A hawkish turn from the Fed drove a steeper yield curve and a stronger dollar this week, setting global equity markets back. Although the Fed was expected to signal a slower pace of easing heading into next year, the shift went further than markets had anticipated. In other central bank news, a 25bps rate cut went through in Sweeden; the Bank of Japan held all policy settings; the Norges Bank was unmoved at 4.50%; while the Bank of England also kept a steady hand (more below).
The Fed left markets with a hawkish imprint despite signing off for 2024 with an expected 25bps rate cut in fed funds to 4.25-4.5%; meanwhile, the reverse repo rate was adjusted 30bps lower to be flat to the fed funds floor (4.25%). However, all the action took place away from the policy decision. The Fed's summary of economic projections signalled a reduction in rate cuts in 2025 from 4 to 2, leaving policy 50bps tighter through 2026 (3.4% vs 2.9%).
At the post-meeting press conference, Fed Chair Powell said that having lowered rates by 100bps, policy was now 'significantly less restrictive' setting the FOMC up to be 'more cautious' in making further reductions. Whether the shift reflects what the Fed has seen in the data or the anticipation of what 2025 could bring as Trump's pro-growth agenda comes to fruition is open to interpretation. While concerns over the labour market triggered the easing cycle, Chair Powell said those risks had receded but on the other hand inflation - while still on track to come back to the 2% target - was making slower progress than the Fed would like. Accordingly, the FOMC's inflation outlook was raised: headline PCE now seen ending 2024 at 2.4% (vs 2.3% prior) before firming to 2.5% in 2025 (vs 2.1%), while the core PCE profile was also revised up: 2.6% to 2.8% this year; 2.2% to 2.5% next year; and 2% to 2.2% in 2026.
In the UK, the BoE's decision to hold rates at 4.75% came with a dovish shift in the vote split from 8-1 (hold-cut) in November to 6-3 on Thursday. Markets viewed the shift as somewhat surprising given key wage and inflation readings on the eve of the meeting either lifted or remained elevated. Average earnings pushed up from a 3-month annualised pace of 4.8% to 5.2% in October, above the 5% consensus figure. Meanwhile, increases in the year-on-year rates in November saw headline CPI rise from 2.3% to 2.6% (vs 2.6%) and core CPI firm from 3.3% to 3.5% (vs 3.6) as services prices held a 5%yr pace (vs 5.1%) - the latter two measures and wages growth having been clearly articulated by the BoE as central to its reaction function.
The meeting minutes outlined that the three MPC members (Dhingra, Ramsden and Taylor) voting to cut by 25bps had read the conditions domestically as being characterised by weak growth and a cooling labour market, with higher uncertainty offshore also posing risks to the UK economy. However, the core of the MPC stuck with its guidance of a 'gradual approach to removing monetary policy restraint' and keeping rates 'restrictive for sufficiently long' until a return to 2% inflation was more assured.
Australia's mid-year budget update (MYEFO) reported a deterioration in forecast deficits ($122bn to $144bn) amid increasing pressures on government spending and slowing revenue upgrades (reviewed in detail here). Market reaction was sanguine - the AOFM only modestly raised its bond issuance plans for the current financial year from $90bn to $95bn, a funding task roughly 50% complete already.
Whereas post-covid economic tailwinds swung the budget into surplus in 2022/23 and 2023/24 and gave the government headroom to fund new policy measures, that dynamic has now turned. Factoring in the new policy decisions included in MYEFO on top of those announced when the budget was tabled in May, new government measures - a combination of discretionary decisions and responses to existing pressures - come at a net cost of $40.7bn over the next 4 years, far outweighing an expected $5.1bn net boost to revenue over the period generated by the underlying economic conditions.
However, the continuation of strong public demand (government spending and investment) is a key factor behind Treasury's forecast for the labour market to remain resilient and for GDP growth to rise back to a trend pace over the next couple of years. As a result, the rise in the net debt to GDP profile is modest - certainly by global standards - forecast to lift from 19.6% to 22.4% across the forward estimates.
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Thanks for reading Macro View through the year.
A Merry Christmas and Happy Holidays to all,
James
