FOMC and ECB Highlight Central Banks’ Last Meetings of the Year

No fewer than thirteen central banks meet in the week ahead.  The UK and the US report the latest inflation figures, and the
US and eurozone report industrial production. The eurozone sees the flash PMI
for December, and the Japan’s latest
Tankan business survey will be released.  
Most of the central banks
that meet will not be changing policy.
  Of the major central banks, the Bank of England, which
hiked rates last month is hardly in a position to raise rates again. 
Headline inflation is slowing.  Assuming next week’s November reading
shows a 0.2% headline rate as expected, the three-month annualized pace would
stand at around 2.4%, rather than 3.0% year-over-year pace.  
The Swiss National Bank,
whose currency is estimated by the OECD to be nearly 20% above fair value (PPP)
is n where near prepared to move away from its extraordinary monetary
the worst of the economic impacts
past.  The economy accelerated for the third straight quarter, reaching
0.6% in Q3.  Deflation has been arrested. 
Swiss CPI, using the EU-harmonized methodology stood at 0.8% year-over-year in
November, up from -0.2% in November 2016.   The Swiss franc has
depreciated about 9.5% against the euro this year, and over the past couple of months, it has traded in narrow ranges
near its lowest level since the cap was lifted
in January 2015.   

After the Swiss franc, the
Norwegian krone is the second most over-valued currency, according to the OECD
pressures fell sharply from Q3 2016  well into Q3 this year, but have
stabilized more recently, and this is
likely to born out with November update due out before the Norges Bank
meets.  Like Switzerland, the economy expanded by 0.6% in Q3, and although
last week’s October industrial production disappointed (-1.4% month-over-month,
and the September report was revised from
-0.5% to -1.7%), manufacturing is firm.  It expanded by a healthy 0.7% on
the heels of the revised 2.8% gain in September.

The ECB meeting is not
important for what it officials will do.
  They fired their bazooka of sorts last month, and there is no need for new action now. 
The asset purchases will continue at a 30 bln euro pace starting next month
through September 2018.  There are voices
that want a clear signal that September will conclude the
purchases.  The decision need not be made
now, and we don’t expect it until next summer.  There is no compelling
reason to pre-commit.  
After being rebuffed on this
front, the creditors may seek another line of attack.  The ECB’s monetary
stance is much broader than asset purchases.
  These other tools, like negative deposit rates, a
zero interest rate on refi operations that are
fully allocated, have been discussed much, except sequentially, that
asset purchases are to stop first.  There may be some push to consider an
exit strategy for these too.  
The ECB’s corporate bond
buying program may also come under scrutiny. 
 Some creditors were not keen about it from the start.  The ECB now
holds bonds of more than one thousand companies.  It  appears that the Eurosystem may own a couple dozen bonds rated below investment grade (notional amount 21.2 bln euros), which account for about 16% of the corporate bond portfolio.  
Last summer, the ECB bought some of the 800 mln euros of bonds issued by the European branches of the South African-based retailer, Steinhoff,
who is now mired in an accounting
 The company
lost its investment-grade status, last week.  The ECB may have to realize
a loss on the bond, or if it is converted
to equity (which may be the case), a
loss on the stock, which the ECB’s own rules prohibit it from owning. 
Look for the ECB to be pressed by reporters on this issue. 
The ECB does not publish the amount of individual issues purchased, just
the names of the credits. 
 This is an area that
greater transparency from the ECB may be helpful, and would seem like a small
price to pay for buying the wrong bond.  Some observers seem to be
exaggerating the impact on the ECB and worry (for naught) about the central
bank’s solvency.  
Consider the unbiased
assumption that the ECB bought the roughly $130 bln of corporate bonds it holds
were divided equally among the issues.
  That would be less than $130 mln average exposure, 
This is an important amount, but the loss needs to put in the context its
balance sheet, and the seigniorage and profits it has accrued.   It
does not make for good press,  the solvency of the ECB and the Eurosystem
is not an issue.  
The ECB staff will update
the macroeconomic forecasts.
  There are three things to watch.   First, the
staff will introduce the 2020 forecasts for the
first time and hence will offer new information.  Second, the CPI
2020 forecast will be particularly important.   Will it forecast that
the inflation target of near but lower than 2% be
achieved?  The 2019 forecast in September was 1.5%.  
Third, the data since the September forecasts suggest the staff
may be tempted to revise higher their growth forecasts.
  This year’s was estimated at 2.2%,
and it now looks closer to 2.5%. 
Next year’s growth was expected to be 1.8% and 1.7% in 2019.  
Of the major central banks,
only the Federal Reserve is expected to
change policy. 
market has been reluctant to believe it, but the Fed will most likely deliver
the third hike this year.  This is precisely what it indicated it would do a year
This has not bolstered confidence in the Fed’s
September dot plots that indicated that another three hikes in 2018 would likely be appropriate.
  The median forecast expected two
hikes in 2019 and one in 2020.  Investors
are less sanguine.  Looking at the Fed funds futures strip, a hike
near the middle of next year.  Only a
little more than half of another hike is discounted by the end of 2018.  
As the composition of the
Federal Reserve changes, the dot plot may take on greater significance.
  It will offer early insight into
how the new members view the macroeconomic picture.  The new forecasts
will include the new member Quarles forecast.  His dot will replace
Fischer’s who stepped down after the September forecasts.  Next year’s
regional bank rotation of FOMC voting members will shift in a more hawkish
fashion as the two main doves, the Minneapolis and Chicago Fed represents, move
Investors will keep a
watchful eye on fiscal policy developments.
  The reconciliation committee has its work cut out,
and it is important to keep in mind that the final bill may look nothing like
the House or Senate’s versions.  We see two main risks.  The first is
that the delicate balance reached to pass the Senate may not be preserved in the final version.  
The second is unintended
 The final Senate version contained the Alternative Minimum Tax for
corporations.  This was not expected
and may have spurred a sell-off of some particularly sensitive sectors until it
was clear from the key Republican senators that would be dropped.  Technology shares helped lift the broader indices
in the second half of the week.   
Or consider the effort to
address what is dubbed “base-erosion,”
the transfer of taxable profits in the form of inter-company loans and interest
it would hit foreign banks particularly hard, and foreign banks play an
under-appreciated role in financial disintermediation; in lending to households
and businesses in the United States. This
could pose a bigger threat to domestic financial conditions than the shrinking
of the Fed’s balance sheet.  
The EU Summit at the end of
next week is most likely to grant that the UK has made sufficient progress to
proceed to the next stage of negotiations-the future trade relationship.
  However, the general impression
seems to be that it was a fudge and that key issues have not been resolved.  The EU’s chief negotiator
left no little doubt that the next stage is unlikely to be easier and may have
less time.
Barnier indicated that
substantial discussions might not begin until February or March as the UK is
not clear about its aims. 
  He also indicated he is looking to conclude the talks by
next October because of the lengthy approval process. The UK’s insistence that
it intends to leave the single market and customs union narrow the range of post-Brexit trade relationships that are
realistically viable.  

In the emerging market
space, the new Governor of Mexico’s central bank may establish his
anti-inflation credentials by hiking rates by 25 bp at his first meeting, to
  This means that for the first time, Mexico’s
overnight rate will be above Brazil’s Selic rate (following Brazil’s 50 bp cut
last week to a record low 7.0%).  On the other hand, Russia is expected to
continue to unwind the 2014 tightening with a 25 bp rate cut to bring its key
rate to 8.0%. 

The other emerging market
central banks that meet, Chile, Colombia, Peru, Indonesia, Philippines, and
Turkey, none are expected to move.
  If there is a surprise, it could be tightening by the
Turkey, where inflation expectations are trending higher and in November stood
at their highest level (8.65%) since 2008.  The December report will be made before the central bank meets. 
Turkey is also expected to report a sharp acceleration in Q3 GDP from 5.1%
year-over-year in Q2.  


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