Markets
Yesterday’s Fed policy meeting was a non-event. The US central bank kept rates steady at 4.25-4.5% and suggested they would remain there for some time. A hawkist twist in the statement that left out the part saying inflation has made progress was dismissed by chair Powell as being part of a “cleaning-up exercise”. He nonetheless noted the Fed wants to see “serial [CPI] readings” that suggested things were headed in the right way. Add “We need to let those [Trump’s] policies be articulated before we can even begin to make a plausible assessment of what their implications for the economy will be” and you sense the central bank just installed a long pause that could last through June. US markets reacted accordingly. The small spike shortly after the updated statement was released, evaporated quickly, leading to marginal net daily changes varying between +1.9 (2-yr) to -0.6 bps (30-yr). Bunds slightly underperformed (+2.4 bps in the 30-yr). The dollar held a minor upper hand against most global peers. Sterling appreciated towards EUR/GBP 0.837 as UK Chancellor Reeves sought to convince investors of her growth-reviving plans in her first high-profile appearance yesterday since delivering the October budget. The Japanese yen outperformed yesterday and does so again this morning. USD/JPY eases to 154.5.
US Q4 GDP figures today should comfort the Fed in taking a long breather and keep both US yields and the dollar at least steady. Economic activity is seen to have expanded at a solid 2.6% q/q annualized pace following Q3’s 3.1%. Private consumption remains the key engine. Q4 PCE price deflators may have picked up to 2.5%. Euro area GDP growth contrasts with a meagre 0.1% q/q. France’s numbers released this morning suggest, if any, minor downside risks. From a market point of view, though, a lot of pessimism has been priced in already. Attention is likely to shift to the ECB meeting pretty quickly. Another 25 bps rate cut to 2.75% is all but certain. But the path forward is getting less and less predictable with the central bank nearing (the upper bound of) the neutral rate. President Lagarde will face but will probably walk around any related questions. Last week’s PMI’s in any case offered light at the end of the tunnel for the economy while flagging rising price pressures. We assume one more cut in March to 2.5% before the debate opens up and paves the way for a pause in the cycle. Since this is the market’s base case too, risks for the euro (and yields) are for Lagarde to keep the door ajar for cuts in April and June as well.
News & Views
The Brazilian central bank (BCB) raised its policy rate as flagged by new governor Galipolo by 100 bps to 13.25% and sticks to its commitment to implement another 100 bps rate hike at the next, March 19, policy meeting which will take the key Selic rate above its previous peak level of 13.75% (Aug 2022 – July 2023). Beyond the next meeting, the BCB reinforces that the total magnitude of the tightening cycle will be determined by the firm commitment of reaching the inflation target and will depend on inflation dynamics, on the output gap, and on the balance of risks. Domestic economic activity and the labour market remain strong while inflation remains above the 3% target and is rising again. A significant increase in inflation expectations adds to upside inflation risks together with resilient services inflation and a persistently more depreciated currency both because of internal (fiscal) policy and the external environment (Fed: higher for longer). Inflation forecasts show headline inflation declining from 5.2% Y/Y to 4% Y/Y by Q3 2026 (current policy horizon), assuming a 15% peak policy rate through year-end.
The Bank of Canada (BoC) reduced its policy rate by 25 bps to 3% yesterday. The central bank acknowledged that the cumulative reduction in the policy rate since last June is substantial (200 bps). Lower interest rates are boosting household spending and the economy is expected to strengthen gradually (from 1.4% in 2024 to 1.8% in 2025 & 2026) and inflation to stay close to the 2% target. Risks around the outlook are reasonably balanced. Dovish twists include the labelling of the labour market as being “soft” and the warning that if broad-based and significant tariffs were imposed by the US, the resilience of Canada’s economy would be tested. Canadian money markets are split on the outcome of the next, March 12, policy meeting. All else equal we’re inclined to think of a pause awaiting new updates at the April meeting. The BoC yesterday also announced its plan to end quantitative tightening. The Bank will restart asset purchases (regular term repo programme followed by treasury bill purchases) in early March, beginning gradually so that its balance sheet stabilizes and then grows modestly, in line with growth in the economy. The Canadian dollar remains weak at USD/CAD 1.4430 (1.45-1.47 resistance).
