This morning has brought news which made me double-check it. So without further ado let me hand you over to the Financial Times. Please do not adjust your sets.
Investors have increased bets that interest rates in the Eurozone could rise next year even as the US continues to lower borrowing costs, in a shift that could further weigh on an already weak dollar. Swap markets pricing now implies that the European Central Bank is more likely to increase rates in 2026 than cut them.
There is a sub-plot there about the US Dollar and hence the Euro which reminds me that the existing Euro rally has as I noted yesterday affected economic activity. But the initial premise reminds me of this from Lewis Carroll.
“Alice laughed. ‘There’s no use trying,’ she said. ‘One can’t believe impossible things.’
I daresay you haven’t had much practice,’ said the Queen. ‘When I was your age, I always did it for half-an-hour a day. Why, sometimes I’ve believed as many as six impossible things before breakfast.
In fact some think that central banks more generally will be raising interest-rates. By the way we have now moved on from Alice in Wonderland!
Pooja Kumra at TD Securities described next year as a potential “turning point” for central banks in the Eurozone, Canada and Australia, adding: “Hawks are being more vocal.”
Actually it is not the best of days for that line of thought, but more on Australia later. Also there is the problem I have highlighted below that I do not think they have thought through.
Interest rates are currently lower in the Eurozone and several other major economies than the US — partly because of their slower growth.
In fact we only have to look back to the theme of yesterday to see an issue here. As the Chinese exports drive is crowding out Euro area exports and thus providing another brake on economic growth. Plus a stronger Euro would only make that worse.
As an aside here is how the Financial Times tries to cover up the narratives about the Trump tariffs which have been proven to be rather short of reality.
But policymakers in the ECB and other central banks may be unlikely to lower them further to jump-start growth, since Trump’s trade war has proven to be less damaging to US trading partners than previously thought.
Isabel Schnabel
Further credence for the line of thought above was provided by the person I regard as a type of weather vane for typical ECB thinking. She was upbeat.
The European Commission’s Economic Sentiment Indicator stands at its highest level since April 2023, and the Purchasing Managers’ Indices point to a solid expansion, driven mainly by services while manufacturing remains sluggish.
Along the way my theme that they are PMI fan girls and boys gets another tick in the box. You might like to note how wage growth has been transformed from being bad to good.
One important driver is the robust labour market with low unemployment and strong wage growth, which is supporting private consumption.
The theme here is clearly the only way is up baby.
Compared with our September projections, the risks are clearly tilted to the upside. And while I have not yet seen the new projections due for release later this month, I would expect them to reflect this.
Then came what Americans would call the money shot and she would have known what she was doing here. The emphasis is mine.
Interest rates are in a good place, and in the absence of larger shocks, I expect them to stay in this place for some time. The distribution of inflation risks has shifted to the upside, and accordingly, both markets and survey participants expect that the next rate move is going to be a hike, albeit not anytime soon.
Indeed she reinforced the point.
So do the expectations for the next move to be a hike feel right? Would you agree with those expectations?
I’m rather comfortable with those expectations.
And again.
You said in August that global rate hikes may come earlier than many people think. Is that still something you believe in?
If the economy is proving more resilient and demand is recovering more quickly than expected, this would also tend to bring forward the potential need of a rate hike.
There were clear echoes here of something from June 2014.
There’s already great speculation about the exact timing of the first rate hike and this decision is becoming more balanced.
It could happen sooner than markets currently expect.
Back then Bank of England Governor Mark Carney spoke those words and completely misled everyone about his intentions. I know many of you were following me back then but for newer readers the crucial point is that what has become called Forward Guidance from central bankers has been anything but accurate. Even worse they think they are being clever with this sort of thing as in influencing markets and opinion without having to do the deed. It was on this road that he became called the Unreliable Boyfriend.
Market Impact
The water was muddied by Japanese bond yields rising again. But there was a clear impact here from her words.
That drove up yields on German five-year bonds by almost 10 basis points.
Rates on longer-dated German debt are already at the highest since 2011. ( Bloomberg)
The 30-year yield in Germany rose to 3.48%. This will not be welcome as we look at another part of Dr, Schnabel’s speech.
Another driving factor is fiscal policy, which is now starting to expand. We are seeing the first spending under the German special fund for infrastructure and climate neutrality, and we also see an increased commitment among European countries to spend on defence.
Yes they are spending more just as it is a lot more expensive to borrow. Remember Germany was in many ways the leader of the pack for negative bond yields and NIRP so for it this is a Japanese like shock. Investing.com tells me that the 30-year yield is up 2010% on five years ago. In some ways that is a type of abuse of numbers but there is also a point there. All of this things our good doctor has just made worse.
Comment
Markets have not completely fallen for this as we look at the scale of the move here.
Swap market prices currently imply on average a hike of 0.1 percentage points in the Eurozone by the end of next year. By contrast, at the end of last week, they indicated a 0.04 percentage point cut. (Financial Times)
This is because Dr. Isabel Schabel in perhaps the biggest call of her life proved to be a reverse-indicator. From the 17th November 2021.
At our last Governing Council meeting, we concluded that, in spite of significant uncertainty, there is still good reason to believe that euro area inflation will decline visibly over the course of next year and gradually fall back below our target of two per cent in the medium term, meaning that the conditions for raising interest rates, as set out in our forward guidance, are very unlikely to be met next year.
Yes inflation would be “temporary” and interest-rates would not rise. Reality turned into the cost of living crisis and the largest sequence of interest-rate rises ever performed by the ECB. In fact she was on great form that day telling everyone this.
The euro area growth outlook: no signs of stagnation.
Then on the 19th of February 2024 I looked at her words essentially saying it had been stagnation.
Between 1995 and 2007, annual growth in GDP per hour surged measurably in the United States, whereas it slowed and diverged in the euro area……The dismal trajectory of Europe’s productivity has been subject to much analysis.
Also as promised let me return to the Reserve Bank of Australia which is supposedly on the road to interest-rate rises. But this morning it has told us this.
The Board’s judgement is that some of the recent increase in underlying inflation was due to temporary factors and there is uncertainty about how much signal to take from the monthly CPI data given it is a new data series.
Yes they are so arrogant and out of touch they think they can apply the temporary lie again. This is in spite of the fact as I looked at on the 3rd of this month that Governor Bullock came in for heavy criticism in the Australian parliament.
