike going ahead, taking the Deposit Rate to 3.00% and the cumulative tightening this cycle to 350bps, not least due to persisting pressures in core inflation. However, despite ongoing concerns of the hawks about potential second-round effects of inflation, the Governing Council will be mindful of the likely net tightening of financial conditions in the aftermath of the SVB downfall. And so, despite the associated further hit to the credibility of the ECB’s forward guidance, we wouldn’t be surprised if the magnitude of increase is reduced. With the doves on the Governing Council having already called for some flexibility to respond to incoming economic developments, at a minimum, the text in the monetary policy statement seems bound to maintain that “future policy rate decisions will continue to be data-dependent and follow a meeting-by-meeting approach”. And it would be prudent for the Governing Council to remove the reference to “raising interest rates significantly at a steady pace” to allow sufficient ambiguity going forward.

ECB projections to revise down profile for headline inflation despite persistence in core pressures
The ECB’s updated macroeconomic projections are, however, highly likely to revise down the profile of headline inflation over the horizon. The annual rate of HICP inflation in the first two months of the year was already 0.5ppt below the ECB’s December baseline forecast (9.1%Y/Y). Moreover, gas and oil futures point to a markedly lower path for energy prices over the remainder of the year than was assumed in December. But while the new forecasts could well suggest that the 2.0% inflation target will be met by the end of 2024, they will also likely suggest that core inflation will on average remain above 2.0% in 2025.

Japanese trade deficit narrows sharply amid a pickup in exports and a further drop in imports
Turning to today’s data, at face value, the latest Japanese goods trade report suggested that manufacturers might have benefitted from a pickup in external demand in February, with the value of exports rising for the first month in four and by a solid 4.4%M/M. And with the value of imports down for the fourth consecutive month (-3.0%M/m), the adjusted trade deficit narrowed ¥0.6trn to ¥1.2trn, the smallest for almost a year. And on an unadjusted basis, the deficit narrowed sharply from January’s record ¥3.5trn to ¥0.9trn, similarly the smallest since last April.

Compared with a year earlier, the increase in the value of exports (6.5%Y/Y) reflected an acceleration to the EU (18.6%Y/Y) and US (14.9%Y/Y) and a softer pace of decline to China (-10.9%Y/Y), with a notable boost to shipments of autos (23.5%Y/Y). But the improvement was due overwhelmingly to prices, with the total volume of exports down almost 8%Y/Y, the most since September 2020, with a hefty decline in shipments to China (-27%Y/Y), a modest drop to the US (-1.2%Y/Y) and only modest growth to the EU (1.4%Y/Y).

Certainly, when also adjusting for seasonal effects, the BoJ’s measure of export volumes rose a more modest 1.5%M/M in February, following a cumulative decline of more than 7% in the previously two months. Of course, Japanese trade figures at this time of year are often distorted to some extent by the timing of the Lunar New Year celebrations. Nevertheless, these still suggested that exports were trending so far in Q1 some 5% below the Q4 average. However, with import volumes (on the BoJ measure) down a hefty 6.5%M/M in February, they were trending 5½% below the Q4 average, suggesting that on balance net trade might well be on track to provide a very modest boost to GDP growth in Q1. Today’s overseas visitor numbers suggested that export services will receive a further boost from tourism in the first quarter too. Indeed, overseas visitors totalled 1.48mn in February similar to that seen in January, and already almost 200k more than the total number in Q422.

Japanese machine orders surge at the start of the year but maintain a downwards trend
Today’s Japanese machinery orders data were at first glance more encouraging for the near-term growth outlook. In particular, core orders jumped a much stronger-than-expected 9.5%M/M, the most since October 2020 and taking orders to a six-month high. Admittedly, orders data are notoriously volatile and so we would not read too much into one data point. Indeed, the pickup was led by likely one-off large orders from the construction (99%M/M) and transportation sectors (84%M/M). In contrast, orders placed by manufacturers fell 2.6%M/M to a seventeen-month low in January. And overall, despite the surge in total core orders in January, they remained firmly on a downwards trend, down 2.4%3M/3M, albeit the softest such decline for four months, suggesting another subdued quarter for private sector capex ahead.

US jobless claims, import prices and housing starts figures due
Today will bring a number of US releases, including weekly jobless claims numbers, import and export price indices for February, housing starts figures and the Philly Fed and New York Fed business outlook survey results. After the downside surprise to yesterday’s PPI data, … the monthly increase in import prices is expected to have moderated again in February, to leave the annual rate in negative territory for the first time since end-2020. Meanwhile, although the drop in mortgage interest rates in December and January stirred sales of new homes, builders likely remained cautious in February because of ample inventories of unsold homes. Single family starts are likely to post their tenth decline in the past twelve months, but a pickup in multi-family activity after two soft months could provide a partial offset. 

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