Transcript
Speaker: This is HSBC Global Viewpoint, your window into the thinking, trends and issues shaping global banking and markets.
Speaker: Join us as we hear from industry leaders and HSBC experts on the latest insights and opportunities for your business.
Speaker: Thank you for listening.
Speaker: You're listening to the HSBC Global Research Macro Viewpoint, a roundup of our key reports published over the past week by our team of economists and strategists.
Speaker: Coming up this week, we consider whether Asian central banks could follow the pace of Federal Reserve tightening as the US gears up for a string of rate hikes.
Speaker: We look at what higher inflation means for UK monetary policy and growth prospects.
Speaker: And we assess the potential impact of interest rate rises on sterling and the euro.
Speaker: This podcast was recorded on Thursday, the 17th of February, 2022.
Speaker: Our full disclosures and disclaimers can be found in the link attached to this podcast.
Speaker: Hello, I'm P.S.
Speaker: Butler in London.
Speaker: And I'm Aline Van Dyne in New York.
Speaker: Investors are expecting the Federal Reserve to raise U.S. interest rates sharply through the course of this year.
Speaker: So what could be the implications for Asian central banks?
Speaker: Fred Newman is our co-head of Asian Economic Research, and he joins us now from Hong Kong.
Speaker: Fred, welcome to the podcast.
Speaker: Thank you very much.
Speaker: So the U.S. is gearing up for some steep rate rises.
Speaker: Do you expect Asian central banks to follow suit?
Speaker: Well, the FedExpress is clearly leaving the station, and that will put some pressure on Asian banks to follow suit, but not as much as you would think.
Speaker: The first argument here is that inflation pressures actually so far remain manageable.
Speaker: And the other argument is that on the external side, there isn't really any balance of payments pressure for Asian central banks to tighten defensively.
Speaker: So, yes, some hikes coming through across some Asian markets, but by and large, a very gentle and gradual tightening cycle, certainly compared to the Fed.
Speaker: What about issues like higher oil prices and softening exports?
Speaker: Won't they affect trade balances and increase the likelihood of rate hikes in Asia?
Speaker: It does at the margin.
Speaker: And so you do see rising oil prices weighing on trade balances quite a bit.
Speaker: And
Speaker: We've long argued that actually in 2022, you'll see quite sharply slowing export growth because the world will just shift away from demanding goods towards services.
Speaker: And so trade balance is bound to deteriorate across much of the region.
Speaker: If oil prices rise further, that would certainly add to the pressure.
Speaker: But don't forget that most economies run pretty sizable surpluses.
Speaker: So that is probably enough to hike 50 basis points or so.
Speaker: And that should be enough defensively to maintain external balances.
Speaker: So it is something we watch closely.
Speaker: But at this point, it's not yet a sharp enough deterioration on a trade balance front to really warrant much more aggressive hikes.
Speaker: Now let's focus on China.
Speaker: We've seen further evidence this week that inflation there is slowing, while in the US and Europe, it continues to rise to decade highs.
Speaker: Does this suggest even more room for policy easing in China?
Speaker: There is certainly more room for easing in China.
Speaker: Inflation is not a real constraint like it is in other markets.
Speaker: We've seen consumer inflation running around 1% or so.
Speaker: That is very mild.
Speaker: And that could mean that the PBOC has room if needed to cut interest rates.
Speaker: But we actually think that they will focus more on crisis.
Speaker: credit easing and fiscal easing this time around.
Speaker: So maybe not touch interest rates as much.
Speaker: And the focus will be on other levers.
Speaker: But broadly speaking, yes, if the PBOC had to cut interest rates, potentially because of a bigger stumble in growth than expected, there's still room to cut interest rates.
Speaker: Inflation are not a constraint for the PBOC at the moment.
Speaker: Fred, thanks very much.
Speaker: Thank you very much.
Speaker: So while Fred might be fairly relaxed about rate hikes in Asia, here in the UK, expectations are mounting that the Bank of England will have to tighten policy even further than previously thought.
Speaker: Liz Martin's senior UK economist can tell us more.
Speaker: Liz, welcome to the podcast.
Speaker: Thank you.
Speaker: Liz, there's just been such a flurry of economic data relating to inflation in other geographies in the UK.
Speaker: Can you first give us a bit of the backdrop?
Speaker: Sure, yeah.
Speaker: So this week we've had a couple of hawkish data points.
Speaker: First of all, we have the labour market data, which showed vacancies climbing to a fresh record high.
Speaker: Pay growth is negative in real terms, accounting for inflation, but it is pushing a little bit higher.
Speaker: And generally, the labour market is still very tight, pointing to higher domestically driven inflation.
Speaker: We then have the January inflation print, which once again surprised to the upside.
Speaker: So that came in at 5.5% year on year for January, which is the highest level in the series recorded history going back 30 years.
Speaker: So really quite a marked upturn in inflation and yet another upside surprise.
Speaker: So given that inflation backdrop, what is the position of the Bank of England?
Speaker: So the Bank of England has already raised rates twice in response to these rising inflation pressures, from 0.1% to 0.25% in December, and then from 0.25% to 0.5% in February.
Speaker: And it's told us in those meetings that it intends to implement further modest tightening.
Speaker: But I think the key word is modest, and the Bank of England acknowledges that it's facing a bit of a trade-off.
Speaker: And as the chief economist Hugh Pill says,
Speaker: puts it, the same factors that are driving higher inflation and interest rates now are the ones that are potentially going to drive lower growth, lower demand, lower employment in the future.
Speaker: So they've got to be very careful that they don't weigh down too hard against the post-pandemic recovery in an effort to defeat inflation.
Speaker: And it would be fair to say that the market expectations are probably on the aggressive side?
Speaker: I think they are.
Speaker: You know, the market expectations have come back just a little bit in the last day or so as the time of recording.
Speaker: But at one point this week, they were expecting bank rate to rise as high as two and a quarter percent within next year or so.
Speaker: That does seem to us at the very aggressive end of expectations, certainly a long way further.
Speaker: than where we were pre-pandemic, which was having bank rate at just 0.75%.
Speaker: So 2.25% seems a long way from there.
Speaker: And given the Bank of England will have its concerns about the cost of living squeeze, about slowing growth, and also has the complementary tightening options as well.
Speaker: Don't forget, it's reducing its balance sheet by not reinvesting the proceeds of its maturing QE assets.
Speaker: It can also consider
Speaker: once bankrate gets to 1% selling some of those assets, those policies it will consider as a complement to rate rises and may limit the number it feels it needs to actually do.
Speaker: Liz, thank you very much.
Speaker: Thank you.
Speaker: Though more rate rises are expected in the UK, let's look at what it could mean for sterling.
Speaker: Dominic Bunning is our head of European FX research and he joins us now.
Speaker: Dom, the Bank of England has started hiking rates and reducing the balance sheet.
Speaker: Will this be positive for sterling?
Speaker: Well, look, I think normally you'd look at that kind of monetary policy tightening and say that's pretty positive for a currency.
Speaker: You've got rate hikes, you've got balance sheet reduction.
Speaker: That should all be pretty positive.
Speaker: But actually, we're not convinced that's the case.
Speaker: And if I start just on the rate side of things, the big question that we're asking is whether the Bank of England can deliver
Speaker: as fast a tightening as the market has priced in.
Speaker: So if you look just at the upcoming March meeting, for example, the market pricing is about 50% split for either a 25 or a 50 basis point rate hike.
Speaker: And so anyone looking for a 50 basis point hike can actually be somewhat
Speaker: And we think that could actually weigh on sterling.
Speaker: And that's true if you look all the way out on the interest rate curve.
Speaker: And the Bank of England, to some extent, has already pointed this out as well in their latest inflation report back in February.
Speaker: They said that if market pricing were to be followed in terms of rate hikes, you'd end up with inflation down around 1.6 percent, so quite a bit below target.
Speaker: And really, that's the Bank of England signal to us that they don't think they need to go as fast as the market is pricing in.
Speaker: And ultimately, it's therefore very hard for Sterling to benefit from those rate hikes.
Speaker: And if anything, Sterling could actually fall somewhat as that disappointment plays out.
Speaker: And what about on the quantitative tightening side?
Speaker: Yeah, this is another interesting step.
Speaker: I mean, Bank of England, really one of the first, certainly in this cycle to go down this quantitative tightening route.
Speaker: But I think there's a couple of points to note here.
Speaker: Firstly, the initial passive balance sheet roll-off is going to be pretty small.
Speaker: There's a relatively sizable redemption in March of gilts, but after that, it really becomes a trickle.
Speaker: And so the initial impact may not be that big.
Speaker: And the other question we've kind of looked at is the way in which this potentially impacts sterling.
Speaker: So the theory is that as the Bank of England steps aside, foreign investors might come in and pick up some of the slack and buy more gilts.
Speaker: And you would think that's quite a positive force for sterling.
Speaker: But when we look historically at the relationship between
Speaker: foreign buying of gilts and sterling performance, we actually don't find any kind of positive relationship at all there.
Speaker: So it's not that obvious to us that we're going to see a big positive impact on sterling from the quantitative tightening story.
Speaker: So what are the factors that will drive sterling's performance?
Speaker: Well, I think it does still come down to the rate story, but it's the fact they won't deliver as much as is being priced ends up being a disappointment rather than being a positive.
Speaker: So the rate story is still important, but it's about how much the Bank of England can deliver relative to what's priced in.
Speaker: And the other interesting point when you look at that rates dynamic,
Speaker: is how market pricing is beyond the kind of one year point of the forwards curve.
Speaker: Effectively, you've got this inverted forward curve.
Speaker: And what that sort of tells you is the market thinks, yes, the Bank of England can hike quite aggressively in the near term, but then they're going to have to start cutting.
Speaker: And so that kind of almost outlines that the market thinks it's quite a tricky situation for the Bank of England and potentially the Bank of England ends up tightening too far too fast and then has to cut more aggressively.
Speaker: And once the market starts thinking like that, it's not going to be a particularly positive story for the current.
Speaker: And then the other thing we've kind of looked at, which doesn't seem to be getting a lot of notice out there when we see other people talking about currency, it's really what's happening on the current account.
Speaker: You know, the current account story in the UK has traditionally been quite a challenge for sterling.
Speaker: It narrowed quite dramatically the deficit during the pandemic.
Speaker: But actually, as things normalise, particularly on the travel side and the services side, that should actually cause the deficit to widen out.
Speaker: And, you know, a much wider current account deficit out of sort of 4% of GDP, that kind of level, that's generally been associated with sterling weakness as well.
Speaker: So that's something I think that's going to evolve through the course of the year.
Speaker: But ultimately, that could weigh on sterling as well.
Speaker: And switching to Europe, the market is pricing in rate rises by the ECB this year.
Speaker: What could that mean for the euro?
Speaker: Well, again, it's a similar story, actually.
Speaker: I mean, yes, the ECB is kind of taking a bit of a hawkish shift compared to what was happening previously.
Speaker: And it is one of the last central banks in G10 to sort of pivot in that way.
Speaker: But equally, the market seems to have got very ahead of itself in terms of pricing, you know, 50 basis points of rate hikes by the end of this year.
Speaker: And we just don't think that it's going to be that easy for the ECB to deliver on that sort of
Speaker: that sort of policy tightening.
Speaker: So again, I think it's going to be a case of potential disappointment.
Speaker: But in the shorter term, we do actually think Eurosterling has potential to go higher.
Speaker: If we just look at the March meeting, for example, the ECB probably will want to keep up that sort of hawkish rhetoric going through March and kind of continue to signal that normalisation.
Speaker: But as I mentioned earlier, we think there's a risk of a bit of a disappointment from the Bank of England if they only deliver a 25 basis point hike.
Speaker: So
Speaker: I think that's one way in which you can look at some of these dynamics, look at the relative value plays.
Speaker: And in the short term, tactically, we think Euro Sterling probably has a bit of room to move higher going into this ECB Bank of England meeting in the middle of March.
Speaker: But beyond that, you know, the Euro could face a similar kind of disappointment to what we expect is going to happen in Sterling.
Speaker: Don, that's a great summary.
Speaker: Thanks very much.
Speaker: Thanks a lot.
Speaker: So that's all from us today.
Speaker: Thank you to our guests, Fred Newman, Liz Martins, and Dominic Bunning.
Speaker: Thanks very much for listening.
Speaker: We'll be back again next week.
Speaker: Thank you for listening today.
Speaker: This has been HSBC Global Viewpoint Banking and Markets.
Speaker: For more information about anything you heard in this podcast or to learn about HSBC's global services and offerings, please visit gbm.hsbc.com.
