A slight miss on core CPI inflation in the US during the week and expectations for a more frontloaded response from the Fed, with 50bps hikes priced for the next two meetings and the start of balance sheet reduction, saw markets pare back slightly their expected peak for policy rate for this tightening cycle. The RBNZ and BoC are already frontloading their return to more neutral stances with both announcing 50bps hikes. The RBA looks set to start hiking rates in June, while the ECB reaffirmed its gradual path to normailsation.
Australian labour market continues to tighten
Despite a slowing in employment to 17.9k in March (vs 40k expected) following flood disasters in two major states and the ongoing headwinds from the pandemic, the Australian labour market continues to tighten (full review here). The measured unemployment rate held steady at 4% (vs 3.9% expected), but underemployment (6.3%) and underutilisation (10.3%) declined, with all key indicators at 14-year lows.
Highly elevated job vacancies point to employment accelerating again that should see labour market conditions tighten further and put upward pressure on wages. There were signs of this in the NAB's March Business Survey that showed a rise in wage costs, though the sense is that the RBA will wait for confirmation in the aggregate wages data for Q1 (due mid May) before starting to hike rates. With March's labour market report coming in softer than expected, it has allowed the expected timing for the first RBA rate hike to stay at June. The anticipation of forthcoming rate hikes and the impact of higher inflation saw consumer sentiment on the Westpac-Melbourne Institute's index extending its recent fall with a 0.9% decline in April, though confidence in the labour market and the economic outlook improved from the prior month and remain at robust levels.
US core CPI missed expectations
Key US inflation rates for March showed further increases this week, though for markets well accustomed to upside surprises a below-consensus print on core CPI provided optimism that the peak could be near. The headline CPI rate pushed up from 7.9% to 8.5%yr (vs 8.4% expected), though it was the slower-than-forecast rise in the core rate from 6.4% to 6.5%yr (vs 6.6% expected) that drew the attention of markets. The case for peak inflation relies on a combination of aggressive Fed tightening (including rate hikes and QT) slowing demand and base effects, with a sequence of high monthly readings from last year about to roll into the annual calculation, setting the bar higher for inflation to keep rising.
Case in point is durable goods, which has been a major contributor to the surge in inflation over the past year driven by very strong demand running up against supply chain pressures. In March, durable goods prices fell by 0.9%, its first month-on-month fall since January last year, easing the annual rate from 18.7% to 17.4%. The main driver was a 3.8%m/m fall in used cars and trucks. Durable goods inflation surged through April-June last year, so if March's reading is any signal, then there could be a notable slowing over the coming months, putting downward pressure on CPI. However, many will point to price rises in components such as food (8.8%yr), housing (5%yr), and energy (32.2%yr) as factors that will moderate a durable goods-driven slowdown in inflation.
ECB reaffirms timeline to end asset purchases
Recognition of the surge in inflation to record highs in March led the ECB's Governing Council at this week's meeting to "reinforce its expectation" to wind down bond-buying under its APP program in Q3. The current timeline will see APP net purchases gradually reduce over the current quarter (€40bn in April, €30bn in May and €20bn in June), and barring a severe growth slowdown from the war in Ukraine over the summer, net purchases look set to be brought to a conclusion in Q3.
In the post-meeting press conference, ECB President Christine Lagarde said that APP net purchases could end any month in Q3, while the guidance for rates to start rising "some time after" the conclusion of net purchases remained intact and could refer to a period anywhere "...from a week to several months". As its stands, the earliest rates could start rising is at the late July meeting. There was also some discussion around a potential backstop facility that could be deployed post-APP to limit yield spreads between countries from widening too severely. The decision statement noted "flexibility in the design and conduct of asset purchases" had been beneficial through the pandemic and President Lagarde said a new instrument could be formulated "in short order" if required.
UK inflation continues to rise
Inflation in the UK elevated to new 30-year highs, surprising to the upside of expectations in March as the effects of the Ukraine war flowed through to higher prices for energy, petrol and food. Headline CPI lifted from 6.2% to 7%yr (vs 6.7% expected) and the core rate was up at 5.7%yr (vs 5.3%) from 5.2%. A sharp rise approved by the energy regulator to the base tariff for household energy bills will show through next month, which could test the Bank of England's assessment for inflation to peak at 8% in Q2. This will put pressure on the BoE to tighten policy further (so far it has delivered 65bps of hikes), though it appears unlikely to hike by as much as markets expect through the remainder of the year given its caution around the growth slowdown from falling real incomes signalled in its March decision statement.
RBNZ and BoC hiked their policy rates by 50 basis points
High and rising inflation prompted both the Reserve Bank of New Zealand and Bank of Canada to frontload their monetary policy tightening by announcing larger-than-usual rate hikes of 50bps this week, taking their benchmark interest rates to 1.5% and 1% respectively. The RBNZ said it was taking a "path of least regret", accelerating the return to a neutral rate setting to avoid the risks posed to the economy from a prolonged tightening cycle that would be required if high inflation became embedded into expectations.
The BoC in its latest Monetary Policy Report forecast inflation to rise further above its 2% target on the back of the effects of higher commodity prices and supply chain disruptions stemming from the war in Ukraine; the key inflation forecasts have been revised up in 2022 to 5.3% (from 4.2%) and 2023 to 2.8% (from 2.3%). In addition to hiking rates, the BoC will commence reducing its balance sheet (from April 25) by ceasing reinvestments of maturing bonds.