Macroeconomics: The Day Ahead for 25 July

The week gets off to a rather slow start outside of US and other corporate earnings, with higher than expected Singapore CPI to digest, and the German Ifo Business Climate, UK CBI Industrial Trends and US Dallas Fed Manufacturing surveys ahead. The first of the televised debates between UK Conservative Party leadership contenders, Sunak and Truss, is the sole highlight on the events schedule, while Kuehne + Nagel International and Newmont Mining top the run of corporate earnings. After the unexpectedly sharp falls in both PMIs, Germany’s Ifo Business Climate is seen dropping to a new recent low of 90.1 from 92.3, with Current Situation and Expectations seen falling in equal measures. As previously observed, the Ifo survey is generally a better gauge of activity than the PMIs, and quite often diverges with the latter, though this may be rather moot, given that it will fall, and signal weak demand, even if it does not post a fresh low. However the weekend DIHK survey showing that some 16% of German manufacturers are cutting or halting production due to high energy prices imparts some downside risks relative to consensus forecasts.

RECAP: The Week Ahead – Preview: 

The final week of the month brings a deluge of top level data around the world, with the US, many Eurozone countries, South Korea and Taiwan all reporting Q2 GDP data, while the Eurozone has July HICP for all the major economies, and there are numerous, rather more timely business and consumer confidence surveys (Ifo, CBI amongst others, with China NBS PMIs due next Sunday). But the focus will inevitably be on the FOMC meeting, in a week which is seasonally light on central bank speakers. This will be accompanied by the latest IMF World Economic Outlook that is likely to see a good many downward revisions, thus fanning the flames of markets’ recession talk. A blockbuster week for corporate earnings, with 172 S&P companies reporting in the US (including tech behemoths Alphabet, Amazon, Apple, Meta Platforms and Microsoft), and a raft of major companies reporting in Asia and Europe, with energy and commodity producers and processors featuring (e.g. Exxon Mobil, Chevron, Shell, TotalEnergies, Rio Tinto, ADM, Bunge, Kraft Heinz, Arcelor Mittal). Government bond supply is relatively plentiful, led by the US, Germany, Italy and the UK.

The Fed is expected to hike rates by a further 75 bps to 2.25/2.50%, which would take the Fed Funds target to what the Fed assumes is the longer-term neutral rate. This meeting does not have an update on the FOMC’s summary of projections, and so market reaction will be determined by the language on Inflation, Employment and the growth outlook, initially in the statement and then at Powell’s press conference, as well as forward guidance on the rate trajectory, with markets currently discounting a further 100 bps of rate hikes by the end of the year, and for rates to be reduced by 38 bps in H1 2023. The FOMC faces a big communications challenge, in so far as the June CPI data showed an acceleration in generally rather ‘sticky’ core Services CPI, and a by contrast only a modest deceleration in core Goods CPI. Equally while weekly jobless claims have risen, at 253K they still indicate an overall tight labour market, even if Average Hourly Earnings have been decelerating somewhat. On the other hand, the advance Q2 GDP data on the day after the FOMC Meeting are expected to show growth of just 0.5% SAAR after 1.6% contraction in Q1, even if the key Final Sales to Domestic Buyers expanded 2.0% in Q1, though likely to be in the 0.5% area for Q2, in line with the consensus for GDP. More timely data such as the PMIs on Friday and other surveys (with Consumer Confidence due on Tuesday seen falling to 96.9 from 98.0, and the labour differential above all in focus) point to contraction in Q3. That said, there will be those that counter that the 1970s J Arthur Burns led Fed took its foot off the pedal on hiking rates too quickly due to recession signals, and thus contributed to the ballooning of inflation rates in that era. Thus the statement and Powell will likely reiterate that policy will need to be restrictive to combat inflation, and that there are few signs that it will slow significantly enough to revert to a more modest pace of rate hikes, even while acknowledging growth has slowed significantly, and there has been some loosening of labour demand. Powell may well observe that there will be two rounds of CPI and labour data before the September meeting, but they will have to show clear signs of easing pressures, if the Fed is to slow the pace of tightening at that meeting.

Elsewhere advance Q2 GDP readings expected to show lacklustre growth in the Euro area: Germany 0.1% q/q, France 0.2%, Italy 0.3% & Spain 0.4%, with South Korea seen at 0.5% q/q (vs. prior 0.6%), and a steady 3.14% y/y in Taiwan. Inflation data is plentiful, with Australian Q2 CPI seen up 1.9% q/q 6.3% y/y (vs. Q1 5.1%y/y), and average core CPI rising to 4.5% y/y, while Japan’s Tokyo CPI is forecast to edge up 0.1 ppt on all measures (headline 2.4%, ex-Fresh Food 2.2%, core 1.1%). Eurozone national CPI readings are again expected to be a mixed bag in m/m and y/y terms, and continuing to vary widely depending on the expiration and/or introduction of tax cuts and other measures to combat energy price pressures, but remaining high an expected to climb further in y/y terms in France, Italy and Spain, and easing only just 0.1 ppt to 8.1% in Germany. The US also has Durable Goods Orders, House Prices, New and Pending Home Sales.

Outside of the array of major corporate earnings reports, commodity and energy markets will be looking at recent price action that has taken oil and many agricultural prices back down to, or below levels just prior to the Russian invasion of Ukraine. Oil product demand destruction has been very clearly evident in recent weekly EIA reports, even if the underlying supply picture for crude remains very tight, while Friday’s drop in a number of grains in response to the Grains Export agreement signed by Ukraine and Russia was in truth feeding into downward pressure due to generally better crop outlooks, despite the prevalence of extreme weather events. Russia’s missile attacks on Odessa over the weekend suggest that the agreement is worth no more than the piece of paper that British PM Neville Chamberlain infamously waved while declaring ‘peace in our time’ just ahead of World War II. Meanwhile metals prices continue to fret over Chinese demand, both due to the intermittent but seemingly incessant Covid related lockdowns, as well as the deepening property sector crisis, with the threat of power rationing in Europe due to gas supply shortages from Russia only adding to a broad array of perceived risks.

Credit markets have fared considerably better in recent weeks, though the pick-up in Investment Grade issuance has been heavily exaggerated by far greater issuance from US GSIB banks than had been expected, while the tightening of high yield spreads owes more to start of quarter demand and a still pitiful volume of supply. As the world economy slows more significantly in H2 2022, the risk of a rising level of defaults, and adverse earnings developments suggests that the current credit rally may not prove to be enduring.