Mizuho Global Perspectives London 7 January 2016

Transcription

1 Mizuho Global Perspectives London 7 January 2016 Forecast update January 2016 Colin Asher Senior Economist ( ) Policy Divergence still the theme in H1 2016, potential Brexit referendum to weigh on GBP The labour markets in the US, the UK and Japan are close to full employment, which marks a significant change from previous years in the post crisis period. The eurozone is the exception. Here a significant degree of slack remains. Of the first three countries Japan is the odd one out. Tightening is not appropriate for a central bank engaged in the historic task of expunging the spectre of deflation, which has plagued the economy for most of the past two decades. The BoJ s task is only half complete and to ease off now would be a waste of the good work to date. Whilst the BoJ seems to be aware of this the Abe administration seems happier to declare the fight against deflation almost won, leading to a split among the policy establishment. Wage growth remains tepid across the developed economies and recent declines in energy prices will limit the impact of the negative base effects on inflation giving policymakers more leeway to be cautious. Headline inflation seems unlikely to rise much in early 2016 as underlying core inflation remains soft. In the absence of signs of better Chinese growth, commodity prices are likely to remain low. Further policy divergence, with gradual tightening of monetary policy for the US and further easing for the ECB and the BoJ is what we expect in In the UK we now expect that any policy tightening will not take place until after the Brexit referendum, which we expect in summer. For investors, we see 2016 as a year for capital preservation. Low returns in other asset markets will give FX more of a focus. We expect growth in 2016 to be slightly firmer across much of the developed world and little changed across emerging markets, as China stabilises. With tighter Fed policy and a slightly stronger US dollar we doubt that asset markets will do especially well, with both bonds and equities looking expensive. Sluggish Chinese growth should ensure that any commodity rebound is muted, while the oil market will remain well supplied at least through H1 and probably H2 as well. We look for Japanese and eurozone equities to make modest gains and to continue to outperform US equities, where we see a repeat of the lacklustre returns in US rate hikes will come as no surprise to the emerging world, limiting the tightening tantrum. Whilst tighter Fed policy may put modest pressure on emerging market corporates struggling to pay back USD-denominated debts, we do not see a re-run of the Asian crisis. We would expect emerging market stress to be mostly limited and local. Growth......and inflation set to rise in 2016 Annual GDP forecasts G4 annual CPI forecasts (%) 3.0 US Japan Eurozone 3.0 US Japan Eurozone (f) 2016(f) (f) 2016(f) Source: Bloomberg - 1 -

2 US economy slowly does it The US recovery from the financial crisis has been lacklustre by historical standards but the economy is growing fast enough for the labour market to keep tightening and is in better shape than most other developed market economies. The economy seems likely expand at roughly the same pace in 2016 as it did in 2015, although given the benign weather this winter YoY comparisons seem likely to show some acceleration early in the year. Whilst the manufacturing sector continues to suffer from a strong currency and a weak energy sector, which have depressed overall business investment, the service sector is in better shape and is growing fast enough to more than compensate for the weakness in industry. Business investment disappointed last year but is likely to be less weak in 2016, while consumers are likely to finally start spending the oil windfall with more conviction. A strengthening labour market and rising wages should also support consumer spending. We look for economic momentum to be sufficient to keep the economy ticking along despite a stronger currency and modestly higher policy rates. Policy FOMC to hike at least twice in 2016 The FOMC left the dot plot unchanged when it hiked rates in December. It still expects the policy rate to be hiked a total of 100 basis points in 2016, while the market is priced for just 50 basis points. The market has been right to ignore the Fed s upbeat policy rate forecasts to date but with full employment in sight the risks start to shift. We note the make up of the voters on the FOMC will be more hawkish this year, with Mester, George and Bullard all joining and Evans leaving. Even some of the more neutral members, such as Williams, are sounding more upbeat on the economy in recent speeches. We look for the FOMC to hike three times this year. The first hike is likely to come in Q2 as the FOMC pauses after the December hike to check for any adverse reaction. We suspect Q1 data will be firm and that the Fed will hike once a solid GDP increase in Q1 is confirmed. The lack of inflation in early 2016 suggests the Fed will be in no rush and that the risks to the FOMC s forecasts for the policy rate are on the downside. Rates more flattening in prospects as any rise in long-term yields is likely to be limited We look for a further gradual rise in 2yr UST yields alongside rising policy rates this year with yields approaching 1.75% by end yr UST yields are likely to rise less. With the Fed stressing the limited speed of tightening and inflation subdued the upward pressures on long-term yields should be muted and we look for further curve flattening on a 12-month horizon. We see 10yr UST yields around 2.75% by end The firmer USD is weighing on manufacturing but services remain robust Feb-00 Feb-02 Feb-04 Feb-06 Feb-08 Feb-10 Feb-12 Jan-14 Jan-16 Source: Bloomberg US exchange rate Nominal effective exchange rate Real effective exchange rate ISM indices Manufacturing Non-manufacturing 30 Dec-99 Dec-03 Dec-07 Dec-11 Dec

3 Eurozone economy cyclical upswing intact, price pressures muted, politics a worry Short-term cyclical momentum remains positive. The composite PMI for December rose 0.3 points to 54.3 and the Q4 average is slightly above the Q3 average, pointing to a slight pickup in growth. Softer commodity prices, a weak currency, low bond yields and modestly expansionary fiscal policy should all support activity in Elections in France and Germany in 2017 will also add to pressure for looser fiscal policy this year. Despite recent economic improvements, the eurozone remains vulnerable to a cyclical downturn given its high unemployment, elevated public debt and its frail political centre. Politics in the eurozone look to be especially challenging this year, with the refugee crisis adding to the pressure in many countries, most notably Germany where Chancellor Merkel s stance has generated controversy. The Shengen Agreement is under threat and could unravel, while the EU must negotiate with the UK to prevent Brexit, which would be almost as damaging to the EU as it would to the UK. Spain has yet to settle on a government after the recent election, throwing up the prospects of a second vote in The uncertainties surrounding politics will likely continue to keep business confidence soft in many eurozone countries, further limiting investment, which has been slow to pick up since the crisis. Policy ECB to keep policy unchanged in the near term, with a firm bias for further easing as CPI remains low The ECB allowed market expectations a free reign ahead of the December policy meeting and then produced a policy move at the lower end of expectations. The depo rate was lowered by just 0.1% and there was no increase in the monthly volume of asset purchases, merely a promise to extend the programme by a further six months, which was also at the low end of expectations. With inflation expected to remain well below target and plenty of labour market slack, the bias remains for further easing in 2016, especially later in the year. Certainly the expected pick up in the CPI as a result of base effects will now be much more muted owing to the oil price slide in late 2015, adding to the pressure on the ECB. Rates Bund yields pinned at low levels, ECB buying to limit rise in Bund yields We expect the ECB will remain the primary influence on the EGB market, keeping yields low. The Bund market is likely to be caught between gradually rising UST yields and the buying power of the ECB, with 10yr yields edging slowly higher but remaining well below the 1% level through end We look for 2yr Bund yields to end little changed from current levels. Portfolio flows remain a drag on EUR EZ portfolio account balance, EUR bn (12m rolling sum) EUR/USD (rhs) Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16...as are negative rates 2yr Government bond yields (%) 1.5 Bund UST Gilt JGBs Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Source: Bloomberg - 3 -

4 Japanese economy growth still struggling to accelerate Q4 GDP is looking tepid following the release of weak consumption data for November. External demand seems to be the only positive factor on the quarter. We now see 2015 GDP at just 0.7%, only slightly faster than potential. The economy is not really growing fast enough to make a significant dent in the output gap and hence we expect limited upward price pressure GDP growth is likely to be better but not much. We look for growth of 1.1% in 2016, helped by the labour market remaining firm, exports picking up gradually and we expect that companies will invest in replacement capex using some of their near record profits even if they do not seek to expand domestic production aggressively. Boosting overseas production will remain in vogue. We see the corporate sector as yet to full buy into Abenomics and keen to keep a lid on wages costs despite government exhortations to agree generous increases in the spring wage round. The drop in energy prices will mean that the CPI is slower to pick up than previously anticipated. We look for headline CPI to average 0.8% in In early 2017 the April consumption tax hike will be the main focus. Policy Inflation to struggle to reach the BoJ s 2% target. More easing still likely. The BoJ continues to stress that current policy settings are appropriate and that policy is on track to deliver the required results. The BoJ s October forecasts see FY15 GDP growth of 1.2%, which is at the top of the consensus range. As for the CPI its FY16 forecast of 1.4% is well above consensus. We expect that both growth and prices will disappoint relative to the BoJ s expectations. The BoJ expects a sharp pickup in inflation in We see the impact of a shrinking negative base effect from oil prices as being partially countered by the impact of the yen s depreciation in late 2014 falling out of the YoY comparisons leading to a much more muted pick up in prices than the BoJ expects. We also see price expectations edging lower in coming months. In turn, we see this leading to the BoJ taking additional easing steps, but not until April. The consensus is shifting towards the BoJ remaining on hold in 2016, as it blames oil prices for the failure to meet the inflation target, so any further easing will be a surprise and will increase its market impact. Rates JGBs: a haven of stability The BoJ remains the dominant influence on the JGB market, keeping volatility low. We see JGB yields as stable in the near term. With the BoJ buying continuing net JGB supply will remain negative in FY16. The supplementary budget will be covered by existing issuance plans, making supply less of an issue. We see little upside for JGBs from current levels and forecast that yields will start to rise very gradually in the coming 12 months as the Federal Reserve slowly hikes rates. Price expectations continue to decline Source: BoJ, Bloomberg Japanese company CPI expectations (%) 1yr 3yr 5yr Mar-14 Jun-14 Sep-14 Dec-14 Mar-15 Jun-15 Sep-15 Dec-15...yet easing expectations continue to be pared back Speculative JPY positioning 100,000 50, ,000 Long JPY Balance* USD/JPY (rhs) , Short JPY , *net balance of non-commercial 125 and non-reportable positions -200, Jan-12 Jan-13 Dec-13 Dec-14 Dec

5 UK economy struggling to move above trend, Brexit vote to weigh on sterling Q3 GDP came in at 0.4%QoQ, down from 0.5%QoQ in Q2. The early signs are that December consumer spending was mixed at best. Most data of late have been suggestive of easing momentum, with the December composite PMI edging lower. The Q4 composite PMI edged up slightly over the quarter but was down from the summer highs. The manufacturing sector continues to struggle thanks to weak growth in the eurozone. Low energy prices and rising real incomes should continue to support consumption, especially as confidence is high. Consumer spending should be solid but not spectacular. The labour market remains steady for now and we look for the unemployment rate to continue to edge lower, although the pace of improvement has recently slowed. The latest data show wages starting to rise and we expect this to continue. The housing market remains firm too. Whilst the Autumn Statement was slightly less austere than expected, fiscal policy will remain tight. It will remain a drag on growth in The impact of lower energy prices should linger into 2016, keeping the annual CPI well below the Bank of England s 2% target until Policy Brexit uncertainty to keep the BoE on hold The vote on the MPC was 8-1 in December and there are few signs that the bulk of the Committee are in any mood to raise rates in the near term. That said, we see the MPC starting to be concerned about diminishing labour market slack later this year. However, in the short term, we expect that the Brexit will weigh on business confidence and keep GBP weak. We expect the Bank will not want to add to the uncertainty. If the Brexit vote is held in the summer, as we now expect, we see the Bank holding policy steady until the resulting uncertainty has passed. As such we now see the Bank undertaking a first hike in the autumn. Our base case assumes that the UK will remain in the EU and that there will be no major disruption. There should be a sharp pick up in sentiment following the vote, partially countered by a strengthening currency as sterling enjoys a relief rally. We look for the BoE to hike twice this year once in Q3 and again in Q4, as inflation finally starts to pick up and the labour market remains tight. Rates Bear flattening in prospect as rate hikes cycle gets underway Market pricing of possible rate hikes on a one-year horizon looks complacent, with the first full hike priced not priced in until early We expect that as investors see that the first hike will be earlier than currently expected, short dated Gilt yields will rise, with the Gilt curve flattening in 2016, just as the UST curve flattened in We look for 2yr Gilts to end 2016 around 1.5% and 10yr Gilts to yield end 2016 around 2.25%. GBP weaker than implied by interest rate spread as Brexit vote looms, keeping rate hike expectations low EUR/GBP (lhs) 2yr Bund - 2yr Gilt (rhs, bp) 1x3yr OIS rate spreads (%) US EUR UK JPY Dec-14 Mar-15 Jun-15 Sep-15 Dec-15 Jan-13 Jul-13 Jan-14 Jul-14 Jan-15 Jul-15 Jan-16 Source: Bloomberg - 5 -

6 Forex view Divergence: FOMC & BoE tighter, ECB & BoJ easier. Asset prices to struggle. GBP hit by Brexit fear After years of rising asset prices, with tide is finally starting to turn. Yields will rise in the coming year, led by the US, as the Fed gets a gentle rate hike cycle underway. We see limited upside for equity markets, especially in the US, where the currency impact will remain negative. Financial markets have outpaced the real economy in recent years and we see scope for a reversal this year. We see the bulk of the declines in commodity prices as behind us but with global growth set to remain modest, the prospects of a big rebound are poor. Low commodity prices and a firm USD dollar should help keep EM currencies subdued, at least in H1. Policy divergence should proceed apace through 2016 as the US labour market continues to strengthen and higher UST yields should keep the US dollar elevated. However, a firmer currency creates its own headwinds and IMM data suggest that the strong US dollar trade is becoming increasingly crowded. We expect that the US dollar will remain in demand through 2016 but with so much already priced in the gains will be limited. With inflation and inflation expectations not rising as much as the BoJ expects, we see the Bank easing policy further in spring Capital outflows from Japan (as investors are squeezed out of the low yielding JGB market) are on-going, even though the GPIF is likely to be less of a force beyond fiscal year end. Japanese investors should remain better buyers of foreign assets over the coming year. Loose BoJ policy, a persistent trade deficit, the glacial pace of re-starting nuclear power stations, potential worries over fiscal sustainability and the continuing corporate desire to invest overseas all suggest a weaker yen over the medium term. However, the yen is now quite cheap on many metrics and scope for further weakness is diminishing. We expect the weak yen trend may be approaching its limits. We look for USD/JPY to top out around the 130 level in the coming year. With the ECB s deposit rate deep in negative territory, the euro is set to become the carry trade currency of choice. Portfolio flow data continue to suggest eurozone investors have limited interest in eurozone fixed income products, although there is some evidence that suggests the worst is past. With the eurozone s current account position continuing to improve, it implies that the euro is becoming increasingly undervalued. In addition, the euro is now likely to do well during bouts of risk aversion as positions are trimmed. We envision further bouts of risk aversion in the coming year, similar to those seen last year. IMM data indicate that EUR shorts are elevated, which limits the downside for EUR in the near term and makes EUR vulnerable to short covering during bouts of global risk aversion as it was in autumn last year. We see scope for EUR to move below parity this year but do not expect it to remain there for long. We expect that EUR will end 2016 just above parity. In the short term we see Brexit as the key driver of GBP, although monetary policy will reassert itself later in the year. Brexit fears are already weighing on the currency and will continue to do so in H1. We expect the referendum in the summer and that the UK will narrowly vote to stay in the EU. In the wake of the vote the focus will switch back to the solid economy, the tight labour market and the prospects of a rise in inflation. We think the post-referendum rally should be substantial as we are more bullish than consensus on the prospect of UK rate hikes this year. By year end we look for Cable to be back up around the 150 level, having dipped as far as the low 140s ahead of the Brexit vote

7 FX forecasts (as of 6 January) Current End-Q1 16 End-Q2 16 End-Q3 16 End-Q4 16 USD/JPY EUR/USD GBP/USD EUR/GBP EUR/JPY GBP/JPY Bond forecasts (%) Current End-Q1 16 End-Q2 16 End-Q3 16 End-Q4 16 United States Policy rate 0.25~ ~ ~ ~0 0~1.25 2yr yr yr Eurozone/Bund Policy rate yr yr yr Japan Policy rate 0~0.1 0~0.1 0~0.1 0~0.1 0~0.1 2yr yr yr United Kingdom Policy rate yr yr yr Macro forecasts (%) United states Real GDP CPI Unemployment rate Eurozone Real GDP CPI Unemployment rate Japan Real GDP CPI 0.8* * Unemployment rate United Kingdom Real GDP CPI Unemployment rate Source: Bloomberg, Mizuho. Unemployment and inflation figures are annual averages. * - includes impact of the 3pp consumption tax increase in April 2014/or the impact of the 2pp consumption take hike in April

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