In a policy-heavy week, meetings at 6 of the G10 central banks, as well as several in emerging markets, featured. As the OECD outlined in its latest outlook, the meetings came at a complex time amid intensifying headwinds to global growth from the Delta variant, supply constraints and rising inflation, while the concerns around Evergrande in China are a recent addition. In the advanced economies, patient stances continued to be maintained at the BoJ, SNB and Riksbank as others look to chart the course in dialing back peak monetary policy support. In fact, the Norges Bank is already there raising rates from zero to 0.25% this week.
Undoubtedly though, the US Federal Reserve's meeting was this week's highlight. While the FOMC announced an unchanged stance, it guided markets towards the start of policy normalisation. This came on the back of its updated summary of economic projections that reflected confidence in the US outlook once the near-term uncertainties fade. Delta concerns have lowered the median estimate for 2021 GDP growth to 5.9% from 7.0% but assessments in the out years were upgraded to 3.8% in 2022 and 2.5% in 2023. The Delta presence leads to a more cautious assessment of the unemployment rate in 2021, now expected to fall to 4.8% compared to 4.5% anticipated in June, but the forecasts for 2022 (3.8%) and 2023 (3.5%) remained intact. Reflecting the persistence of supply constraints, substantial upward revisions to both headline (4.2% from 3.4%) and core (3.7% from 3.0%) inflation were put forward by the FOMC members in 2021, with moderating overshoots on the 2% target seen thereafter through to 2024.
With the inflation side of the dual "substantial further progress" test stipulated by the Committee to start tapering asset purchases met, developments in the labour market are left dictating the timing. On this, Chair Jerome Powell in the post-meeting press conference said that in his view the employment aspect of the test was "all but met", firming up expectations for a November tapering announcement, with the process to be completed by "around the middle of next year". Given the current $120bn per month run rate, that implies a slowing of around $15bn per month, assuming a straight-line tapering. Throughout recent communications, Chair Powell has been keen to delink tapering from signaling on rates, with a "substantially more stringent" test attached to commencing lift-off from near zero. The revised dot plot shows expectations for the timing of the first rate hike are split between late 2022 and early 2023. Notably, the dots have taken on a steeper trajectory since the June projections, rising to 1.8% by 2024. That is pointing to more rate hikes than the 3-4 markets are pricing in over the period, leaving bond markets to reassess the situation over recent days.
The sense coming from this week's Bank of England meeting was that the Monetary Policy Committee (MPC) was moving closer to exiting from the emergency settings it implemented at the nadir of the pandemic. In an unchanged decision on Thursday, the accompanying minutes noted a "strengthened case" had developed for the guidance the MPC put forward at the previous meeting that the expected path of the economy would likely be consistent with a "modest tightening of monetary policy". The key development over the intervening period had been a sharp rise in the pace of annual inflation from 2.0% to 3.2% in August, to be more than 1ppt above the MPC's target. As noted by the MPC, the rise could extend to a pace above 4% in Q2 next year due to higher energy and goods prices. In their exchange of letters, Chancellor Sunak had agreed with Governor Bailey's assessment that base effects associated with the reopening and capacity constraints were driving up inflation but welcomed that over the medium term the pace was expected to moderate back towards the target. With the BoE's asset purchases on track to be completed by around the end of the year, attention has turned to rates where markets are pricing in around 2 hikes next year. But with considerable uncertainty around the outlook for wages growth and how the labour market will respond to the end of the furlough scheme, those expectations may prove too optimistic.
Over in Europe, signs are evident that the robust recovery there is starting to lose some momentum with capacity constraints and rising prices weighing on output. The September flash Composite PMI at 56.1 remained at levels consistent with strong expansion, but that was a 5-month low and it marked a sharper slowdown than markets had expected (58.5) from August's reading (59.0). Delta appeared to be weighing on services with activity in the sector slowing from 59.0 to 56.3 in September. Meanwhile, the manufacturing PMI came out at 58.7 — its softest reading in 7 months and well down from 61.4 in August. Production at responding manufacturers had recorded its slowest increase since around the turn of the year with supply chain bottlenecks and product shortages causing a further rise in order book backlogs. In the knowledge that manufacturers are sitting on low inventory levels, suppliers are continuing to push through higher prices with input costs in the sector rising to around record highs. While rising prices are coming down the pipeline to households, the ECB's latest Economic Bulletin noted that these pressures were expected to fade from early next year. That said, a Reuters report during the week quoting Governing Council sources said that preparations were being made for PEPP purchases to wind up as planned in March on the basis that inflation could rise by more than currently expected. So as to avoid "cliff effects" once the $1,850bn programme concludes, a temporary boost to its Asset Purchase Programme was being considered.
In Australia, the minutes from the RBA's September meeting reiterated that the Delta impact and associated lockdowns would delay, but not derail, the recovery. At that meeting, the Board stuck to its modest tapering announcement of weekly bond-buying from $5bn to $4bn, but the setback to the economy prompted it to push back the timing of the next review from November to February. The RBA expects that it will take until mid next year for the economy to return the trajectory it was on prior to the Delta outbreaks. However, the minutes noted that the Board still judged that tapering was warranted, citing that this was the path many of its global peers was on. Instead, the Board saw greater option value in the recailibration it made to the next review date, with markets now having greater clarity over its bond purchases for longer.
