Transcript
Speaker: This is the Macro Brief from HSBC Global Investment Research, our weekly look at the issues driving financial markets across the world. I'm Peter Stegall in London. As we sit down to record this podcast, the European Central Bank has just hiked its key interest rate by 25 basis points.
Speaker: It's the first change in a year and the first raise in nearly three. So could this be the first of many as oil market disruption stokes inflation? Or will growth and labour market worries mean policymakers stay their hand?
Speaker: I'm joined today by Chris Hare, Senior Economist for the Eurozone UK and Ireland. Chris, welcome back to the podcast. Thanks for having me. Is it fair to say that today's hike was not a surprise?
Speaker: It was a surprise to nobody. The ECB had managed expectations very firmly, I would say, over the last few weeks. No pushback on market pricing that had priced in the rate rise to 2.25% by 100% probability. So that was the boring bit. The more interesting stuff was any guidance on potential next steps.
Speaker: And thinking about the next steps, you've talked about ECB policymakers wanting to avoid repeating the mistakes 2011 2022. What you mean that? and twenty twenty two what do you mean by that Well, the ah mistake of 2011, as many would argue, was that the ECB raised interest rates at the onset of a pretty major recession, even though that temporarily inflation was higher. So those rate rises were unwarranted. ECB had to reverse them. So you wouldn't want to repeat that necessarily.
Speaker: And then the mistake of 2022, as many believe, is that the ECB was too slow in raising rates in the face of an energy shock. So what do you do this time around? Do you raise rates by accident or are you potentially going to be accused of being too slow? And that's the very fine line that the ECB seems to be treading. For now, it's decided that at least the first step in terms of raising rates is the way to go.
Speaker: So where are we today when it comes to inflation? are you seeing a pass through from rising oil prices? Are expectations of inflation changing? So household inflation expectations in the eurozone are appreciably higher than they were before the Middle East conflict. And actually three year ahead, surveyed expectations are pretty close to where they were in 2022, 2023. So that in itself might be a concern, one of the potential reasons for raising interest rates. But if we look elsewhere in the inflation data, yes the Eurozone inflation date has risen sharply. Most of that seems to be direct energy pass-through effects. In the May data, potentially, we're also starting to see an impact on transport services, airfares, holidays, for example. But what we're not yet seeing is this more concerning second-round effect on wage and price setting, and that's where inflation can get really persistent. But we shouldn't expect to see that at this point.
Speaker: But the risk of that potentially materialising, again, is one of those reasons why you might want to lean against it with the rate rise. So that's the inflation side. When it comes to the labour market and economic activity, how do the data look there?
Speaker: A bit of a mixed bag, to be honest. If you look at the Eurozone unemployment rate, it's at 6.3%. That's very close to a record ever low. But at the same time, maybe a lot of that is a kind of more structural story delivered as part of a success story for Southern Europe in in particular. But actually, if you look at other indicators in terms of job vacancies, they've come down very sharply or very appreciably from very high levels from three, four years ago. Indicators of labour demand in the business surveys appear to be softening.
Speaker: So we're at decent and resilient levels in terms of the labour market, but maybe in changes or growth terms, we're in a softer place than where we were a few months ago. And if that is a trend that continues, that even though we've got higher inflation, well, if labour demand isn't all that strong, then maybe that means that the risk of risk really strong wage growth as a result of the inflation shock um is somewhat more dampened, at least relative to what we saw in 2022. OK, so the big question is where next? And you said that policymakers surprised you with their guidance or their hints about what might come next.
Speaker: I would say a couple of modest surprises. For example, the inflation forecast or the core inflation forecast, excluding food and energy in 2028, it was raised a little bit to 2.2%. That doesn't sound massive in the grand scheme of things, but maybe it's a slight signal. of a view of some persistence in inflation.
Speaker: There was something there. Christine Lagarde said that the rate rise today was unanimous and there was no alternative option like a rate hold. That wasn't even considered. um And also Christine Lagarde mentioned that broadening out in inflation pressures that we're already starting to see for the So for those sorts of reasons, and given the fact that the market is pricing in further rate rises, that seems to be the position that we're in. The next steps are very unclear. The ECB talks about a meeting by meeting approach and data dependence. But as ah ultimately, unless there's a very rapid resolution with respect to the Middle East, another rate hike or two seems pretty likely in our view.
Speaker: so So what's your call then? So, our call is for follow-up rate rises in the July and September meetings. In total, that will be three interest rate rises this year. But then next year, I know this is looking quite far ahead in a very uncertain world.
Speaker: We think the labour market is somewhat soft and will soften a little further. We're fairly sanguine about persistent inflation effects. We do think as we get to the point by the end of next year, those rate rises can be fully reversed ah next year. But that's a long way ahead. For now, we're in rate rise territory.
Speaker: Thanks, Chris. That's a good time to take a short break. We'll be back with more on the Bank of England soon.
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Speaker: Now, back to today's episode. So, Chris, we've been talking about the European Central Bank. There are plenty more meetings taking place next week, including at the US Federal Reserve, which will see Kevin Walsh's first meeting as chair. There are also meetings from the Bank of Japan and, in your part of the world, the Bank of England.
Speaker: So what do we think the Bank of England is going to do at its next meeting? We don't see a rate rise, which is an interesting juxtaposition, I think, to the ECB. That said, though, there could be an interesting vote split on the Monetary Policy Committee. You know, in our expectation, we think two MPC members of nine will vote for a rate rise, but it could be up to four. So it could be a fairly split vote. But crucially, this is really important, the Governor Andrew Bailey seems to potentially see the world a bit differently in the UK to what the ECB does for the Eurozone. Andrew Bailey quite recently has talked about not necessarily needing to ah respond immediately to an energy price shock, particularly, ultimately, if it turns out to be temporary. So I don't think Andrew Bailey himself is all that keen in terms of rushing for those rate rises. So it's on hold for the time being. Our forecast is that we will see ultimately two interest rate rises from the Bank of England. But given those dynamics on the Monetary Policy Committee and what we've heard from Andrew Bailey, the timing and the nature of potential rate rises um is is pretty open to uncertainty.
Speaker: And talking about uncertainty, in 2027, you see the ECB potentially coming back down again. What about the Bank of England? It's the same story for the Bank of England. We've got a two up, two down forecast ah in terms of 25 basis point moves ah for the Bank of England.
Speaker: In a sense, maybe it's a story that's easier to tell than for the ECB from some perspective, given what we've heard from Andrew Bailey and also given what we observe in the labour market. Unlike in the Eurozone, the unemployment rate in the UK has risen quite a bit over the last 18 months or so. I think it's quite easier to tell a story whereby the jobs market is relatively softer. in the UK. So potentially all else equal, bearing that in mind, less of a risk of needing to move rates upwards too sharply and maybe a higher probability of reversal next year.
Speaker: Chris, thanks very much for your insights today. Pleasure.
Speaker: That was Chris Hare on the ECB's first rate rise since September 2023. And that's it from us today. a reminder to check out our sister podcast, Under the Banyan Tree, where hosts Fred Newman and Harold van der Linde put Asia's economies and markets into context.
Speaker: And if you'd like to get in touch, please contact us at askresearch at hsbc.com. Today's episode was hosted by me, Peter Stegall, and produced by Tom Barton. Please like and subscribe to The Macro Brief wherever you get your podcasts.
Speaker: Thanks very much for listening. We'll be back next week. you
