The Global Week Ahead: Follow the Laggard? Not So Fast, Central Banks Are Diverging

Next Week's Risk Dashboard

• Canadian GDP might face upside risk
• Canada’s confidence vote is going nowhere
• BoC’s Macklem should address upsizing more clearly…
• …after a suite of communications has been more cautious
• Fed’s preferred inflation gauge likely to remain soft
• Eurozone inflation tracking to recommence
• Banxico’s potential cut faces significant peso weakness
• RBA likely to want further progress on inflation
• Riksbank faces markets broadly priced for its guidance to date
• SNB to cut as it fights the franc

Chart of the Week

This should be a lighter week but with several key developments still ahead. Several central banks are poised to make decisions including Banxico, the SNB, the RBA, and Riksbank or offer guidance including officials from the PBOC, Bank of Canada and Federal Reserve. Key data will include the start of tracking Eurozone CPI, another US core PCE update, and Canadian GDP. There is no special topic considered in this week’s edition due to other demands including travel.

CANADA’S ECONOMY—HOW FAR OFF IS THE BOC?

Canada’s economy will be a significant focal point this week after what is sure to be a confidence vote in Parliament that won’t being going anywhere given support for the government from the NDP and Bloc Québécois. GDP for July and the first estimate for August arrive on Friday and will significantly inform our Q3 growth tracking and how much the Bank of Canada may have to revise its Q3 GDP growth estimates lower.

There may be upside risk to Statcan’s initial guidance for July GDP to have been “essentially unchanged” from the prior month. That guidance was issued way back on August 30^th sans details other than this general comment:

"The construction, mining, quarrying, and oil and gas extraction and wholesale trade sectors recorded decreases, while finance and insurance and retail trade observed increases."

Since then, we've gotten a fair amount of new information, like the strong 1% m/m SA gain in hours worked which matters since GDP is an identity defined as hours worked times labour productivity. Unless productivity really tanked—which isn’t evident in other monthly activity readings—then there could be some upside. We now also have updates on retail, manufacturing, existing home sales and wholesale sectors to add to what was known by Statcan at the time in terms of the 16% m/m SA jump in housing starts during July plus other soft readings and their internal data. Tracking of a limited amount of service sector data is also looking to be robust such as flight data for the month (chart 1).

So, while there is still high data uncertainty, I think GDP is going to come in stronger than Statcan guided for July, but we may flatten out again when they offer updated August flash guidance given the limited readings we have for that month.

If I let a simple equation that I run speak unfiltered, then it's spitting out a growth estimate of 0.5% m/m SA for July. There was a large gain in hours worked that month (+1% m/m) and strength across a variety of other readings. Retail carries a low weight in GDP, but may be indicative of the consumer’s revival in the Q3 expenditure-based accounts that arrive later and given that we’re tracking one of the three strongest quarters for retail sales volumes since the initial massive pandemic-related volatility settled down by early 2022 (chart 2). That GDP equation has underestimated growth in four out of six months so far this year, matched it in February, and was a little too high in April. Most of the undershooting was small except in January and to a lesser extent in March.

Consensus is calling for 0.1% m/m SA. I went a bit above at 0.2% which could be conservative, but I wanted to strike a middle ground between the arguments above versus the fact Statcan has much more private data at its disposal. Why not go all the way to a larger gain? For one thing, the guidance on the resource sector could knock a significant amount of growth out of the picture depending upon how it translates into GDP. In that case, we would want to pay close attention to breadth in the figures and not let interpretations of the health of the Canadian economy be overly influenced by narrow sector-based developments.

CENTRAL BANKS—FOLLOW THE LAGGARD?

This should be a relatively light week for global central banks following last week’s fireworks. The biggest one of global significance could be the People’s Bank of China. Key will be testing varying appetite for easing and limited appetite for upsizing despite the Fed’s –50bps cut. US-centric economists and strategists may think everything revolves around the Fed, but significant policy deviations were already in play.

PBOC—Watch the Governor’s Cues

On Tuesday, PBOC Governor Pan Gongsheng will hold a press conference with other regulators. Markets will monitor guidance on key variables like the 7-day repo rate and required reserve ratios. China is widely expected to add further stimulus over the remainder of this year especially after the Federal Reserve’s 50bps cut that enhanced policy optionality by lessening financial stability risks derived from yuan instability. It’s unclear what further stimulus may achieve. China faces structural challenges to growth. Bank lending spreads are very tight and disincentivizing lending. House prices are falling. Core consumer prices just fell at an unusually strong pace.

Banxico—Mindful of Peso Weakness

Our economists based in Mexico City expect the central bank to cut by 25bps on Thursday. Out of 25 within Bloomberg’s consensus, a minority of four forecasters think they could upsize to a 50bps cut. Banxico has already cut by 50bps before the Fed so there may not be a catch-up argument. The peso has been sharply depreciating since April 8^th and since then has weakened by about 16% to the USD.

Furthermore, inflation is still running well above Banxico’s 2% target at 5% y/y for headline CPI and 4% for core. Political developments are influencing the currency and with that the risk of stoking imported inflation by doing anything that could unmoor the currency to a greater extent.

BoC—A Suite of Guidance Doesn’t Sound Supportive of Upsizing

Bank of Canada Governor Tiff Macklem will be at a fireside chat on Tuesday afternoon (1:10pmET) at the Institute of International Finance and the Canadian Bankers Association’s Canada Forum 2024. His topic is ‘Growth During Uncertainty.’ There will be advance text (12:55pmET) and audience Q&A, but no presser.

My reading of recent BoC speak has attempted to dial back some of the optimism toward what markets are pricing and the views of some other shops. Last Tuesday evening, for instance, we heard from Senior Deputy Governor Rogers who indicated “there’s still a bit of work to do,” on inflation and “We want to see a sustainable return to 2 per-cent inflation. So that’s still to come.”

On Wednesday of last week, the BoC’s Summary of Deliberations indicated that Governing Council is split on the balance of inflation risks with some still worried about upside risks and some worried about downside risks.

On Thursday of last week, External Deputy Governor Vincent clarified to the strongest degree yet that many folks misinterpreted the BoC’s references to being more concerned about downside risk. He said “Some people interpreted this to mean that we believed downside risks had strengthened. What we intended to communicate, however, was that with the 2% target in sight, we gave increased consideration to the risk that inflation could fall below the target.” I have offered this interpretation right from the first time that Governor Macklem referenced downside risks. As you go from a high inflation environment well above the 2% target to something closer, by definition you are less obsessed with being above the target and just mathematically more balanced in evaluating upside and downside risks.

Then on Friday after a bullish retail sales report, Governor Macklem doused market talk that the AI push would be broadly disinflationary by stating “AI could boost demand more than it adds to supply through faster productivity growth. And if that happens, AI adoption may add to inflationary pressures in the near term.” I have been leaning that way for some time by pointing to the lagging pass through risk of soaring market semiconductor prices into semiconductor price measures within producer prices and the broad import price index (chart 3). My bias is also that waves of technological innovation tend to expand economic output and create jobs on net, rather than destroying them.

What I would like to hear Macklem address in his fireside chat is the BoC’s appetite for upsizing, meaning the possibility of larger rate cuts than just 25bps at a time. His views on pace defined not just in terms of size but also frequency of cuts is also important. The BoC’s forward guidance is to be taken with a lot of salt, but for my two cents, I don’t find the argument for upsizing at the BoC to be compelling in some follow-the-leader way after the Fed cut 50bps.

What we’re seeing now is greater differentiation across global central banks as the ECB and BoE opt for a slower pace than the Fed. The BoJ is reconsidering further tightening this year until it more fully examines the health of the US economy and the Fed’s path. The PBOC appears to be leaning toward adding stimulus and so may other Asian central banks. Some outliers like Brazil’s central bank are back in tightening mode.

Where should the BoC stand? On its own path distinct from others. The BoC started 50bps below the Fed with a similar neutral policy rate estimate and so it was arguably less restrictive going into each other’s easing cycle. The BoC started cutting before the Fed and has cut by a cumulative 75bps to date versus 50bps at the Fed. The policy differential has already widened to -75bps with the BoC below the Fed. The entire Canada curve is beneath the US. Whereas perhaps the FOMC felt it had to jolt the bond curve into pricing more easing, the Canadian curve was more generously priced for easing.

What’s true is that Canada’s economy has modest slack versus the US economy that remains in excess aggregate demand. This observation questions why the Fed upsized. The BoC could argue it wishes to quickly close off spare capacity by stimulating faster growth as rapidly as possible. That would imply a much faster pace of easing in the near-term. The BoC should be very careful in so doing.

Canada’s economy has underperformed including its consumer sector relative to the US for some time. Massive pent-up demand for housing and consumer spending is supported by massive pent-up savings in narrow and broader terms more fully linked to balance sheet gains. These points are starkly in contrast to the US household sector. Mortgage resets have been an exaggerated shock to the Canadian economy that is more micro than macro and rapidly diminishing given where bond markets are going. The lagging effects of immigration stimulus could combine with such forces to unleash a torrent of household sector activity and the BoC should be very careful toward being too aggressive and pushing the economy back into excess demand that reignites inflation risk in the medium-term.

Federal Reserve—So Many Questions

This will be a heavy week for Fed-speak and we’ve already heard from a few officials. Governor Bowman speaks on Tuesday after her published dissenting opinion (here). Governor Kugler speaks Wednesday. Multiple Fed-speakers line-up on Thursday including Chair Powell’s pre-recorded remarks. Friday wraps it up with light Fed-speak.

I wouldn’t pay much attention to the Committee’s forward guidance as we seem to have transitioned to a different era in which Powell & Co will no longer be holding hands into decisions in a marked departure from the earlier playbook.

I would like to hear them explain how you can revise up projected easing this year and next, yet leave growth projections unchanged and revise up unemployment rate forecasts with no explanation offered about what the Fed thinks to be competing downside risks as argued here.

RBA—A Calendar Placeholder

The Reserve Bank of Australia is universally expected to stay on hold at a cash rate target of 4.35% on Tuesday. Markets are priced for no change. This one should be a somewhat hawkish sounding placeholder on the calendar pending further key data on inflation, wages and growth. The policy bias is likely to continue to guide that potential easing remains some distance away while furthering the downplaying of additional tightening that we heard in prior communications.

Australian core inflation measures are continuing to run well above the RBA’s headline target range of 2–3% but Q3 data won’t arrive until October 29^th which seems agonizingly slow for a complete set of figures compared to other countries (chart 4). Monthly trimmed mean CPI to August remains at 3.8% y/y. The job market remains on fire with just shy of 50,000 jobs created in each of the most recent three months. 310,000 jobs have been created so far this year. Wages excluding bonuses are rising by over 4% y/y. GDP growth has cooled, but the IMF’s starting point for the output gap remains in excess demand.

Riksbank—Policy Guidance and Markets Are Broadly Aligned

Sweden’s Riksbank is universally expected to cut its policy rate by 25bps on Wednesday. Consensus is unanimous, and while markets are priced for a quarter-point move, they are slightly leaning toward the prospect of a larger cut.

At its last decision in August when it cut by 25bps, the Riksbank’s statement said that “If the inflation outlook remains the same, the policy rate can be cut two or three more times this year.” Markets are broadly priced for such an outcome with a little over 75bps of cuts priced by year-end. The central bank will refresh its forecasts and guidance at this meeting (chart 5).

If delivered, then the policy rate will have declined from a peak of 4% up to early May to 2.75% by year-end.

Swiss National Bank—There’s Something About Franc

The Swiss National Bank is widely expected by economists to cut its policy rate by another 25bps to 1% on Thursday. That would mean a cumulative 75bps of cutting since March when it led other major market central banks in easing. Markets are thinking it could cut by more as pricing is on the fence between -25bps and -50bps.

Why is the SNB cutting so aggressively if its policy rate is already so low? They are fighting currency strength as the Swiss franc has appreciated by almost 9% to the USD since early May, outperforming almost all other majors (chart 6). 

GLOBAL MACRO—US, EUROZONE INFLATION WILL BE KEY

With global purchasing managers indices already out, the rest of the week is expected to be relatively light in terms of key data risk. Chart 7 summarizes releases by day and geography. I’ll write more about them as the week unfolds.

In addition to Canadian GDP covered above, the handful of key releases will focus upon US core PCE inflation during August on Friday alongside updates on consumer spending and incomes. Q3 revisions to core PCE arrive the day before and may impact expectations for the next day’s PCE readings. Estimates for August core PCE inflation are mostly centered upon 0.2% m/m SA which would extend the soft patch across core CPI and core PCE measures that has contributed to the Fed’s confidence to begin easing.

Another wave of Eurozone inflation readings starts to arrive on Friday ahead of next week’s Eurozone tally. Spain and France will report CPI for September on Friday along with the ECB’s 1- and 3-year measures of inflation expectations. Germany and Italy report next Monday and the Eurozone tally will be released next Tuesday. Key is whether core CPI inflation remains sticky.