Next Week's Risk Dashboard
• Emerging markets and the Fed, then and now
• FOMC to hike and move on roll-off
• OPEC+ meeting could be livelier…
• …if Europe embargoes Russian oil
• Nonfarm payrolls amid rising wage pressures
• Canadian jobs: COVID restrictions are now lower than the US
• BoE to hike and set up roll-off
• The RBA might lift off
• Brazil’s hikes nearing an end?
• Will Chile’s central bank guide more to come?
• Norges to take a scheduled pause
• NZ wages accelerating?
• PMIs: US, Canada, China, Mexico, Brazil, India, Italy, Spain, Sweden, Indonesia
• German macro updates
• CPI: LatAm & Asian updates
Chart of the Week
In another heavy week for global central bank decisions, a key consideration will be the extent to which external risks may impede their desire to tighten monetary policy for fear of breaking something in the global financial system. That obviously applies to the Federal Reserve in particular given the role of dollar funding conditions across global markets. One form of such risk may be informed by developments in energy markets including the OPEC+ meeting and possible further movement toward a European oil embargo against Russian oil.
Another form of risk centers upon the reverberating effects of Federal Reserve policy shifts upon emerging economies compounded with their own domestic policy dilemmas. The Fed’s dual mandate is focused upon the US economy, but spillover effects from abroad can indirectly impact domestic price stability and full employment goals. How China handles downside risks to its economy will figure prominently in this regard and markets will be watching for substantive action to follow recent policy rhetoric.
The more general focus is upon emerging markets as a whole. We’ve seen this movie before like in 2013–14 when the debate was whether emerging markets could handle Fed tapering, and then again in the subsequent tapering episode that gave way to hikes in 2017–19. I find that the arguments behind why EM market volatility shouldn’t hold back the Fed are similar now to those past instances when I first wrote about them (here), but with some important distinctions.
For one, charts 1 and 2 show that net portfolio flows into EMs as a broad asset class have so far held up reasonably well across debt, equity, and total capital market flows. That’s true overall and across regions. The flows are well off their peaks and have been for some time, but capital flight is generally not taking root even with much of the Fed’s future expected actions having been priced.
Chart 3 shows a major reason why this has been the case: in the face of shocks to their capital accounts like changing Fed policy and the war in Ukraine, prices have adjusted as they should. Higher-yielding currencies appreciate relative to currencies in countries where central bank actions are less aggressive. Prices have adjusted principally through FX markets in order to clear capital accounts. The unsung greatest achievement across the EM space over the decades has been the move toward freely floating currencies alongside structural reforms. These are flexible exchange rate regimes doing what they are designed to do as the front-line shock absorbers by contrast to the past when many more EMs were on fixed exchange rate regimes that built up imbalances in the face of external or domestic shocks to the point to which real economy variables had to do more of the painful adjusting.
Further, EM is not a uniform asset class and hasn’t been in ages. The members within the EM class need to be differentiated along the lines of what’s shown in charts 4–7, rather than applying blanket concerns across all of them in some mythically homogeneous asset class. The most pressured economies will be the ones with some combination of large current account and fiscal deficits, high public and private debt, low foreign reserves and high external debt.
Herein lies the rub...as highlighted in chart 8. Over the past decade, fiscal balances have deteriorated. Public and private debt has increased. External debt has risen. Current account positions and reserve balances have been mixed. With very few exceptions, EM is more vulnerable to debt market shocks now than a decade ago. Higher debt positions limit some fiscal flexibility to address risks as the Fed withdraws its security blanket.
CENTRAL BANK WEEK!
Several major central banks will deliver policy decisions over the coming week with some continuing tightening campaigns, one perhaps starting and another taking a scheduled break.
FEDERAL RESERVE—Hike and Roll-Off
Most of the script should be set for Wednesday’s meeting including the statement at 2pmET and the ensuing press conference held by Chair Powell at 2:30pmET.
A half point hike in the fed funds target range to 0.75%–1.0% is expected alongside implementation of plans to shrink the balance sheet. A move other than a half percentage point hike would be a surprise to markets. Chair Powell explicitly said on April 24th “I would say that 50 basis points will be on the table for the May meeting.” He also guided that “there’s something to the idea of front-end loading” rate hikes.
One thing to watch for would be any signs of a shift in the explanation of the drivers of inflation toward something that is now believed to be longer-lived. This would contrast with describing them as merely “reflecting supply and demand imbalances related to the pandemic, higher energy prices, and broader price pressures” although the last part may still be viewed as sufficient.
Nothing in the March dot plot indicates that the Fed plans on pausing rate hikes any time soon. The dot plot at that meeting indicated a year-end forecast for the upper limit to approach 2% which implies a further 100bps of hikes after this meeting until then. The direction of risks to inflationary pressures remains pointed higher and is likely to result in Chair Powell maintaining a hawkish stance.
A recap of the outlines of the Fed’s balance sheet reduction plans is here. Since the start of this month, measures of the 10-year term premium have responded with an increase of about 40+ basis points. There is probably further room for the reward to accepting duration risk to increase further and with that for the longer-term Treasury yields to rise toward our forecast of over 3% into year-end (chart 9).
BANK OF ENGLAND—A Key Threshold Will be Hit
A quarter point Bank Rate hike is priced for Thursday’s Bank of England decision, but the greater focus may be upon forward guidance and plans to move toward shrinking the balance sheet.
Market implied pricing expects Bank Rate to rise toward 2.25% by year-end from 0.75% at present (chart 10). Much of the attention will be placed upon a fresh round of forecasts that are expected to revise growth downward and inflation upward. The growth forecasts may be leveraged to lean against the pace of rate hikes that is priced by markets alongside incorporation of market implied pricing into model forecasts projecting inflation to plunge in the outer period of its projection horizon.
The thing about a 1% Bank Rate is that the Monetary Policy Committee has guided for some time now that this would be the threshold around which a plan to actively manage the balance sheet lower would be considered. Markets will be keenly watching plans for the starting point and pace but are unlikely to get firm guidance on end points or optimal size of the balance sheet.
RBA—Most Expect a Small Hike
Most economists expect the Reserve Bank of Australia to hike its cash rate target on Tuesday. Thirteen of 21 within consensus expect a 15bps hike, five expect a bigger hike from 0.1% to 0.5% and a minority of three economists expect a hawkish hold. Futures markets have a hike to 0.25% fully priced such that either a hold or a larger hike would be a surprise.
The case for a hike is, well, much the same as everywhere else these days. Inflation has been sharply accelerating as evidenced by the recent Q1 core inflation readings (chart 11). At an annualized rate, trimmed mean and weighted median CPI are climbing considerably faster than the RBA’s 2–3% target range.
The case against a hike at this meeting, or at least against a large hike, is two-fold. One is that the RBA has an eye on wages and may wish to see the Q1 figures on May 17th given that to date wage gains have been below the rate of inflation (chart 12). Still, the RBA might not wait to see this if it has enough conviction that stronger wage gains in tightening labour markets lie ahead. This perspective would be supported by Governor Lowe’s prior remarks indicating an expected acceleration of wage growth. That, in turn, could be keyed off the fact that Australian employment is about 400,000 above pre-pandemic levels while the unemployment rate has fallen to 4% which is tied for a record low and the participation rate is at a record high.
Secondly is the matter of politics with the May 21st election just around the corner. Herein lies the trade-off in that hiking before the election might play negatively in PM Morrison’s quest to be re-elected but hiking soon afterward at the next meeting on June 7th and hence fresh off the election results might not be politically welcomed either.
BRAZIL—Approaching a Peak?
Banco Central do Brasil is unanimously expected to hike its Selic rate by another 100bps to 12.75% on Wednesday. At issue is forward guidance following what would be 10.75% of rate hikes since a little over a year ago. If this is not a peak then our LatAm economists expect a peak to be achieved following one more hike at the next meeting before developments may begin to turn the other way next year (chart 13).
CHILE—This Was Supposed to Be the Final Hike
Consensus is somewhat divided over the expected size of a rate hike by Chile’s central bank on Thursday. Our Santiago-based economist expects a 50bps hike to an overnight rate target of 7.5% and for this to be the end of the hike cycle (chart 14). Other voices within consensus expect a hike of between 75bps and 150bps.
Our economist’s expectation is buttressed by guidance provided by the central bank in its March outlook. A risk toward a bigger hike could be informed by the fact that since that guidance was provided, inflation significantly surpassed expectations when March CPI climbed by 1.9% m/m (1.2% consensus ) and 9.4% y/y (8.7% consensus). Unfortunately, the next CPI report for April will arrive after this meeting on Friday, although a reading of over 10% y/y is expected.
NORGES—Likely to Hold
And finally a central bank that tells you what it’s going to do in advance and usually sticks to the plan. When it hiked by 25bps at its last meeting on March 24th, the central bank said that it would likely hold at this coming meeting but hike again at the June meeting.
It nevertheless cautioned that “If there are prospects of persistently high inflation, the policy rate may be raised more quickly.” Since then, while global supply shocks have worsened and the coming week could bring high uncertainty around future risks to oil prices, the last inflation report on April 11th landed softer than expected at 4.5% y/y (5% consensus) and may provide just the right amount of breathing room to stick to its promise this time.
Chart 15 shows Norges Bank’s projected policy rate path as revised in March and compared to prior forecasts.
NONFARM PAYROLLS—LABOUR COSTS ACCELERATING
The US BLS releases nonfarm payrolls and related labour market measures for April on Friday. My guesstimate is for a payrolls gain of around 400,000 with an unemployment rate hovering around 3½% and wages up another ½% m/m that would drive the month-over-month annualized pace of wage gains to around the 6% mark.
Consumers indicate that jobs remained plentifully available in April which can be a good sign for job growth. Initial jobless claims held fairly steady at low levels between nonfarm reference periods in March to April. Other advance readings are so far unavailable including next week’s ISM-services (Wednesday) and ISM-manufacturing (Monday) employment subindices, next Wednesday’s ADP-payrolls report and the National Federation of Independent Business gauges for hiring and jobs that are hard to fill.
Unlike Canada (see below), there may not be a further lift effect from easing restrictions. The US stringency gauge of COVID-19 restrictions has stalled out.
Also keep an eye on Thursday’s update on unit labour costs. This takes total employment costs divided by real GDP to assess how employment costs needed to produce added economic output change over time. As such, the measure adjusts costs for productivity. Because GDP shrank in Q1—though due to import and inventory effects—labour productivity growth probably turned negative. With lower productivity, unit labour costs likely picked up toward something that could rise by as much as ~10% q/q. That could add to the trend of labour costs outpacing output as an inflationary signal (chart 16) on the heels of the rise in the Employment Cost Index (chart 17).
CANADIAN JOBS—CROSSING THE HALF MILLION MARK
All signs point toward a potential blockbuster of an employment gain on Friday when April’s Labour Force Survey arrives. My estimates for 125,000 jobs to be gained and a further decline in the unemployment rate to 4.9% are probably on the conservative side given what we’re tracking. If this estimate is anywhere close to the mark then it will push employment to be more than a half-million jobs above pre-pandemic levels.
For starters, pandemic restrictions have been virtually eliminated. The Oxford Stringency gauge for Canada has plunged so much so that restrictions are now shown to be lighter in Canada than in the US (chart 18). The Bank of Canada’s gauges are not being updated as frequently now compared to earlier in the pandemic and only go to late March, but they too have shown further easing.
Also, while not infallible, our attempt to convert Statistics Canada’s real-time local business conditions indices by city into a national composite measure points toward an acceleration of job growth in April (chart 19).
There are also signs that job searches are picking up. One measure is the number of visits to the ‘Indeed’ Canada job site that have recently soared (chart 20). With abundant job vacancies, increased search activity is likely to result in a pick-up in filled jobs albeit with uncertain timing.
As for appetite for further hiring, small businesses are saying they are accelerating their plans to hire more people in the months ahead (chart 21).
The cost to another strong jobs report could be further weakness in labour productivity. Also watch wages in this report since the average wage of permanent employees in the Labour Force Survey is the most timely measure of wage growth in Canada. The past couple of months saw annualized month-over-month wage growth stall out compared to the prior seven months that saw wages rising at a pace of 6–9%. The US emerged from its temporary soft patch for wage growth in March and we’ll be watching for whether Canada follows suit.
Separately, keep an eye on Wednesday’s Canadian merchandise trade figures for March. The advance merchandise trade deficit in the US blew out in March which probably means that Canada’s surplus did likewise.
If the week ends with ripping jobs, a strong trade report and on the back of the recent GDP figures (here) then the stage is set for a hawkish sounding Bank of Canada at the June 1st meeting.
This could be a highly eventful week for oil markets. Since oil is a contributing factor to inflation, the same may hold true for everything affected by inflation trading which these days covers most asset classes!
The next monthly OPEC and non-OPEC ministerial meetings will be on Thursday. The immediate aims involve reassessing the expected net global supply and demand balance and how the cartel can manipulate it, with the next step being to set intended production targets for June. Wednesday’s conclusions by the Joint Technical Committee will inform this balance.
Developments leading up to and after the last meeting on March 31st were marked by considerable drama and this one is unlikely to be any different.
One reason why OPEC+ decided to stick to plans to raise output by 432kbpd through April instead of adding more given high oil prices was because they felt they wanted firmer evidence on how Russian production might be affected before altering course. MBS discourteously didn’t even take President Biden’s phone call as the Saudis led a grand skimming operation that benefited the Russians. The Americans responded by releasing strategic oil reserves but the net effect on the price of oil has been minimal since then.
We now have better evidence on the magnitude of the hit to Russian oil production that has occurred since about mid-March. Reuters picked up estimates from the International Energy Agency that estimated that Russian oil production had fallen by about 7.5% from about mid-March to mid-April. They forecast Russian oil production to plunge from 524 million tonnes last year to 434–475 million tonnes this year for the lowest level of Russian oil output since 2003 (chart 22). Efforts by western European economies to curtail Russian oil imports are having their effects not least of which is Germany (see cover chart) that says it is now in a position to eliminate Russian oil imports. There is speculation that after Germany dropped opposition to a Russian oil embargo the European Union may implement a set of steps to embargo Russian oil as soon as this week.
Embargos, sanctions, production shut-ins and energy substitution are imposing a negative supply shock on oil markets and so may be any further escalation by Russia to turn off natural gas taps to countries refusing to pay in rubles as a way of circumventing sanctions.
Offsetting this in part is that China’s thirst for oil is likely waning as its economy continues to suffer from mounting downside risks. It seems that the speed of developments around Russia is eclipsing the changes emanating from China.
Enter the coming meeting. The loose consensus of opinion is that June’s production increase will be similar to May’s. This and subsequent meetings may be increasingly tense should oil prices rise further.
OTHER MACROECONOMIC INDICATORS
I’ll write more about them over the course of the week in daily notes, but in addition to the aforementioned macroeconomic indicators there will be several others.
Germany’s economy will be in the spotlight when March updates for retail sales, trade, factory orders and industrial production arrive throughout the week.
Additional US releases will include expected strength in construction spending during March (Monday), factory orders during March (Tuesday), JOLTS job openings that same month (Tuesday), higher vehicle sales in April (Tuesday) and a blow out in the trade deficit during March based on what we’ve already seen in the merchandise balance (Wednesday).
New Zealand is expected to post a mild employment gain and another wage gain of over 1% q/q SA during Q1 on Tuesday.
Australian retail sales in March are expected to follow through with another gain after the 1.8% rise the prior month.
CPI inflation reports for April are due from several Latin American and Asian economies including Peru and South Korea on Monday, Philippines and Thailand on Wednesday, Colombia on Thursday and Chile on Friday. Swiss inflation will also be updated on Thursday.
Purchasing managers’ indices will land in China on Friday evening shortly after this publication is distributed and are expected to sharply contract. PMIs will also arrive in Mexico on Monday, Brazil on Monday and Wednesday, Italy on Monday and Wednesday, India on Monday, Sweden (Wednesday) and Switzerland (Monday).
Hong Kong’s economy likely contracted in year-over-year terms and we’ll get the Q1 estimate on Tuesday.
This report has been prepared by Scotiabank Economics as a resource for the clients of Scotiabank. Opinions, estimates and projections contained herein are our own as of the date hereof and are subject to change without notice. The information and opinions contained herein have been compiled or arrived at from sources believed reliable but no representation or warranty, express or implied, is made as to their accuracy or completeness. Neither Scotiabank nor any of its officers, directors, partners, employees or affiliates accepts any liability whatsoever for any direct or consequential loss arising from any use of this report or its contents.
These reports are provided to you for informational purposes only. This report is not, and is not constructed as, an offer to sell or solicitation of any offer to buy any financial instrument, nor shall this report be construed as an opinion as to whether you should enter into any swap or trading strategy involving a swap or any other transaction. The information contained in this report is not intended to be, and does not constitute, a recommendation of a swap or trading strategy involving a swap within the meaning of U.S. Commodity Futures Trading Commission Regulation 23.434 and Appendix A thereto. This material is not intended to be individually tailored to your needs or characteristics and should not be viewed as a “call to action” or suggestion that you enter into a swap or trading strategy involving a swap or any other transaction. Scotiabank may engage in transactions in a manner inconsistent with the views discussed this report and may have positions, or be in the process of acquiring or disposing of positions, referred to in this report.
Scotiabank, its affiliates and any of their respective officers, directors and employees may from time to time take positions in currencies, act as managers, co-managers or underwriters of a public offering or act as principals or agents, deal in, own or act as market makers or advisors, brokers or commercial and/or investment bankers in relation to securities or related derivatives. As a result of these actions, Scotiabank may receive remuneration. All Scotiabank products and services are subject to the terms of applicable agreements and local regulations. Officers, directors and employees of Scotiabank and its affiliates may serve as directors of corporations.
Any securities discussed in this report may not be suitable for all investors. Scotiabank recommends that investors independently evaluate any issuer and security discussed in this report, and consult with any advisors they deem necessary prior to making any investment.
This report and all information, opinions and conclusions contained in it are protected by copyright. This information may not be reproduced without the prior express written consent of Scotiabank.
™ Trademark of The Bank of Nova Scotia. Used under license, where applicable.
Scotiabank, together with “Global Banking and Markets”, is a marketing name for the global corporate and investment banking and capital markets businesses of The Bank of Nova Scotia and certain of its affiliates in the countries where they operate, including; Scotiabank Europe plc; Scotiabank (Ireland) Designated Activity Company; Scotiabank Inverlat S.A., Institución de Banca Múltiple, Grupo Financiero Scotiabank Inverlat, Scotia Inverlat Casa de Bolsa, S.A. de C.V., Grupo Financiero Scotiabank Inverlat, Scotia Inverlat Derivados S.A. de C.V. – all members of the Scotiabank group and authorized users of the Scotiabank mark. The Bank of Nova Scotia is incorporated in Canada with limited liability and is authorised and regulated by the Office of the Superintendent of Financial Institutions Canada. The Bank of Nova Scotia is authorized by the UK Prudential Regulation Authority and is subject to regulation by the UK Financial Conduct Authority and limited regulation by the UK Prudential Regulation Authority. Details about the extent of The Bank of Nova Scotia's regulation by the UK Prudential Regulation Authority are available from us on request. Scotiabank Europe plc is authorized by the UK Prudential Regulation Authority and regulated by the UK Financial Conduct Authority and the UK Prudential Regulation Authority.
Scotiabank Inverlat, S.A., Scotia Inverlat Casa de Bolsa, S.A. de C.V, Grupo Financiero Scotiabank Inverlat, and Scotia Inverlat Derivados, S.A. de C.V., are each authorized and regulated by the Mexican financial authorities.
Not all products and services are offered in all jurisdictions. Services described are available in jurisdictions where permitted by law.