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Why Cut the Fed Funds Rate Again? Global Week Ahead

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This is a Fed meeting week. On Wednesday, Fed Chair Powell is widely anticipated to cut the Fed Funds rate another 25 basis points.

With a U.S. consensus forecast for a tad above 2.0% U.S. real GDP growth rate, a core U.S. CPI tracking near +2.0% in y/y terms, and a U.S. 3.7% household unemployment rate, the Fed’s statutory mandate of stable consumer prices and full employment is clearly and succinctly met.

For this economist, it is hard to say what is the real justification.

It could be to keep policy and risk-free benchmark U.S. Treasury rates in alignment with the ECB’s easing last week. It could be to alleviate trade war uncertainty. It could be to assist in next year’s U.S. Presidential election.

Most likely, it is all of the above. I placed them in order of their likely emphasis, too.

Next, I have Reuters’ five world market themes for the Global Week Ahead, leaving them in order of importance for equity market traders. Yes: the Fed Meeting leads. But don’t forget about the many central bank meetings that conclude the following day.

(1) The Fed Meets Tuesday and Wednesday

Investors around the globe are bracing for a second rate cut from the U.S. Federal Reserve at its policy-setting Federal Open Market Committee on Sept. 17-18.

Fed Chair Jerome Powell recently said that the central bank remained committed to keeping the U.S. economic expansion going, signaling he and his colleagues are likely to cut interest rates into 2020. But even so, President Donald Trump has made life a little harder for Powell.

Trump again lambasted the Fed following an European Central Bank rate cut Thursday that sent the euro lower, tweeting the ECB was “succeeding” in “depreciating the Euro against the VERY strong Dollar, hurting U.S. exports” while the Fed “sits, and sits, and sits.”

Powell acknowledged “a range of views” among policymakers; his careful wording reflects a split within the U.S. central bank about how best to respond to an economy where the job market and consumer spending are holding up but trade tensions between Beijing and Washington, Britain’s possibly messy exit from the European Union and a broad global slowdown pose risks.

The Fed cut rates for the first time in more than a decade in July. Market pricing suggests that investors expect another quarter-point reduction next week.

(2) Lots of Central Banks Will Follow Suit Thursday

After the European Central Bank’s bazooka, the wait is on to see what the message is from other central banks. The Fed of course will cut rates by a quarter point on Wednesday. But Thursday brings policy meetings in Japan, Britain, Norway and Switzerland.

The Bank of Japan, sources say, will discuss further easing; it may even decide to act to head off further economic pain, a third of analysts in a Reuters poll predict. Upcoming trade and inflation data should show Japan’s export slump deepening and inflation at two-year lows. But its dilemma is the same as elsewhere: How to inject stimulus without hurting banks any further, and how to make it effective?

Switzerland, with a -0.75% interest rate, is quiet so far on the prospect of emulating ECB easing but will be concerned at the franc’s surge to two-year highs versus the euro. On the other hand, the relentless rise in SNB “sight deposits” is hardly tenable: These are at almost 600 billion francs as the SNB intervenes to tamp down the franc.

Brexit clouds the Bank of England’s strategy but Norway, one of very few central banks still pressing on with rate rises, could hike again on Sept. 19. But with easing gathering steam all around, it is very likely to mark the end of its tightening cycle.

There is excitement also in emerging markets, where Brazil is expected to cut 50 bps on Wednesday. South Africa’s central bank also meets on Thursday, though is not expected to move. But these days, you never know.

(3) Can a Mini Trade Deal Be Struck in October?

Financial markets were quick to seize on recent conciliatory messages and measures between Beijing and Washington as a hopeful sign of an imminent deal in the protracted trade war. Yet that may be as much a symptom of fatigue — from the unremitting tweets and retorts — as genuine optimism.

A Reuters poll of 60 economists shows 80% expect relations between Beijing and the Trump administration to deteriorate or at best hold steady until end-2020.

The week saw Beijing exempt some agricultural products from additional tariffs on U.S. goods and Trump delay a tariff increase on certain Chinese goods by two weeks. Junior U.S. and Chinese officials meet in the coming week, followed by talks between senior trade negotiators in early October.

Meanwhile, the IMF has issued dire warnings of a drop in global economic growth next year. China’s neighbors are seeing growth rates slide as their exports to the mainland collapse.

Some are looking for upsides: Vietnam has been a beneficiary of businesses seeking to move or alter trade routes. Thailand just announced a package of tax incentives, investment zones and new legislation that would draw in companies from China, Japan, Taiwan and South Korea. But if tensions are shrinking the world trade pie, any feasting in Southeast Asia may be short-lived.

China also reports industrial output and retails sales data for August on Monday.

(4) Brexit and Boris Johnson: The Same Issue

Britain’s never-ending Brexit drama is set to reach fever pitch again — this time in the country’s top court.

Prime Minister Boris Johnson will challenge a ruling of Scotland’s highest court of appeal that his decision to suspend, or prorogue, parliament for five weeks was unlawful and should be annulled. Gina Miller will appeal a rejection of her challenge for a judicial review of Johnson’s decision to prorogue parliament. Both cases are scheduled to be heard by U.K.’s Supreme Court on Tuesday.

Proroguing parliament until Oct. 14 was seen by most as a tactical move from Johnson to make sure he maintains a strong negotiating hand with Brussels.

Johnson wanted to show he can deliver a no-deal Brexit on Oct. 31. Most investors believed him, sending the pound sharply lower at the start of the month, to levels not seen since 1985.

But the tables seem to have turned for now: Parliament managed to pass a law that forces Johnson to extend Brexit if a deal isn’t reached by Oct. 19. Traders say this has definitely reduced the probability of a no-deal Brexit on Oct. 31, though the risks of a no-deal Brexit down the road was still high.

(5) Will Emerging Markets Finally Be the Place to Be?

If the Fed goes big with its rate cut on Wednesday, the place to be will probably be the riskier parts of the world that still have interest rates you can see with the naked eye.

Low rates in the United States and sub-zero ones in core Europe and Japan mean high-yield bonds from places like Turkey, Ukraine, Ecuador, Egypt, Brazil or parts of sub-Saharan Africa look ever more attractive.

There is a catch-up factor in play too. August was a torrid month for these countries’ assets. Argentina’s slump into crisis made it worse, of course, but the underperformance between high-yield emerging market sovereign debt and that the safer ‘investment grade’ (IG) emerging market countries, was one of the most severe ever — roughly -3% returns versus +3% for IG emerging markets debt.

Turkey’s jumbo rate cut this week helped speed that catch up process but a dove-bomb from the Fed on Wednesday as well as a big chop from Brazil and more soothing trade war sounds will all help it along nicely.

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Key Global Macro

The Federal Reserve’s latest policy decisions and particularly its refreshed guidance will be the main event by far. The rest of the week’s line-up of macro reports should offer limited market risk.

Possible momentum toward an interim deal with China on trade policy will also be monitored.

On Monday, the Empire State Manufacturing data (4.0 this time, down from 4.8) starts off the week. It is a volatile reading that is not worth much.

China should have produced its fixed asset growth (consensus is at +5.7% y/y) and industrial production (consensus at +5.2% y/y), before the market opens.

China’s retail sales (consensus sees a +0.4 lift to +7.9% y/y) may be worth watching the most.

On Tuesday, Eurozone investor confidence will be updated on Tuesday in the form of the German ZEW survey. Current Situation at -15, and Economic Sentiment at -37.8, are not looking good.

This will kick off another month’s worth of sentiment readings including Eurozone PMIs on September 23rd. Then, German IFO business confidence hits the next day.

On Wednesday, the two-day FOMC meeting concludes. The policy statement and fresh Summary of Economic Projections will be released (at 2pm ET) followed by Chair Powell’s press conference (at 2:30pm ET).

In Canada, Wednesday’s CPI report will be the main domestic macro event of the week. Headline inflation may decelerate to +1.7% y/y alongside a -0.4% drop in seasonally unadjusted prices.

Australia reports on its jobs situation.

Consensus is unanimous toward expectations for a 50 bps rate cut by Banco Central do Brasil. That would take the Selic rate down to 6.5%. Inflation recently fell to +3.4% y/y. Hence, it is well into the lower half of the central bank’s target range.

On Thursday, the Bank of England meeting is unlikely to offer much by way of potential fireworks. No policy changes are anticipated.

The Swiss National Bank is expected to keep its policy deposit rate on hold at -0.75%.

Bank Indonesia is forecast by consensus to cut its 7-day reverse repo rate by 25 bps when it delivers its latest decision and guidance. Core inflation at +3.3% is only slightly below the midpoint of their 2.5–4.5% policy target range.

Taiwan’s central bank is universally forecast to stay on hold at a benchmark rate of 1.375%.

On Friday, Hong Kong’s CPI comes out. It is supposed to be stable at +3.1% y/y. The internal turmoil there is worth watching closely.

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