Blain's Morning Porridge - July 17th 2017. And what will the ECB do next?
Blain’s Morning Porridge – July 17th 2017
“They never did like Mama’s homemade dress, Papa’s bankbook wasn’t big enough.”
Last week the market buzz was all about the US – and the theme became a variation of “Lower For Longer”. That was confirmed by Yellen’s testimony, weak inflation, strong employment but sluggish earnings, and ongoing questions on what Trump can actually deliver. In short, more of the same from the States: nothing particularly unfamiliar or game changing. Good positive stuff for markets.
This week it’s Europe in the Spotlight.
Everyone will be listening for clues from Thursday’s ECB policy meeting on what the ECB will add to the global normalisation movement. Much to my surprise the prospects for Europe are looking far more positive, and the ECB has more room for action than many observers think.
While many folk expect the ECB to taper back is QE through 2018, I’m convinced they won’t do anything rash – why risk it? But they are going to change policy and guidance to fit changed fundamentals.
To work out what’s likely to change, the first question to understand is what happened to improve Europe?
Europe has benefited from the winds of global growth and finally QE policies are having some effect. From a small base, growth is now picking up. But, according to the UK’s Right-Wing press, the current uptick in Europe is due to the serendipitous combination of Macron bringing hope across the benighted continent, and perverse delight in the current tribulations of the UK.
It’s a long-held article of faith that markets are driven by greed – so think all young bankers when they first step onto the trading floor. The reality is very different – success is driven by Envy. And one of the most powerful drivers of activity is that marvellous German expression: “Schadenfreude”: delight in the misery of others.
Perversely the current UK crisis does help Europe. Europe has a far better chance of success without these pesky Brits whining and moaning about everything and distracting from the main game – which is whether Paris or Berlin actually runs the place.
(To be fair to Europe, this morning’s attachment sums up everything that is wrong with the UK. I’m afraid we just can’t make croissants. This sorry flabby flaccid example (from our canteen) demonstrates conclusively why we can’t be part of Europe. If we ever get them right, we’ll be back.)
The real reason Europe is in a stronger position and growth is set fair, is because the numbers are changing from negative to positive. Inflation still remains stubbornly low, but growth is edging up. That’s a win! As growth takes hold the spread between growth and nominal real interest rates is increasingly positive. Yay! Expansion! Firms start investing. The fears about government debt retreat.
The apparent recovery doesn’t mean Europe is fixed – far from it (and we’ll be writing later this week about the splits and divides across European banking) – but finally we’ve got rising economic activity at the base: a base for the ECB to build upon.
Will Europe continue to deliver into the global synchronous growth story? We think so!
On Friday I was a tad confused to read ECB board member (Rimsevics) saying QE will continue for a few years, while a few hours later EBC officials were on the wire saying Europe’s Central bank could announce plans to wind down QE at the Sept policy meeting. But, it kind of makes sense as Mario Draghi has indicated policy will change, but will remain accommodative.
Exactly what ECB policy will look like going forward is unclear – and is why we’re all ears on Thursday. While inflation remains stubbornly low, real interest rates in Europe haven’t driven activity to the extent the ECB claims. That is now changing. QE means the ECB now holds about a quarter of Eurozone Government Bonds, and talk of normalisation has driven bond yields positive.
How the ECB plans to react to the changing fundamentals will become more apparent from the clues Draghi throws us this week, at the Jackson Hole meeting in late August, and the next policy meeting in early September.
While I won’t make predictions, but I’m pretty sure this week won’t see any dramatic shift, but will give us indications of policy direction ahead. What we might get is subtle drop of the pledge to boost QE is the situation “demands” it and a change to the “easing bias”. The market consensus is for the ECB to taper QE from Jan 2018 and start hiking rates by the end of next year. Yep.. sounds bout right..
Let’s see what happens..
Elsewhere on the planet: the Chinese raise the spectre of a Super-Regulator. Brexit negotiations in Brussels, and Trump back in the US – what next on Russia we wonder?
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Bill Blain