Interest Rate Forecast

Transcription

1 Interest Rate Forecast Economics February Highlights Sluggish global growth Policy stimulus hopes Bank of Canada on hold Sluggish but no recession The global economy remains stuck in low gear with no material change in near-term prospects with medium-term prospects dependent on further policy stimulus measures and a re-ignition of animal spirits. The monetary policy toolbox is nearly empty and fiscal policy has to re-engage to stop the downward growth spiral. Equally important, though having a less immediate impact and far more difficult to implement, is structural reform. Market forces and animal spirits will generate growth under the right conditions but high uncertainty is not conducive to growth. Uncertainty prevails on several fronts. Is the global economy heading into recession? Are policymakers in China up to the task? How sound are European banks? Is a currency war underway? Will negative interest rates spread to other economies? Did the Fed act too soon? Is a financial crisis brewing in emerging market debt? Geopolitical tensions are a concern as well. To heed financial and commodity markets, one could easily presume that a recession is in the offing. However, markets are prone to overreact and recent performance may not signal economic Armageddon despite the doomsayers. The real economy and financial markets are often on divergent courses and this is another instance. The real economy is expanding slowly and well below its potential growth rate, especially in the goods-producing sector. The latest global manufacturing PMI readings were weak with the output index sliding to just 50.2 in February consistent with sluggish growth in overall GDP. Manufacturing Purchasing Managers Indexes - China 50 = no change 53 Official Caixin Source: Bloomberg. Note: Seasonally adjusted. Latest: Feb. PMI data for the most Asian countries were soft. Two measures of Chinese factory activity slowed in February. The official manufacturing PMI came in at 49.0 below 49.4 in January. A number below 50 points indicates decline while above 50 suggests expansion. China s official services PMI fell to 52.7 in February, from 53.5 a month earlier. Japan s PMI dipped to the lowest level in eight months and Taiwanese manufacturers continue to feel the effect of China s slowdown. One caveat for the weak PMI results is the impact of the Lunar New Year holidays that closed much of China for one week in February. As a result, a more accurate picture of China s economy will emerge in March. The People s Bank of China cut its reserve requirement ratio by 50 basis points in an effort to boost lending and the economy. Additional monetary moves, including a rate cut(s), are likely. Policymakers were having a difficult time managing their equity and currency markets. The onagain off-again circuit breakers along with other restrictions on equity trades and the fumbled currency moves raise questions about their sophistication with markets. However, lately the Shanghai market is less volatile and the yuan s depreciation is seemingly under control. The government will likely implement fiscal stimulus and cautiously address structural reforms. 1

2 PMI data for EU countries cooled in February with manufacturing slowing most countries though the index above 50, suggesting that manufacturing is expanding modestly. The Asian slowdown and lacklustre domestic demand are behind this sluggish growth. Monetary stimulus has had limited impact generating faster growth but that will not stop the ECB enacting further easing measures. Fiscal stimulus is not a likely option in many EU countries. U.S. economy in better shape than market expectations The recent plunge in equities and bond yields signaled poor economic conditions and prospects by market participants. The real economy, however, is not as bad off as those expectations imply. Sector recessions exist in the U.S., as in Canada, related to energy and energy-related capital investment but the overall economy is growing and a moderate pace. In the U.S., manufacturing surveys continue soft. The ISM composite increased to 49.5 in February from 48.2 in January, the fifth consecutive month the index has been below 50. However, the production index rebounded. The stronger dollar is weighing on manufacturing and the new export orders index declined to its lowest point in several years. Underlying job growth remains around 200,000, notwithstanding January s weaker print. February jobs are expected to top that figure according to the consensus. Wage growth has picked up slowly over the past year and reflects a tightening labour market. Fourth quarter U.S. GDP growth was revised higher to 1% from 0.7% annualized in the advance estimate. Consumer is off to a good start this year with real spending up 0.4% in January with some of this due to a weather-related jump in utilities and probably will not be repeated in February. U.S. housing data remains resilient and on a rising up-cycle. Economic growth in is currently estimated at 2.4% in real GDP, identical to Projections for real GDP in ranges from below 1% to above 4% with the median forecast at 2.3%. A similar outcome exists for though in a narrower range, which runs counter to uncertainty 50 = no change U.S. Manufacturing PMI Indexes Production Composite New export orders Source: U.S. Federal Reserve. Note: Seasonally adjusted. Latest: Feb. increasing with time and reflects higher than usual uncertainty currently. Canadian economy stumbles Canadian real GDP came in higher than expectations. Fourth quarter real GDP grew 0.8% annualized versus 0.0% consensus expectations. This forecaster predicted 0.5%. The third quarter was revised slightly higher to a 2.4% increase. For the year, real GDP expanded 1.2 % compared to 2.5% in Declines in business investment and exports were the main contributors to slower fourth quarter growth with assistance from less government capital spending and another inventory drawdown. Real final domestic demand contracted as a result. However, the headline growth rate was positive because of a large decline in imports. Net trade posted its second straight quarterly surplus with the real goods trade balance in surplus for seven consecutive quarters. Canada runs a near perpetual trade deficit in services. The lower loonie is having the expected impact encouraging exports and discouraging imports. Slow real GDP growth looks to extend into the first half of. While an inventory bounce boosting the headline number following three consecutive quarterly drawdowns is likely, the business investment and oil patch recessions will continue to pull down overall growth. The consumer, residential, and export sectors will remain growth supportive with more government support when the federal budget is implemented. 2

3 Growth in later and in is expected to return to and exceed trend, estimated around 2%, when business investment bottoms out amid further gains in real net exports and domestic demand. Canada s export sector will be lifted by U.S. demand and the low Canadian dollar. The Canadian dollar rose to nearly 75 U.S. cents on U.S. dollar weakness and on news of an oil production deal sending WTI to nearly $US 35, up sharply from the February 11 low below $US 27. Markets overreact in both directions, and while a production deal is possible, there will be considerable oversupply after any deal. Oil prices have downside potential and with it the loonie. In addition, when the Fed raises its policy rate around mid-year the USD will rise and the CAD decline. Our forecast for the CAD is 72 US cents for the annual average. Per cent Canada 10-year Bond Yield and 3-month T-Bill Rate, Daily 1.00 GoC 10y (L) 3m T-bill 0.80 Oct-15 Nov-15 Dec-15 Jan-16 Feb-16 Source: Bank of Canada. Latest: Feb. 29, Per cent Volatility remains but will be less than in the recent past. The data flow will turn negative at times and other developments will create market downdrafts. a Canadian Economic Forecasts a H1 H2 H1 H2 a Real GDP Unemployment Rate Total CPI Source: Statistics Canada, Central 1 Credit Union forecasts -. Note: Real GDP change at annual rates, CPI year-over-year change, unemployment rate averages for period. a = actual Markets turn positive or less negative? The bond market sell-off likely ended February 11, and if not, the end is very near. U.S. economic data is not signaling recession and more stimulus measures are coming in several economies to ward off recession. No doubt, economic growth will remain below trend and below potential in many countries for some months yet leaving inflation and interest rates below normal. Accurately calling a market bottom is always difficult and another down-leg is possible should one of the market uncertainties explode. Long bond yields are up about 25 basis points from the Feb. 11 low. The improving economic data flow in the coming months will continue to lift bond yields on a gradual uptrend pace. The short end of the yield curve will be anchored by the Bank of Canada s on-hold policy stance. No rate hike by the Bank of Canada is forecast through. The futures market for 3-month Bankers Acceptances is still pricing a 40% probability of a rate cut by the Bank, which is down from 70% in mid-january. In the U.S., the fed funds futures market is pricing in one rate hike by the end of the year compared to no hike two weeks ago. Today s economy and financial markets are in unprecedented conditions, which generate uncertainty. However, some basics still apply such as the law of supply and demand, business cycle dynamics, and animal spirits. These forces will ultimately prevail over financial market angst. Helmut Pastrick Chief Economist, Central 1 Credit Union hpastrick@central1.com

4 Target Overnight Rate Forecast Meeting Date (Per cent) Jan. 20, 0.50 (a) Mar Apr Jun Jul Sep Oct Dec Jan Mar Apr June 0.50 July 0.50 Sep Oct Dec a) actual Interest Rate Forecast a Target Overnight Rate Prime Rate mo. T-Bill mo. T-Bill mo. T-Bill year T-Bill year GoC Bond year GoC Bond year GoC Bond year GoC Bond Note: Quarterly average based on daily data. a = actual, all others forecast. 4

5 a Deposit Rate Forecast 1-year GIC year GIC year GIC Note: Quarterly average based on weekly data. a = actual, all others forecast. Non-redeemable semi-annual rates from Bank of Canada based on typical rate (mode) at six major banks. a Mortgage Rate Forecast 1-year Mortgage year Mortgage year Mortgage Note: Quarterly average based on weekly data. a = actual, all others forecast. Posted fixed term rates from Bank of Canada rates based on typical rate (the mode) at six major banks. 5