Global Economy:Europe, Japan, PBOC Easing, and Expectations For More, Raise Risk Appetite

Europe, Japan and People’s Bank of China (PBOC) policy easing and expectations for further loosening increase risk appetite. With few bright spots in the economic data this week, easing by Europe, Japan and PBOC, with expectations for more, have helped to increase the appetite for risk. Markit’s global manufacturing PMI data for November showed manufacturing activity in major countries was lower than estimates and that there are signs of slowing demand growth, while U.S. data was relatively strong. U.S. CPI, existing home sales, and new building permits were better than expected in October, while housing starts and industrial production were slightly lower than estimates, showing a continued modest uptick for the economy. Two events exceeded expectations: 1. ECB (European Central Bank) President Mario Draghi strongly hinted at more aggressive easing policy. 2. PBOC cut benchmark deposit and lending rates. Japan’s delay of a sales tax increase and call for earlier parliament elections were in line with expectations. These events led to continued strength in USD index. Global stock markets maintained strong momentum on the significant easing tone set by central banks, with the S&P 500 hitting a new record high. Gold price rebounded recently, but will maintain downward trend over medium- and long-term. Oil price rose as Russia and Saudi Arabia agreed to jointly respond to the energy market and a China rate cut signals a boost in demand. A decline for JPY triggered depreciation of Asian currencies including KRW. Given China’s current internal and external economic environment, RMB may face depreciation pressures in short-term.

    October Fed meeting minutes show optimism on economy, pay attention to risks from lower inflation expectations. There were few highlights from October Fed meeting minutes. Fed members think slowing external economy has limited impact on the U.S. (reasons include that foreign trade accounts for small proportion of U.S. economy, changes to U.S. trade and production structure reduce impact from overseas, USD appreciation will have mild impact on net exports), which is in line with our previous report. Minutes of the meeting in September mentioned that slower external economic growth and strong USD damage U.S. export and inflation outlook. We thought it sounded farfetched at the time, as they are not the employment, inflation and financial market stability indicators the Fed directly focuses on. Minutes of the meeting in October did not mention major fluctuations in capital markets in mid-October, indicating U.S. economic fundamentals have not shown substantial deterioration. We tend to believe that without a clear rise in inflation, the Fed is likely to maintain existing policy. U.S. CPI was better than market consensus in October, with month-on-month growth falling to 0% from 0.1%, and year-on-year growth staying at 1.7% for three straight months. Pay attention to risks from a decline in inflation expectations.

    ECB President Mario Draghi called for higher inflation expectations assoon as possible, strongly suggesting the possibility of expanded unconventional monetary loosening. Mario Draghi said on November 21 that if current monetary policy misses its target (effectively push inflation to nearly 2%), including whether inflation is rapidly approaching the goal, the ECB is prepared for further monetary stimulus (measures include adjusting ECB’s balance sheet structure and pace of expansion). Draghi’s comment that ECB will increase inflation expectations as soon as possible is a strong hint at further loosening in the future, while market expectations for ECB purchases of government bonds and overall QE rapidly increases. Euro/USD rate slumped 1%, while European stocks rose. Government bonds yields in many Eurozone countries recorded new lows. We forecast ECB will maintain a wait-and-see stance in December, with immediate launch of a comprehensive QE program unlikely.

    Japan announced a delay in a sales tax hike as expected and moved up parliamentary elections; positives for “Abenomics”. Japan’s real GDP continued to fall, declining 1.6% QoQ in 3Q after a 7.3% QoQ decline in 2Q, missing expectations for 2.2% growth. Abe announced the sales tax increase will be delayed to April 2017 (original plan was to raise the tax by 2ppts to 10% in October 2015), while calling for snap elections for parliament. Abandoning the aggressive tax increase and moving up parliamentary vote will help to consolidate Abe’s administration, and help progress of “Abenomics” over the next two years. However, given Japan’s economic fundamentals, the Japanese government needs to launch further financial stimulus while consolidating fiscal “credit”. See details in our April 7, 2014 report “Risks Faced by Japanese Economy and Its Possible Impacts on Financial Markets”. Following expansion of the scale of monetary easing on October 31, BOJ maintained easing this week, in line with expectations.

    Pay attention to U.S. Durable Goods Orders, Individual Income and Expenditure, Eurozone CPI, money and credit data next week.