Comments from abrdn economists – ECB decision and ahead of Fed & BoE next week

by | Sep 15, 2023

abrdn economists share their thoughts on the on the ECB ahead of Fed & Bank of England, the thoughts can be found below:

Following today’s ECB decision to raise interest rates, Felix Feather, Economic Analyst, abrdn, said:

“Today’s decision was always going to be a close-run thing.

Market implied rates, consensus expectations, and our own forecasts all reflected a low-conviction feeling that the bank would keep rates on hold (until yesterday’s leak of the its updated inflation forecasts).

In the end, the recent spike in energy commodity prices was enough to tip the scales in favour of a tenth consecutive hike. The decision takes the deposit rate to its highest level in the institution’s history.

The decision comes despite very weak activity data in recent months. It is our belief that the ECB are continuing to hike rates into a recession that is probably already underway. The latest hike could make this downturn deeper and the recovery slower. Despite losing out in the rate decision, it appears the bank’s doves were able to secure a dovish framing in which the hike was delivered. Indeed, it appears the bank now considers its hiking cycle over (barring any big surprises).

We think this will indeed be the final rate hike of this cycle. However, we do expect cuts in 2024 when the effects of the upcoming recession on the labour market and consumer prices become apparent.”

Ahead of next week’s Bank of England meeting, Luke Bartholomew, senior economist, abrdn, said:

“The Bank of England faces an acute policy dilemma when it meets next week.

“Recent data is consistent with economic activity having slowed considerably over the summer as past monetary policy starts to bite in earnest. The latest GDP data suggests the economy is already on the verge on recession while the labour market looks to have finally cracked with rising unemployment and falling job openings. 

“However, wage growth remains elevated, and it is not clear how long the ongoing economic weakness will take to bring wage growth back to an inflation-target consistent rate. Moreover, the recent progress on falling inflation looks set to temporarily stall next week due to the recent rise in petrol prices

“In this context, a number of BoE policy makers have been actively debating the next policy decision in public and it looks like the Monetary Policy Committee is even more divided right now than usual. Overall, we think the combination of slightly higher inflation and strong wage growth will probably be enough to see the Bank hike next week. But the mounting evidence that activity growth took a leg down over the summer, means that it will probably be the last rate increase of this cycle. 

“We then expect rates to remain on hold into 2024 even as the economy further deteriorates, before an easing cycle eventually starts in the second half of next year.”

Ahead of the Fed meeting next week, James McCann, deputy chief economist, abrdn, said:

“The Fed will almost certainly sit on its hands next week, holding rates unchanged following rate increases at eleven of the past twelve policy meetings. In the wake of this rapid adjustment the central bank is clearly keen to step more carefully as it looks to better understand how the economy is coping with higher interest rates. The news until now has been positive, with inflation clearly slowing alongside a healthy labour market and upbeat growth. Indeed, the Fed sounds increasingly optimistic that it might be able to pull off a soft landing.  

“However, while Chair Powell might acknowledge these encouraging trends, part of the message next week will be that the job is not yet done. Certainly, there is some way to go before the Fed can be confident inflation is returning to target on a sustainable basis, and this is not time to declare victory. Indeed, the updated “dots”, which show individual FOMC members interest rate forecasts, will still probably show that the median committee member expects to hike rates one more time this year. Pushing back against the idea that a pause in September heralds the end of the hiking cycle. 

“The more nuanced message from Chair Powell will be that the Fed remains data dependent. Recent developments have given the central bank room to see how the economy fares, and its next steps will be contingent on how inflation and growth shape up over coming months. More good news on the inflation front could mean a final hike is not necessary, but we suspect a stronger run of inflation data, alongside still robust activity, will make the case for a final move later this year. 

“Fine tuning aside, the market will be watching for signals around policy in 2024, and the Fed’s view on where long-term rates should sit. The Fed will likely continue to signal some easing in 2024, albeit potentially less than the 100bps of cuts it had pencilled in at the June meeting given the strength of activity this year. This higher for longer message would provide a push back to markets which are currently pricing even more easing in 2024. 

“It is possible that the Fed’s view on longer term rates – those which keep the economy humming along at steady rates of growth and inflation – has increased. But given the significant uncertainty around these so-called neutral policy rates, we are not convinced that the Fed will signal a different view at this juncture. Indeed, their views have been remarkably steady since 2019, likely reflecting this uncertainty. A change upward would be a hawkish signal for the short- and long-term path for interest rates.”

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