ECB set to raise rates by 25bps again with option of further tightening in September to be maintained
After the Fed resumed its tightening cycle yesterday (see below), the main event today will be the ECB’s monetary policy announcement, for which the immediate policy decision appears clear-cut. Indeed, last month President Lagarde was unambiguous in her press conference that the Governing Council still had “further ground to cover” and that a “material change” to the ECB’s baseline outlook would be required to prevent it hiking again in July. As such, we expect interest rates to be increased by a further 25bps, taking the deposit rate to 3.75% and the cumulative tightening so far this cycle to 425bps.
Of most interest, therefore, will be signals with respect to the near-term policy outlook. The Governing Council’s forward guidance in the policy statement will no doubt be left unchanged, with forthcoming decisions to remain data dependent. But since the June meeting, surveys have pointed to a marked slowdown in economic activity in the middle of the year, with the flash euro area PMIs earlier this week consistent with contraction at the start of Q3. Moreover, the ECB’s Bank Lending Survey and monetary data illustrated the significant dampening impact of the ECB’s rate hikes on credit supply and demand, with banks expecting a further tightening of credit standards and weaker loan demand this quarter too.
This notwithstanding, Governing Council members might well continue to argue that the risks to the inflation outlook remain skewed to the upside. Indeed, although it was related to base effects associated with last year’s discounted travel pass in Germany, the hawks on the Governing Council will have been dissatisfied by the uptick in core inflation in June (up 0.2ppt to 5.5%Y/Y). Policymakers might also point to the acceleration in negotiated wage growth in Q1, to a three-decade high of 4.3%Y/Y, and continued evidence that the labour market is tight. And they will also be aware that the services PMIs still implied elevated growth in costs in the sector.
So, while many measures of underlying inflation continue to ease – including the persistent and common component of inflation (PCCI) rate, which fell to the lowest level since October 2021 – we expect many Governing Council members, and particularly those that had initially preferred a 50bps hike at the June meeting, to want to signal the likelihood of more tightening to come. So, like in her speech at the ECB forum in Sintra, President Lagarde is likely to maintain a relatively hawkish tone in her post-meeting press conference and leave the door open for a further, albeit possibly final, rate hike in September. That decision, however, will depend on the ECB’s updated economic projections, to be finalised ahead of that meeting, and Lagarde is unlikely to prejudge the outcome today.
German consumer confidence a touch firmer than expected on firmer income expectations
According to this morning’s GfK survey results, German consumer confidence has stabilised somewhat ahead of expectations. The survey’s headline sentiment indicator – presented as a forecast for August – fully reversed the prior month’s decline to rise 0.8pt to -24.4, matching June’s 14-month high, leaving it broadly equidistant between the long-run average and the series low reached last October in the wake of the record surge in natural gas prices. According to the detail for the current month, the improvement was largely related to stronger expectations regarding future incomes, which rose to a 17-month high, while assessments of the economic outlook were unchanged. Expectations of lower inflation to come were maintained, albeit not quite as much as in June when the survey measure hit a 32-month low. Moreover, willingness to buy rose for a second successive month to edge back close to the top of the range of the past year, albeit remaining well below the long-average to suggest that private consumption growth will remain subdued, if not in reverse, in the current quarter. The latest Italian ISTAT consumer and business surveys for July are also due for release shortly.
UK retail survey likely to report subdued spending at the start of Q3
In the UK, today will bring the CBI’s distributive trades survey for July. While retail sales in June received a boost from unusually warm weather, today’s survey is likely to show that, amid a deterioration in consumer confidence, prospects of higher borrowing costs and still elevated inflation, retail spending remained relatively weaker at the start of Q3, with the index representing annual retail sales growth expected to move sideways at -9.
US GDP expected to report another solid increase in Q2 despite a slowdown in consumer spending
As expected, the FOMC resumed its tightening cycle yesterday, voting unanimously to increase interest rates by a further 25bps to take the target FFR range to 5.25-5.50% and the cumulative tightening to 525bps since March 2022. And with the Fed largely maintaining its economic assessment, seeing moderate GDP growth, robust job gains and still elevated inflation, Chair Powell left the door open to further tightening, suggesting that the September meeting was a ‘live’ one. But he also cautioned that decisions would remain data dependent, and, importantly, the Committee would have 2 more CPI and labour market reports to digest before the 20 September announcement. And so, a pause that month might be equally feasible. Either way, Daiwa America’s Lawrence Werther expects one further 25bps hike this cycle. Please see his commentary here.
Data-wise, the focus in the US today will be on the first estimate of US Q2 GDP. While household consumption growth is anticipated to have slowed significantly last quarter, a stronger performance in the business sector, including construction activity and capex, and public sector spending should provide support to GDP growth. But principally thanks to an expected rebound in inventories – which could add around 1ppt to GDP growth, Lawrence forecasts annualised growth of 1.8%Q/Q, bang in line with the Bloomberg consensus forecast and down only very slightly from growth of 2.0%Q/Q ann. in Q1. Today will also bring the release of advance durable goods orders and goods trade figures for June, along with pending home sales data for the same month.