At the October meeting, the ECB Governing Council decided to keep the three key ECB interest rates unchanged. The interest rate on the main refinancing operations and the interest rates on the marginal lending facility and the deposit facility remained unchanged at 4.50%, 4.75% and 4.00% respectively.
According to the policy statement, "The latest information broadly confirmed the previous assessment of the medium-term inflation outlook. Inflation is still expected to stay too high for too long, and domestic price pressures remain strong. At the same time, inflation dropped markedly in September and most measures of underlying inflation have continued to ease. The Governing Council’s past interest rate increases continue to be transmitted into financing conditions. This is increasingly dampening demand and thereby helps push down inflation.
The Governing Council is determined to ensure that inflation returns to its 2% medium-term target in a timely manner. Based on its current assessment, the Governing Council considers the key ECB interest rates are at levels that, maintained for a sufficiently long duration, will make a substantial contribution to this goal.
The Governing Council’s interest rate decisions will be based on its assessment of the inflation outlook in light of the incoming economic and financial data."
Official figures showed inflation in the Eurozone eased to 4.3 per cent in September from 5.2 per cent in August. Inflation is expected to average 5.6% in 2023, before dropping to 2.9% in 2024 and 2.2% in 2025 according to projections from ECB staff.
EU annual inflation eased to 4.9% in September, down from 5.9% in August, according to latest data from Eurostat, the statistical office of the European Union. The IMF latest forecasts assume growth of 0.7% in 2023 rising to 1.2% in 2024.
So trick or treat? The hold on rates is in line with our expectations. Rates may be on hold for longer as inflation trends unwind.
Fed On The Fence ...
The Fed is more agnostic. In their discussion of monetary policy for the September meeting, members agreed that economic activity had been expanding at a solid pace, the wording changed from "moderate" to "solid." They also concurred job gains had slowed in recent months but remained strong, and the unemployment rate had remained low. Inflation had remained elevated.
A majority of participants judged that one more increase in the target federal funds rate at a future meeting would likely be appropriate, while some judged it likely that no further increases would be warranted.
Now it would appear the Federal Reserve is virtually certain to keep rates on hold at the meeting on November 1st. That’s according to recent statements from Fed policymakers and the expectations of fixed income markets.
According to the CME FedWatch Tool markets attach a 98.6% probability to the rates on hold event, this despite strong economic data in growth and jobs.
Latest growth data for the U.S.A. suggests the economy expanded by 2.7% year on year in the third quarter. Forecasts for the year as a whole will be upgraded to 2.4% for the year, an upward revision from the latest IMF estimate of 2.1%.
The job market continues to run hot. Inflation is steadying. Core PCE inflation in September was 3.4%. in the month and for the third quarter of the year as a whole.
A hold on rates may bring some stability to bond markets. Ten year yields were trading at 4.3% prior to the Fed September meeting. At close this weekend, rates had risen to 4.9%. Thirty year rates were trading at 5.0% up from 4.4%.
Are the bond market vigilantes saddling up?, the theme of our special edition this month Don't miss that. We had expected one further rate rise next week. Now this seems unlikely. Rates on hold trick or treat, more trickery than treat. Rates on hold to steady the bond markets. There will be further rate hikes ahead, to steady growth, wage increases and inflation.
MPC In The Middle ...
The MPC meets on Thursday this week. We had expected a further rate rise of 25 basis points but "rates on hold" is now the more likely outcome, or so it would appear. Speaking in Marrakech earlier this month, Andrew Bailey said “Our last meeting was such a tight one and as my colleague Huw Pill has said, they’re going to go on being tight ones,” he told the Institute of International Finance annual membership meeting.
At its meeting ending on 20 September 2023, the MPC voted by a majority of 5–4 to maintain Bank Rate at 5.25%. Four members preferred to increase Bank Rate by 0.25 percentage points, to 5.5%. Five voted for rates to remain on hold.
Inflation remains "sticky", CPI held at 6.7% in September unchanged from 6.7% in August. Core inflation, eased to 6.1% from 6.2%. Food inflation has eased to 12.3%. Energy costs eased to 5.0% from 23.3% in June. Service sector inflation increased to 6.9% from 6.8%. Goods inflation eased to to 6.2% from 6.3%.
Producer Prices are moving in the right direction. Input prices were at -4.5 % in September. Output prices moved to -0.1% from -0.4% prior month. We expect input and output prices to be negative in Q3 and Q4. Markets expect headline inflation to fall below 5% in the final quarter.
Markets and the MPC have been spooked by the latest data on earnings. Earnings increased by 8.1% in August. Public sector pay increased by 12.5%. Private sector pay increased by 7.1%.
Earnings at such inflated levels are not compatible with an inflation target of 2%. Neither are they compatible with base rates on hold at just over 5%. Ten year gilt rates closed at 4.6% this weekend from 4.5% at the end of September. The UK bond vigilantes not saddling up, just "walking and chewing gum" as the MPC is stuck in the middle between policy makers in Europe and the U.S.
So rates on hold trick or treat? We'll have to keep watching the data on that one ...
The Saturday Economist
John Ashcroft publishes the Saturday Economist. Join the mailing list for updates on the UK and World Economy.
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