The push from markets to bring forward rate hike expectations well ahead of the timelines signalled by central banks was on again this week, and nowhere more so than at home. Last Friday, the RBA had for the first time since February come back to the market to defend its 0.1% 3-year yield target following a small upward deviation. But this week it stayed on the sidelines as the yield on the targeted April 2024 line surged above 0.75% (see here). All indications are that the Board's current 2024 guidance will be recalibrated to the new forecasts to be presented in the November Statement on Monetary Policy, consistent with an earlier rise in the cash rate. Over at the Bank of Canada, the Governing Council came through with a hawkish set of announcements; new QE purchases are to cease, and with the inflation target expected to be hit sooner a rate rise is now forecast for "the middle quarters of 2022" from the "second half of 2022" previously. In contrast, vastly more patient stances were reiterated by the European Central Bank and Bank of Japan at their respective meetings this week, with the latter going against the trend by revising down its 2021 inflation outlook in its revised forecasts.
Coming back to Australia, this week's Q3 CPI report (reviewed here) and the inaction from the RBA were the catalysts for the extraordinary repricing seen in the domestic bond market. Annual headline inflation actually slowed from 3.8% to 3.0%, but it was the stronger-than-expected outcome on underlying inflation at 2.1%Y/Y, which has moved back inside the RBA's target band for the first time in 6 years, that seems to have prompted a reappraisal on the outlook. That said, significant pandemic-related volatility is continuing to push and pull on the inflation data and this was accentuated by the Delta lockdowns in Q3. This week's developments are certainly interesting in the context of RBA Governor Philip Lowe's Anika Foundation speech in September where in relation to meeting the inflation target he said: "It won't be enough for inflation to just sneak across the 2 per cent line for a quarter or two"; and that confidence in delivering sustainable 2-3% inflation would require: "wages... to be growing by at least 3 per cent" — something the official data are yet to show. In that speech, Governor Lowe had also strongly pushed back against the market pricing at the time for rates to start rising in 2022. The other interesting aspect is whether there will be any implications for the QE program if the RBA's guidance on rates comes forward. In September, the Board effectively pledged to keep QE running on autopilot through the summer at the rate of $4bn per week, giving time for the domestic recovery to gather pace before making its next move. A faster taper from February or even ending the program at that date could now be genuine options. On the recovery itself, there was good news as retail sales returned to growth in September with a 1.3% rise after falling in each of the 3 prior lockdown-impacted months. High-frequency data on card spending suggests the rebound in spending in the run-up to Christmas will be carrying strong momentum.
In the US, markets are keenly awaiting next week's Federal Reserve meeting. With the Committee's stipulated pre-condition of "substantial further progress" on employment and inflation thought to have been achieved, a formal tapering timeline is expected to be announced. Indications are that the taper will be in the order of $15bn per month, leading to the end of QE by around the middle of next year. With markets pushing for a more aggressive response to high inflation — its preferred core PCE deflator is running at 3.6%Y/Y — the Fed will be keen to continue to emphasise that the hurdle to start hiking rates has a substantially more stringent test attached to it than tapering QE. It will also be of interest to gauge the Fed's reading of the economy in light of the slowdown seen in Q3. The impacts of the Delta wave and supply constraints lowered GDP for the period to growth of 0.5%q/q from 1.6%q/q in Q2. Growth in real personal consumption came in little more than flat for Q3 (0.4%) from a robust pace in the prior quarter (2.9%). The effects of supply constraints hit goods consumption, which swung from growth of 3.1% in Q2 to a 2.4% fall in Q3, while the surge in the Delta variant weighed on services consumption as quarterly growth eased to 1.9% from 2.8%. Aside from the slowdown in household consumption, both business investment and net exports weighed on Q3 output.
Across the Atlantic, the response by ECB President Christine Lagarde to the opening question in the press conference of "...inflation, inflation, inflation" summed up the focus of the Governing Council. With pandemic-related factors and surging energy prices pushing up inflation, the ECB has shifted to a more balanced view of the situation, expecting these pressures to persist for longer. This came as October's initial estimate of euro area inflation surged ahead of expectations to 4.1%Y/Y, its fastest since mid-2008. However, President Lagarde was clear in emphasising that its analysis still leads it to conclude that inflation will slow in 2022. A strong summer reopening rebound in the euro area was confirmed by an upside surprise on Q3's GDP growth outcome of 2.2% following the 2.1% increase in Q2, with the economy now just 0.5% short of returning to its pre-pandemic level. But the momentum is fading as output is running up against supply constraints, while risks around the virus will be present over winter. In the UK, the question is whether the Bank of England will commence its hiking cycle by taking its policy interest rate from 0.1% to 0.25% at next week's meeting. But the focus this week was on Chancellor Sunak's Autumn Budget. An elevation in the growth outlook to 6.5% for 2021 (from 4%) following the rapid rollout of the vaccine has the economy on track to return to pre-Covid levels by the turn of the year, while a reduction in the estimation of longer-term pandemic scarring effects have established a strengthened fiscal position for the government. This adds with increased taxes to fund a commitment to boost spending on public services by £150bn per year out to 2024/25, with the balance of the windfall saved for a later date. Accordingly, there has been a reduction in the profile for public borrowing, with Gilt issuance for 2o21/22 now forecast to be around £58bn lower than anticipated back in April.
