Macro insights

US and UK political drama, contrasting signals from China and Eurozone PMIs

Impeachment deliberations will be uppermost in US political debates following the Democrat move last week to conduct an impeachment inquiry into President Donald Trump.

This marks a change in gear politically even though, as we have argued, this is little different procedurally from previous Committees overseeing the President’s activities. Congress’ two-week recess will prevent any concrete developments, but the debate will remain in the headlines. US repo markets are at the other end of the scale in terms of public debate. However, we argue that the disruption in short-term funding markets likely reflects reserves becoming more scarce, which will require a more permanent solution from the Federal Reserve than short-term liquidity operations. The Fed’s next meeting is on 30 October and we think there is a good chance that it will resume permanent open market operations at that meeting. This week provides an important health-check for the economy with ISM manufacturing and non-manufacturing indices and the latest non-farm payrolls report. Markets will watch for how much of the manufacturing slowdown is spilling into other sectors and the labour market.

Upside surprise in China’s Purchasing Managers’ Indices (PMIs) may not last.

August PMIs beat the market consensus, with the NBS measure rising to 49.8 (albeit still a contraction), while the Caixin gauge rebounded to a 19-month high of 51.4. These strong readings could be driven by a combination of three things: First, export front-loading ahead of US tariff increases, which lifted the Caixin index more than the NBS gauge. Second, higher price pressure from rising oil prices and a weaker exchange rate; and third, incremental policy supports that have finally trickled through. However, given the magnitude of the improvement – particularly for the Caixin measure – and limited concurring evidence elsewhere, we have to take these numbers with a grain of salt. Even if the data reflects a genuine stabilisation in the manufacturing sector, this is occurring ahead of additional US tariffs that are due to take effect in the coming months. Hence, we maintain our cautious near-term view about the Chinese economy and expect growth to slide further to below 6% in the fourth quarter (Q4).

Euro area sentiment remained mediocre in September, as the euro area flash composite PMI fell to 50.4, the lowest since June 2013.

Worryingly, manufacturing weakness weighed on the services sector, with spill over to the labour market. This bodes ill for the last quarter of the year, especially as trade wars, China weakness and Brexit uncertainty give no sign of abating. The German Ifo sentiment index was equally disappointing, with expectations still going down, while the French INSEE survey was slightly more positive than the PMIs, consistent with our Q3 GDP growth forecast of 0.3% quarter-on-quarter. Beyond poor business surveys, last week’s big news was the surprise announcement of European Central Bank (ECB) board member Sabine Lautenschlaeger’s resignation on 31 October, with rumours suggesting that dissent on the last ECB package spurred this decision. This week attention will focus on September flash inflation for the euro area, where we expect core inflation to remain unchanged at 1% year-on-year. Next Sunday, Portugal will hold general elections, and polls suggest continuity, with the incumbent Socialist PM António Costa in the lead and close to majority.

In Japan, consumption tax rates will go from 8% to 10% tomorrow.

Despite fears the rise could cause another recession, the government insists such a move is necessary. In fact, sales tax in Japan is among the lowest among the 36 member countries of the Organisation for Economic Co-operation and Development (OECD), and the country’s national debt stands at 226% of GDP – the highest in the OECD. In addition, Japan is facing rising costs associated with an ageing population. In order to smooth the impact for consumers and retailers, the government has promoted counter measures. The sales levy will remain at 8% for daily necessities like food and drinks, while a points-based incentive programme is meant to soften the blow of the change and promote cashless transactions. The government eventually plans to use the increased revenue to improve the social security system as well as offer free pre-school education from the age of three. In the short term, we expect a large impact on consumption in Q4 but it should not be the same scale as 2014 when consumption fell to -4.8% quarter on quarter. 

The UK Tory Party Conference takes place this week, despite the disruption of ministers having to make visits back to a now re-opened Parliament.

The focus will be on Prime Minister Boris Johnson’s speech on Wednesday. Given the past week’s performance, the speech is likely to be a combination of ongoing gung-ho rhetoric on Brexit – the continuing effort to reach a deal with the European Union, but ‘no deal’ if necessary – and fiscal easing. So far, with the exception of one ComRes poll that put Tories and Labour on level pegging, the strategy does seem to be unifying Tory/Brexit voters. The coming week’s key data releases include the final publication of Q2 GDP, where we expect no revision to preliminary estimates of headline GDP of -0.2%, or to the direction of business investment spending (-0.5%). Last week, Bank of England (BoE) external member Michael Saunders suggested that the BoE might have to ease monetary policy, even if the UK avoided a no-deal Brexit. Elevated political and Brexit uncertainty and a decelerating global growth trend are acting as significant headwinds to UK activity.  


Upcoming events

US:  ISM manufacturing index (Tuesday), ADP employment change (Wednesday), ISM non-manufacturing index (Thursday), non-farm payrolls, trade balance (Friday)

Euro Area: Preliminary German, Italian and Spanish Harmonised Indices of Consumer Prices (HICP) inflation, preliminary German Consumer Price Index (Monday), flash estimate of Eurozone HICP (Tuesday), Eurozone Producer Price Index (Thursday)

UK: Third estimate of Q2 GDP, current account (Monday), manufacturing PMI (Tuesday), construction PMI, PM Johnson speech on final day of Conservative Party conference (Wednesday), services PMI, BoE’s Silvana Tenreyro Washington speech (Thursday)

China: Official manufacturing PMI, official non-manufacturing PMI, Caixin manufacturing PMI (Monday)

Japan: Preliminary industrial production (Monday)

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