ECB Hikes Refi to 3.25%, Will Likely Move Again on December 7
As expected, the European Central Bank (ECB) hiked its refi rate another 25bp today, taking it to 3.25%. At the subsequent press briefing Governor Trichet seemed to be less overtly hawkish than in previous months, leading the markets to doubt the likelihood of the tightening stance continuing into 2007. While the Governor did refuse to be drawn on expectations for the monetary stance next year, there were plenty of pointers in his comments, and in the policy statement itself, to conclude that the rate hike widely expected on December 7 will not be the last one in this cycle.
After raising rates at a rather leisurely pace in the first half of this year - December, March, and June - the ECB has picked up the pace, with increases in August and October, and it is clear that the bank expects to hike again in December. Today's policy statement and the governor's briefing contained the usual buzz phrases - upside risks to price stability in the medium- to longer- term; the rate of monetary and credit expansion remains rapid; further withdrawal of monetary accommodation is warranted; the policymakers will continue to monitor the situation closely. And, Trichet said he had nothing to say to change market expectations of another rate hike before year end.
Trichet refused to be drawn on the rate outlook for 2007, making a number of comments on increasing uncertainty about the global outlook and about developments in the US economy. However, the ECB's assumption is that inflation risks will remain to the upside over the medium-term, and the bank's own projections still see inflation over the 2.0% target next year. Statements from various policymakers over the past two weeks make it clear that the bank's overall stance remains hawkish. That stance is unlikely to disappear abruptly after the end of this year, but the uncertainties flagged by Trichet do suggest that the current tightening cycle could pause - or end - after Q1 2007. For now, it seems reasonable to expect that rates will peak at 3.75% after a final rate hike next March - but 4.00% can't be ruled out, either. It all depends on how the global economy develops over the next few months.
In the near term, key Euro-zone data to watch for over the next few weeks include the Belgian leading indicator on October 24 and the German Ifo index on the 25th; money supply data on the 27th; then various Euro-zone sentiment surveys, unemployment data, and flash October CPI, all on the 31st.
Bank of England Holds Today, Data Favor November 9 Rate Hike
What a difference a week makes. Last week the markets were all of a dither after downwardly-revised Q2 GDP data and a weaker-than-expected service sector report for July suggested that maybe the UK economy is not doing as well as thought, maybe Q3 GDP would be much weaker, and maybe another interest rate hike this year from the Bank of England (BoE) wouldn't be necessary. However, as we've pointed out often before, quarterly GDP reports are lagging data - how the economy did back in April-June doesn't really tell you much about where it will be 6-12 months from now. This week's data have painted a rather different picture, and confirm our view that the BoE's Monetary Policy Committee (MPC) will raise the repo rate another 25bp at the November 9 meeting. Just how hawkish the MPC members are feeling will be apparent on October 18, when the minutes of this morning's no-change policy meeting will be released.
Back in August, when they hiked rates by 25bp, the MPC members noted that if the economy continued to develop as expected, then further tightening would be warranted. Although Q2 growth was revised down from 0.8% on the quarter to 0.7%, the data still point to above-trend economic growth. The Committee left rates unchanged last month and again today, but the minutes of last month's meeting made it clear that its overall stance remained hawkish. In particular, the members were worried about rising inflation expectations heading into the crucial New Year pay round, and about the ongoing strength of the housing market. Those concerns are unlikely to have abated.
Consumer price inflation remains above the 2.0% target, and despite lower oil costs is likely to head still higher over the next few months thanks to announced increases in utility prices and university tuition fees. Money supply growth remains rapid, with M4 running at its highest annual rate in almost 16 years - 13.7% in August, up from 13.1% in July. There is some preliminary evidence that the housing market may be close to its peak, with mortgage approvals and overall mortgage lending both edging lower in August. However, house prices remain buoyant - the Halifax, Nationwide, and Hometrack September price surveys all showed that property prices continued to climb around 1.0% to 1.5% on the month.
The CBI distributive trades survey for September showed retail sales grew at their fastest rate in nearly two years, with the reported sales balance rising to +14 from +12 in August. The GfK consumer confidence survey for September improved to -7 from -8 in August, when confidence was hit by that month's unexpected BoE rate hike and the travel chaos triggered by security alerts. Finally, the BoE's August inflation expectations survey showed expectations remain above the Bank's 2.0% target - a factor that is likely to add to concerns about the upcoming pay round.
Finally, September PMI data released earlier this week point to an acceleration in both services and manufacturing at the end of Q3. The CIPS service sector index for September rose to 57.0 - still well above the growth-contraction level of 50.0 - after slipping to 56.7 in August. In particular, business expectations rebounded strongly. The CIPS manufacturing PMI rose from 53.0 in August to 54.4 in September. The new orders index rose from 52.0 to 55.1, and current output jumped from 54.2 to 58.7.
The influential RICS housing survey for September will be released October 16; September CPI data come out on the 17th; the minutes of today's MPC meeting will be published on the 18th along with various labor market and earnings surveys for August and September; the 19th brings September M4 and retail sales; and preliminary Q3 GDP is released October 20.