Daily Economic Briefing: January 19, 2010
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Global data summary
• In last week’s DEB and this week’s GDW, we flagged the potential for headline inflation rates in the near term
to surprise on the upside on a year-ago basis as commodity prices have almost doubled over this period. This caution was
underscored today in the UK by a stronger-than-expected 2.9% CPI reading for December. At the same time, core inflation
jumped in line with our expectation (2.8%oya), but this too was above consensus and the BoE’s own projection. While we
maintain that the MPC will look through some of the near-term bounce as a one-off event owing to commodity price
base-effects and an unwind in last year’s VAT cut, the relative stickiness of underlying price inflation will likely
push the central bank to lead most other developed-country majors in the start to policy rate normalization.
• A potential benefit of an unexpected jump in headline inflation rates around the world, even if temporary, is
that it could encourage faster policy tightening in those economies where levels of economic activity are recovering
swiftly to prior cycle peaks. To wit, should inflation in China quickly jump to the levels seen in 2007, it could induce
an earlier appreciation in the CNY, which would also reduce pressure on other EM Asian currencies. The effect would be a
shift toward more balanced global growth.
• Consumer sentiment in the developed markets has moved up well from its trough last year but has not yet marked a
strong recovery. However, although households in the G-4 remain downbeat about their current conditions, they are
considerably more sanguine about the near future. Moreover, consumer expectations have aligned much more closely with
the solid recovery underway in developed market retail sales volumes. At the same time, today’s disappointing further
move back down in the ESRI consumer sentiment index for Japan highlights the growing wedge between US and Japanese
domestic demand prospects as we highlighted on page 2 of the January 13 DEB.
• The US housing market appears to have stalled late last year in response to the tentative ending of the
first-time home buyers tax credit. (The credit has now been extended through early summer.) Mortgage applications have
dipped, new home sales have started to roll over, and the 16% drop in pending home sales suggests existing home sales
have also given up earlier gains. With mortgage rates set to move up and a large backlog of foreclosures, the market has
some stiff headwinds. This is underscored by today’s slide in the NAHB survey, which suggests new home sales in January
were flat.
• This week’s data will bring further confirmation that EM Asia is still expanding robustly, with China to report
all of its December activity data (Thu), 4Q09 GDP data from China and Korea (Thu), and Taiwan December export orders
(Wed). Perhaps more importantly, the release of the January business surveys begins this week. The Euro area flash PMI
(Thu) will be crucial for testing our view that the recent spate of disappointing data is temporary and that activity is
set to pick up in 1Q10
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Central banks set to break ranks
As the global shocks that pummeled financial and economic markets around the world last year have now faded
considerably, the historically accommodative, one-size fits all global monetary policy stance is becoming increasingly
inappropriate. Although GDP in almost every country J.P.Morgan tracks is set to rise at an above-trend pace in 2010, the
magnitude of this rise relative to trend will vary. More importantly, because not all countries entered the downturn in
the same cyclical positions, some countries were hit by the downturn harder than others, and some have rebounded more
strongly than others, there are wide divergences in the level of activity relative to potential. This makes any analysis
gauging the prospective paths to policy normalization an exercise that is inherently region-by-region, or even
country-by-country.
In a recent report, we examine a relatively simply bivariate metric to gauge the disparate paths to policy rate
normalization (“Central bank exits and FX performance,” Global Issues, December 18, 2009). Specifically, we note that
monetary policy decisions will be informed by the traditional metrics—current inflation and economic slack—and that 4Q09
estimates of core inflation relative to central bank targets (headline or core) and the output gap align reasonably well
qualitatively with our current projections for central bank hikes, as well as with market expectations.
In today’s DEB, we extend this analysis to the macroeconomic backdrop projected to be in place at the end of this year.
In some ways, this exercise may more adequately reflect the forward looking decision making process of most monetary
authorities. Moreover, the analysis has the advantage of removing the volatility in inflation from realized commodity
price movements (much of which is faded by policymakers). The results are shown in the scatterplot below. Headline
inflation projections are used for all countries except the US, where core inflation is used. However, because commodity
prices are assumed to be relatively flat, the values provide a clean read of the underlying pace of price inflation in
all cases.
The results are largely consistent with those reported in the original report, but a much sharper pattern emerges. The
analysis produces three clear groups of countries. The first group will have a relative small output gap and inflation
at or above target. These are the “Early moves”, and this includes Australia and Norway (both of which began hiking
rates in 4Q09), as well as China, India, Korea, and Brazil. China and India have both begun hiking reserve ratios and
are projected to begin hiking rates soon, as are Korea and Brazil.
The second group has a larger negative output gap and inflation that is falling below target. This “Low for long” group
includes those banks that are projected to be on hold for all of much of 2010 and includes the US, Euro area, and
Sweden. The UK and Canada are expected to begin hiking in 3Q09 but this move will be challenged by the macroeconomic
conditions if our forecasts are right. Indeed, as noted on page 1, the MPC in the UK will likely be pressured by the
temporary boost to headline inflation resulting from the VAT hike even as underlying prices edge down this year.
The last group (“The others”) all share a remarkably deep projected negative output gap for 4Q10 but have a much more
diverse inflationary backdrop. Japan will continue to be in the deepest hole among the G10 economies by year-end, and
with prices already in outright decline, policy will remain on hold and perhaps dip even further into QE. Consistent
with their position in the group, Russia and Hungary are projected to ease further this month, while Turkey, Poland and
the Czech Republic are expected to begin hiking in 2H10. Mexico also is expected to begin hiking in response to a rise
in inflation pressures from tax hikes and only a mild disinflationary response to slack.
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ENDS