Markets
Yesterday’s risk correction spilled to Europe today. US stocks took a scare from a new fierce sell-off in US Treasuries following Fed Chair Powell’s call for a speedy return to neutral policy rate levels. Main US indices closed up to 2% lower and we see similar losses for Europe today. Front-end European and US bonds continue their underperformance today in a flattening move. Daily changes on the German yield curve vary between +8 bps (2-yr) and -1.0 bp (30-yr). US yields add up to 9 bps for the 2-yr and trade about flat at the very long end of the curve. The dollar regained momentum following the Powell comments with DXY testing the YTD high near 101. The mirror image in EUR/USD was a test of 1.08 as ECB President Lagarde for now withholds from joining the July rate hike chorus. Sterling underperformed following dismal UK PMI’s, sending EUR/GBP above 0.84. UK Gilts outperformed US Treasuries and German Bunds. Today’s eco calendar contained April EMU PMI figures, but they had no intraday impact on trading. The composite PMI unexpectedly increased from 54.9 to 55.8 in April, the highest level since September last year. The improvement hid a discrepancy between a stalling manufacturing sector (output & new orders) and booming business in the domestic services industry. Manufacturing suffers from production curbs owing to supply constraints which are being aggravated by the Russian war and by Chinese lockdowns. Lost orders were blamed on soaring prices. April has seen virus containment measures relaxed across the eurozone to the loosest since the start of the pandemic, explaining the improvement in services. Especially recreation and tourism profited, though IHS Markit warns for the outlook because of the developing cost-of-living crisis. Demand now shifted from goods to services, but they fear a slowdown as shown in low, but stable compared to March, forward looking PMI-components. Output prices surged to the highest level since the start of the PMI series with input prices (including rising wages!) still near peak levels. In its closing paragraph, chief business economist Williamson stressed that policymakers may tilt to a more hawkish stance, reflecting the persistence of unprecedented inflationary pressures at a time of encouragingly robust economic growth.
News Headlines
Germany’s Bundesbank said an immediate embargo on Russian gas would shave GDP by 5% in 2022, tipping it into a recession. That’s much bleaker than what academics have predicted earlier (0.3-3%). Before the invasion, Germany imported 55% of its gas from Russia and a third of that is consumed by the manufacturing sector. Under German law, the industry would be cut off from gas first in case supplies would fall short of demand, hurting output. Inflation would shoot up by another 1.5 ppts in such a scenario. On another note, the BuBa proposed to raise the annual limit of new borrowing under the constitutional debt brake framework from 0.35% to 0.5% of GDP if the debt ratio is higher than 60% or 1% if it is below that threshold. The debt brake has been suspended since 2020 until at least the end of this year and may turn into effect again in 2023 unless the war dictates otherwise.
UK PMIs diverged in April. Services retreated 4.3 points to 58.3 while manufacturing eked out a small gain to 55.3, bringing the composite figure to 57.6 (vs 60.9 in March). While still well above the neutral 50 growth barrier, cracks begin to emerge. New order growth came to a standstill in manufacturing and slumped to among the weakest since the early 2021 lockdowns in services. Respondents cited subdued consumer demand due to squeezed household finances, rising prices and geopolitical uncertainty. The effects overwhelmed any tailwinds from ending the Covid restrictions and caused business optimism for the future to drop to the lowest since October 2020. Employment still increased in April but the pace of job creation slowed to 12-month low. This was due to difficulties finding candidates but some also linked it to cost cutting initiatives. Input inflation was the second-fastest in more than 30 years for services and hit a record in manufacturing on energy, transport, raw materials and increased pay.
