Markets
The consequences of yesterday evening’s decision by German Chancellor Scholz to sack his finance minister, Lindner, might by far-reaching. Lindner’s hard “no” against modifying the debt brake enshrined in the German constitution to allow for more spending in order to revive the economy mired in recession but also to grant more support to Ukraine for example, was the straw that broke the coalition’s back. Scholz tabled a confidence vote on December 15. Assuming he’ll lose it, snap elections could be set up for March (instead of September). German opposition leader Merz (CDU) today indicated he wants to speed things up with a confidence vote next week allowing for January elections. Lindner’s FDP backed that call. We think that German elections would effectively result in a looser fiscal policy stance, even as the CDU’s (leading in the polls) official view is still one committed to strict borrowing rules and against additional joint EU debt. Last week’s UK budget and this week’s US presidential elections proved that you can’t win an election running on any other platform than the economy/purchasing power (and safety/migration). Markets anticipate what could be coming. German Bunds underperform today more than reversing yesterday’s odd gains. German yields rise by 5.3 bps (2-yr) to 7.9 bps (30-yr). The Bund/swap spread turns positive for the first time on record in a sign of rising German credit risk. The inflationary monetary shift started a reversal from a deeply negative Bund/swap spread and that move accelerated under impulse of recent UK/US/German developments. It’s clear that governments are willing to take the inflationary risk to boost short term growth. This will have consequences for central banks, as evidenced by today’s Bank of England gathering and potentially at tonight’s FOMC meeting although the lack of new growth and inflation forecasts might push the issue to the December meeting.
The BoE cut its policy rate by 25 bps to 4.75% in a 8-1 vote. Catherine Mann preferred to maintain the rate at 5%. In a first estimate, the UK central bank measures the combined effects of the measures announced in Chancellor Reeves’ Autumn Budget as a boost to the level of GDP by around 0.75% at the peak in a year’s time compared to August projections: 1.7%-1.7%-1.1%-1.4% for 2024-2027 (from 2%-0.9%-1.5%; 2027 is a first estimate). The Budget is provisionally expected to boost CPI inflation by just under half of a percentage point at the peak: 2.4%-2.7%-2.2%-1.6% for 2024-2027 (from 2.7%-2.2%-1.6%). There remains significant uncertainty on the impact on the labour market. A gradual, data-dependent approach to removing policy restraint remains appropriate. Monetary policy will need to continue to remain restrictive for sufficiently long until the risks to inflation returning sustainably to the 2% target have dissipated further. BoE governor Bailey at the press conference stressed that the UK central bank can’t cut rates too quickly or by too much. Market by and large anticipated today’s hawkish cut. Sterling made an attempt to go for test of the EUR/GBP 0.83 support, but the move never went far.
News & Views
The Swedish Riksbank accelerated its normalization cycle with a flagged 50 bps rate cut from 3.25% to 2.75%. The central bank argues that core CPIF inflation dynamics held close to the target since the start of the year. At the same time, activity remains weak and there are few signs of the hoped-for recovery. They stick with plans of easing policy further in December and H1 2025, but could accelerate the process compared with indications in the September forecast. Markets see the Riksbank policy rate close to 2% at the end of Q3 2025. After touching a short-term low just above EUR/SEK 11.70, the krone yesterday and today rebounded modestly. A return below 11.50 is needed to call off the short term negative alert on the Swedish currency.
Divergence in Scandinavian monetary policy persists. The Norges Bank left its policy rate unchanged at the cycle top of 4.5%. Policy restriction has cooled activity and dampened inflation, but a weak krone and a rapid rise in business costs will slow further disinflation. International policy rate expectations have increased as well. The Norwegian central bank maintained its guidance to gradually reduce the policy rate from Q1 2025 as indicated in September. Money markets discount a first 25 bps rate cut by the end of Q1. After almost touching the EUR/NOK 12 barrier earlier this week, the krone yesterday and even more today rebounded to the EUR/NOK 11.75 area.
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