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Italy’s political crisis; flash PMIs; Jackson Hole meeting

16 ^th August 2019

YOUR GUIDE TO THIS WEEK'S BIG ECONOMIC EVENTS

Italian Prime Minister Giuseppe Conte reports to parliament on the government crisis, Purchasing Managers’ Index (PMI) reports could show signs that economic growth is stabilising in some countries and central bankers gather in Jackson Hole, Wyoming.

US-China trade tensions remain in the spotlight. Last week, the US administration delayed a 10% levy on Chinese goods until the middle of December and removed products from the current tariff list on health, safety and national-security grounds. This week, Chinese telecommunications firm Huawei is in focus – the licence that allows it to do (limited) business with American companies is set to expire on 19 August. In our view, the US government will probably extend the licence. That said, while President Donald Trump’s position has softened, the two sides are simply muddling through with no definitive resolution in sight. Meanwhile, Russia reports a raft of economic indicators. Retail sales should increase by 1.5% year-on-year in July, up from 1.4% the month before. A relatively strong labour market will likely support consumption – the unemployment rate has fallen in recent months, although it should rise to 4.5% in July, marginally higher than the 4.4% recorded the month before. Real-wage inflation has also improved and should rise to 2.6%, up from 2.3% in June.

Italy has been in crisis ever since the League withdrew support for its governing coalition with the Five Star Movement about 10 days ago. Conte will address the upper house of parliament on Tuesday and the lower house on Wednesday. While he may choose to resign, the League might call a no-confidence vote shortly after the debates or force a government collapse by pulling its ministers from the cabinet. The League is pressing for early elections as it wants to capitalise on rising public support, as well as avoid the 2020 budget discussions that are due to take place in September and October. General elections could happen at the end of October at the earliest, as it takes at least 60 days to arrange polls after parliament is dissolved. Elections are not inevitable and ultimately President Sergio Mattarella will decide whether a new government can be formed with the support of an alternative majority in parliament. In the UK, the Confederation of British Industry releases its manufacturing survey. The output index was little changed at 6 in July, consistent with poor growth in manufacturing activity. But new orders, a forward-looking indicator, collapsed to -34 in July, the lowest since April 2010. Higher odds of a no-deal exit from the European Union (EU) and trade tensions continue to weigh on the outlook.

South Korea releases its 20-day measure of exports and imports in August, one of the earliest-available indicators of trade trends in the world. Exports shrank by 11% year-on-year for the whole of July, while import growth recovered slightly to -2.7%, up from -10.9% the month before. Persistent trade-related uncertainty means the outlook should remain weak. Meanwhile, South African inflation is likely to moderate to 4.3% in July, down from 4.5% the month before, while the core measure should be unchanged at 4.3%. Inflation is now running at around the mid-point of the central bank’s 3%-6% target. Canada will also report inflation data. Consensus estimates expect the average of the Bank of Canada’s preferred core-inflation measures to be unchanged at 2% in July, right in the middle of the central bank’s 1%-3% target range. Meanwhile, the US reports preliminary benchmark revisions to its labour-market data. Every year, the Bureau of Labour Statistics reconciles the sample-based employment count taken in March with more comprehensive information from state-unemployment-insurance tax records. The revisions are usually minor and have averaged about 0.2% over the past decade, with an absolute range of less than 0.05% to 0.7%. Nonetheless, a downward revision would be concerning as it would suggest the health of the US labour market is overstated. Separately, the US Federal Open Market Committee (FOMC) releases minutes from its July meeting. Last month, the Federal Reserve (Fed) cut interest rates by 25bps to 2%-2.5% and announced an immediate end to its balance-sheet runoff, about two months earlier than planned. Fed Chairman Jerome Powell tried to frame this as a mid-cycle adjustment rather than the start of an outright easing cycle. The minutes will shed light on whether, and to what extent, FOMC members share this view. Fed watchers will also scrutinise any discussion about the impact of global developments on the US economy, as well as trade tensions and inflation. Meanwhile, the Indonesian central bank will meet. Interest rates should remain unchanged at 5.75%, following a 25bp cut in July (although more easing cannot be ruled out). Given that economic activity has softened and inflationary pressures are muted, the central bank will probably maintain a dovish tone and hint at another imminent interest-rate cut.

Markit reports flash readings for US, eurozone and Japanese PMIs. These will indicate whether growth in economic activity has continued to stabilise, albeit tentatively. The global PMI is still subdued, although it rose from 51.2 in June to 51.7 in July. Deteriorating scores in the eurozone and Japan were offset by improvement in the US and, to a lesser extent, China. Manufacturing activity (which contracted) has diverged from the services sector, which is still expanding at a modest pace. Meanwhile, the European Central Bank (ECB) published the accounts of its July policy meeting. Last month, the ECB formalised its dovish turn by adjusting its forward guidance on interest rates – it now expects them "to remain at their present or lower level at least through the first half of 2020".¹ The central bank also stressed that a highly accommodative stance was needed in response to elevated geopolitical uncertainty and the systematic undershooting of its inflation target. This should all be reflected in the accounts, which will be closely scrutinised despite the fact that ECB President Mario Draghi suggested they did not discuss specific policy actions. Separately, the eurozone reports consumer confidence. The index has hovered around -7.5 to -6.5 since the start of the year, coming in at -6.6 in July. We expect it to remain within this range in August, staying above its long-term average of -10, which is probably a reflection of the bloc’s relatively strong labour market. In the US, the Kansas Federal Reserve hosts the annual central-bank symposium in Jackson Hole, Wyoming, from Thursday until Saturday. The title of this year’s meeting is ‘Challenges for Monetary Policy’, a topic related to the Fed’s ongoing review of its strategy and tools. The theme is particularly apt given that the Fed currently has less than half the policy-rate space to respond to downturns than in the past, at a time when a well-known recession indicator is flashing red (last week, US 10-year bond yields fell below two-year yields for the first time since 2007). While the conference usually offers reflections on medium- to long-term themes, in the past it has also acted as a forum for central bankers to signal short-term policy changes.

Japan will report consumer-price inflation. Core inflation (excluding energy and fresh food) should remain unchanged at 0.5% for the third consecutive month in July, which signals that inflationary pressures are subdued. Core inflation averaged 0.4% in 2018 and 0.5% over the first half of this year, well below the Bank of Japan’s 2% target.

The G7 meets in Biarritz. France holds the presidency this year and has chosen the theme ‘fighting inequality’. But other issues will probably be at the top of this year’s agenda, particularly the US-China spat and possible successors to replace Christine Lagarde as head of the International Monetary Fund (IMF). Europe recently nominated Bulgarian national and World Bank chief-executive Kristalina Georgieva as its IMF candidate. The G7 will need to agree on a closing statement, which might be hard given the group’s divergent views on trade and climate change – last year’s summit in Canada ended with Trump disavowing the final communique. UK Prime Minister Boris Johnson will be in the spotlight: he is due to meet several world premiers for the first time as leader.

¹Mario Draghi, ECB press conference, as at 25 July 2019.

CHART OF THE WEEK

Chinese economic activity disappoints in July

Source: Refinitiv, Chinese Bureau of National Statistics, as at August 2019.

Chinese economic activity moderated by more than expected in July, largely reversing the pickup in June. Industrial-production growth fell to 4.8% year-on-year in July, down from 6.3% the month before. Given that recent fiscal measures mainly target consumption, it is even more worrying that retail-sales growth declined from 9.8% to 7.6% year-on-year. Looking beyond month-to-month volatility, Chinese economic growth seems to be fading. The trade spat is clearly a drag, but the slowdown also has structural aspects. China is transitioning from an investment-intensive, export-oriented growth model to a consumption-based one typical of more advanced economies. Policymakers want a smooth transition and will likely provide fiscal – and to a lesser extend monetary – stimulus to offset the effect of higher tariffs and trade-related uncertainty. GDP will probably expand by around 6% year-on-year over the balance of 2019, in line with growth of 6.2% in Q2 and within the 6%-6.5% official target for this year.

WHAT WE'RE READING RIGHT NOW

Currency manipulation in China, Russia’s flagging economy and the emergence of rival economic blocs are among the interesting reads you may have missed.

Currency manipulation charges against China are unfounded

Writing in the Financial Times, the deputy governor of the People’s Bank of China says that China is not competitively devaluing the renminbi. Liu Guoqiang points to IMF research that shows the yuan-dollar exchange rate is broadly in line with economic fundamentals and argues that bilateral cooperation is needed to boost the global economy.

Russian ecommerce: a moonshot moment?

Misallocated investment, a lack of internal competition and US sanctions have all turned the Russian economy into a quagmire. We consider how ecommerce is a hidden gem within the troubled wider economy and assess whether the ‘National Projects’ spending program will help boost innovation.

What comes after Bretton Woods II?

The Economist worries that the US-China trade and foreign-exchange war could bring about a disruptive end to the current global monetary system. We might be about to witness a repeat of the 1930s, which means the emergence of rival economic blocs seems increasingly likely.

Silvia Dall’Angelo

Senior Economist

Silvia joined Hermes in October 2017. As an experienced global economist, she is responsible for providing macroeconomic analysis and commentary, non-standard macroeconomic modelling, and developing relationships with key central banks and monetary authorities. Silvia previously spent 10 years at Prologue Capital Ltd, latterly as a global economist responsible for the team’s macroeconomic view. She holds a Master of Science in Economic and Social Sciences, as well as a Bachelor in Economic and Social Sciences, from Bocconi University in Italy.

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