Intesa Sanpaolo : The main news of this week is the opening made by Christine Lagarde in her hearing at the European Parliament to a rate cut at the October 17 meeting, partly in the wake of the lower-than-expected data on consumer prices in September (following last week’s figures on confidence surveys in the same month).
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Weekly Economic Monitor – 4. October 2024
Intesa Sanpaolo – Research Department – Luca Mezzomo Economist – Paolo Mameli Economist – Andrea Volpi Economist Euro Area – Mario Di Marcantonio Economist US
In our view, recent developments suggest an increase in the speed of the path back toward neutral monetary policy, rather than a landing toward a lower rate endpoint in accommodative territory. News on the fiscal front showed a better-than-anticipated public accounts situation in Italy and conversely more challenging than expected in France. In the U.S., recent data on the cycle, unlike in the Eurozone, did not surprise on the downside, and Powell cooled expectations of large rate cuts; the CPI on the calendar next week will provide additional elements for the central bank to choose on the size of the expected move on November 7 (we believe a 25bps cut would be more consistent with economic fundamentals).
Eurozone:
This week:
Consumer prices lower than expected. In September, inflation in the Eurozone fell more than anticipated, to 1.8% from 2.2% in August (at the lowest since April 2021). The decline was due not only to energy but also to services, where however the annual change slowed only a tenth, to 4% (like the core index, to 2.7%, a low since January 2022). The moderation in services could be due to the reversal of the Olympics effect in France, but business surveys indicate that the trend should continue in the coming months. Inflation also fell in Italy (to 0.8% from 1.2% previously, on the harmonized index) and Germany (to 1.8% from 2%, also on the HICP). We expect euro area inflation to rise again in the 4th quarter of the year (to 2.4% on average), but this increase is due to base effects on energy, and, in the ECB’s own expectations, will be temporary (in our view, inflation will start to fall again as early as the beginning of 2025, to an average of 1.8% next year).
First industrial production data for August: upward surprise from France. In August, there was much stronger-than-expected growth in output in France (1.4% m/m, and July’s figure was revised from -0.5% to 0.2% m/m) and conversely a marginal decline, for the second month, in Spain (-0.1% m/m, from -0.4% previously). Pending the numbers on Germany and Italy to be released next week, the data could be consistent with a recovery in industrial output in the euro area of more than half a point (barring surprises from the volatile Irish figure), after the previous -0.3%. However, August data are typically volatile, and output is not expected to avoid a further decline in Q3 (this would be the sixth consecutive quarterly decline); moreover, surveys do not foreshadow a recovery for the manufacturing sector in the next two quarters either.
Lagarde opens to a rate cut in October. The long series of negative surprises offered by European economic data and the slightly better-than-expected inflation performance in the third quarter seem to have convinced the ECB Governing Council to opt for another rate cut at its October 17 meeting. A not too veiled indication to this effect came on Monday, September 30, from President Lagarde’s hearing at the European Parliament: in commenting on data developments, Lagarde concluded by saying that „the latest developments strengthen our confidence that inflation will return to target in a timely manner” and that “we will take that into account in our next monetary policy meeting in October”. Although the weakness in economic activity mainly comes from Germany (suggesting that it should be addressed by a more accommodative domestic fiscal policy) and is partly due to structural factors (which cannot be addressed by monetary policy), weaker demand nevertheless has implications for future inflation developments and thus for the monetary stance. At this point, we expect rate cuts of 25 basis points in
both October and December. Then, we anticipate two more moves of equal size, the first in March and the second later in the Spring, that would bring the deposit rate to 2.5% by mid-2025. Rates could fall more if the expected recovery in consumption does not materialize.
Italy. The Medium-Term Fiscal Structural Plan presented by the Government shows a more virtuous public finance picture than previously estimated: the ‘unchanged legislation’ trend deficit improved for the current year from 4.3% to 3.8%, for 2025 from 3.7% to 2.9%. The net fiscal package the Government intends to approve is worth 0.4% of GDP for 2025, and brings the targeted deficit for next year to 3.3%. The improvement in the trend deficit for the current year appears to be due to better-than-anticipated revenue performance (+9.4 bn compared to the April forecast, of which 2.2 bn is higher „permanent“ revenue as a result of improved tax compliance), especially direct taxes (due to higher-than- expected employment growth). Prospective progress in public accounts does not depend on particularly optimistic assumptions of GDP growth, the profile of which is basically confirmed from previous estimates (1.2% over 2025). Based on the Plan, if the Government confirms the size of the 2025 gross budget at 25 billion (as per press reports), it will have to find coverage measures for 16 billion. The Budget Law is expected by the middle of the month.
France. In his first speech to the National Assembly, Prime Minister Barnier stated the goal of reducing the public deficit to around 5% of GDP in 2025 and postponing the return to the 3% threshold to 2029 from 2027 envisaged in the most recent Stability Program. According to the latest estimates of the Ministry of Finance, net borrowing could exceed 6% of GDP already this year and, under a scenario of unchanged policies, rise to 7% in 2025: resources of about 60 billion euros in 2025 alone must be found to meet the targets (this is very challenging). The budget bill, expected to pass in parliament next week, should consist of 40 billion in spending cuts and 20 billion in tax increases. Higher taxes are likely to hit mainly the extra profits of large corporations and the wealthy, but the large spending cuts (although there are doubts about their actual feasibility), spread to central, local and welfare Governments, could have a significant negative impact on GDP growth in 2025.
Next week:
Industrial production in Germany and Italy: only partial recovery expected. German output is seen to rebound in August, we estimate by 1.1% m/m, after a -2.4% m/m slump the previous month. However, data on orders should on the contrary show a broad contraction, we estimate -3.5% m/m after July’s +2.9% jump (which was explained by high unit value orders). Confidence surveys do not suggest a recovery in the sector, at least on a 3-6 month horizon. Industrial production in Italy is also expected to rebound in August after July’s large decline, but the recovery here too is expected to be only partial (we
estimate 0.2% m/m from -0.9% previously).
Eurozone retail sales seen accelerating in August (we estimate by 0.3% m/m from a previous 0.1% m/m). Sales have timidly returned to growth since the beginning of the year but the trend remains weak. However, in our view, conditions remain in place to see a moderate acceleration in household spending in the wake of the recovery of purchasing power lost during the inflation shock.
United States:
In the last week:
Personal income and spending: lower-than-expected growth in August, but upward revision of previous data. Last Friday’s data showed a slightly smaller-than-expected climb in August (0.2% m/m for both income and consumption): in the case of the former, one has to go back to January 2022 to find a lower value. However, the figures for previous months were revised upward (+0.9% and +1.2% the cumulative change in income and spending for January to July 2024); as a result, the average savings rate recorded so far in 2024 was revised upward from 3.5% to 4.9% (August figure: 4.8%).
PCE deflator down, but core rises. Both the headline and core deflator rose just 0.1% m/m in August (slowing from the previous month), for a year-on-year change to 2.2% from 2.5% (thanks to falling energy prices) and 2.7% from 2.6%, respectively. The services deflator increased 0.2% m/m (unchanged at 3.7% y/y).
September surveys: signs on average better than expected. The manufacturing ISM was stable in recessionary territory in September, at 47.2, with the breakdown showing a decline in employment and prices but a rebound in new orders (to 46.1 from 44.6). Conversely, the services ISM reaccelerated far more than expected, to 54.9 from 51.5, to the highest since February last year, driven by new orders, which surprisingly rose to 59.4 from 53 (to the highest since October 2021); the survey also shows a relapse into contraction territory for employment, and a surprise climb in prices (to 59.4). Consumer confidence according to the University of Michigan also rose in September, to 70.1 from 67.9 in August, showing a one-tenth drop in inflation expectations (to 2.7%).
Finally, the September employment report is on the calendar later today (seen little changed compared to August). An increase of 140k new payrolls is expected (with upside risks), roughly in line with the previous month figure; the unemployment rate is also expected to be stable, at 4.2%. Wage growth, on the other hand, may slow to 0.3% m/m, after 0.4% in the previous month. JOLTS data released this week showed a relevant increase in vacancies, above 8 million from 7.71 million in July, with the vacancy-to- unemployment ratio at 1.14 from 1.07 previously: this is an indication of a (moderate) return of tensions in the labor market.
Powell cools expectations of large-scale rate cuts. In a speech at a conference organized by the National Association for Business Economics, the Fed governor cooled market expectations about the magnitude of upcoming rate action: Powell said that the FOMC “is not a committee that feels like it’s in a hurry to cut rates quickly” and that the process of monetary easing “will play out over time”, while pointing out that the pace of rate cuts will ultimately depend on data. He also reiterated that the Fed “does not believe that we need to see further cooling in labor market conditions to achieve 2% inflation”. According to Powell, based on the September FOMC dot plot, if the economy continues on its current path there are two 25 basis point rate cuts to be expected this year, which is less than what the market is currently discounting. Some caution about the possibility of new broad rate action also came from Barkin (who said the Fed cannot yet declare the war against inflation won) and Musalem (who argued for more gradual rate cuts). Bostic remains open to larger cuts, but only if there is further deterioration in the labor market, and said he does not feel comfortable with the core deflator at 2.7%. More accommodative tones were used by Cook, who emphasized increased risks in the labor market.
Politics: first and only debate between the vice-presidential candidates (Minnesota Governor Tim Walz and Ohio Senator J.D. Vance). The debate ended in a substantial balance, although a CNN poll showed a majority in favor of Waltz.
Shutdown avoided, focus shifts to port strikes. Congress has as expected reached an agreement on spending, avoiding a federal shutdown for the next three months and postponing decisions until after the November elections. More worrisome is the situation of the East and Gulf Coast dockworkers‘ strike, with risks of disruptions in supply chains. Companies have already planned countermeasures, and there is speculation that Biden will intervene if no agreement is reached. If the strike lasts longer than 10 days, GDP growth in the fourth quarter could fall by 0.1%-0.2% q/q ann., with a potential loss of nearly a tenth
of GDP for each additional week of the strike. Inflationary implications could come morefrom increases in transportation costs than from wage increases – which, though generous (the call is for a 62.5% rise), would apply to a very small share of workers. The political effects could be significant in the run-up to the election if the strike is not effectively managed by the Biden-Harris administration.
Next week:
September CPI and PPI. The CPI is seen to grow 0.1% m/m (slowing by a tenth from August), which would bring annual inflation from 2.5% to 2.3% y/y, a low since February 2021 (with possible downward surprises due to lower fuel prices). Core prices are seen rising by 0.2% m/m (again, a tenth less than in August), with annual change stable at 3.2%; the focus will be mainly on housing services. The PPI is also expected to record growth of just one-tenth on a monthly basis, while the core PPI should rise by two-tenths; on a year-on-year basis, the headline index is seen unchanged at 1.7%, while the core could increase by three- tenths to 2.7%.
Preliminary October survey of consumer sentiment according to the University of Michigan: expected to advance for the third month to 70.5 from 70.1.
September FOMC minutes: may contain important information about the Fed’s rationale for a larger rate cut than most observers predicted (50bps).
Appendix
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