A central bank extravaganza awaits us. The show will start with the Bank of Canada meeting, where markets are expecting another rate hike, but are divided on the size. Meanwhile in Europe, a three-pronged ECB hike is already locked in, emphasizing the press conference. Finally, the Bank of Japan is unlikely to launch a collapsing yen lifejacket.
The ECB ready to strike hard
With inflation hovering around 10%, the European Central Bank is expected to launch another “turbo” rate hike on Thursday. Markets priced in a three-quarter point rise to rates, after a group of ECB officials backed such a move. Since it’s already baked in the cake, the market’s reaction will come from President Lagarde’s comment.
In this sense, Lagarde and his lieutenants might be inclined to adopt a hawkish tone and try to defend the devastated euro. Since Eurozone imports most of its energy, a falling euro makes electricity prices even more expensive, amplifying inflationary forces and crippling economic growth. Further currency depreciation is the last thing Europe needs.
There are two ways for the ECB to ‘get the euro talking’ – either by signaling that interest rates could peak above the 3% currently seen by the markets, or via the balance sheet by opening the door to quantitative tightening. The balance sheet path is unlikely after the UK bond market fiasco and also given the debt burden Italy faces. This leaves the terminal rate as the most realistic channel.
On a positive note, gas prices in Europe have fallen dramatically in recent weeks, following EU intervention in the electricity market. With prices falling, the energy crisis seems to be easing and winter might not be Armageddon after all. A recession is still on the menu, but it may not be as deep as investors feared.
This means that there is room for a recovery in the euro, as the ECB puts a floor under the currency and energy prices continue to move in the right direction. However, it is still too early to consider a trend reversal, as this would require a pivot from the fed which weakens the dollar, which does not seem imminent.
On the data front, the ball rolling will start on Monday with the preliminary business PMI surveys for October, which will reveal how close the economy is to recession and how inflationary pressures are evolving. Then on Friday, the preliminary estimate of Germany’s GDP growth for the third quarter and inflation statistics for October will hit the markets.
The BoJ is unlikely to save the yen
In Japan, the central bank’s refusal to even consider an interest rate hike has devastated the yen, which has lost an incredible 30% of its value against the US dollar this year. Direct intervention in the foreign exchange market by the government and threats for more have accomplished little but slow the bleeding.
Ahead of the Bank of Japan’s decision on Friday, the question is whether anything has changed to prompt a change in policy. The answer is probably no. Inflation has soared to 3%, but wage growth and inflation expectations are still subdued, reinforcing the BoJ’s view that the current wave of inflation is fueled by downside factors. offer that will soon disappear.
The funds always bet that the BoJ will be forced to ease the cap it has imposed on Japanese yields, but the timing is very uncertain. An acceleration in wage growth would signal such a development. Without it, chances are nothing will change until April, when Governor Kuroda’s term expires.
As for the yen, the outlook remains dark. As long as the underlying strength in interest rates is acting against the currency, any recovery is likely to remain shallow and any episode of currency intervention could simply delay the inevitable. A trend reversal would require a reversal by the BoJ or the Fed, or both.
BoC – Double or triple?
Moving on to Canada, a rate hike is all but certain when the central bank wraps up its meeting on Wednesday. The question is how big the move will be, with investors split between half or three-quarters of a percentage point.
There are strong arguments on both sides. Inflation is still high and the labor market is strong, suggesting the Bank can continue to push. However, house prices have started to fall and the latest business survey from the central bank itself showed that most Canadian businesses are already expecting a recession.
With oil prices also down, the more prudent option appears to be a lower rate hike of half a point. Pushing this “sparkling” real estate market too hard could be catastrophic. BoC has an incentive to tread lightly. In this case, the initial reaction of the loonie would probably be weaker.
US, UK and Australian data
In the United States, a slew of crucial data releases are ahead, starting with Monday’s S&P Global Business Surveys. But the main event will take place on Thursday, when the preliminary GDP estimate for the third quarter is released.
The Atlanta Fed GDPNow model indicates growth of almost 3%. Coupled with sizzling inflation and a labor market still firing on all cylinders, such a GDP print could cement expectations that the Fed will push rates to 5% or beyond. The week will culminate with the PCE Core Price Index on Friday.
In the UK, politics will remain a focus after the resignation of Prime Minister Truss. A new leader is expected to take over next week, with the favorites being Rishi Sunak and Boris Johnson. Sunak is probably the more positive choice for the pound given his more stable economic policies, but Johnson is more popular with the conservative base. On the data front, October PMIs are released on Monday.
Finally in Australia, the inflation report for the third quarter will hit the markets early Wednesday.