Market Economics | Interest Rate Strategy - BNP PARIBAS ...

The obvious focal point is the Summit on 4 February but on the basis of the
comments from the German finance minister, amongst others, reaching an
agreement by that time looks optimistic. More likely it will have to wait until
March. In part, the delay reflects the differences of opinion at the national
level on the proposals put forward. It also reflects the German government’s
desire to secure something in exchange – a constitutional commitment to
balanced budgets perhaps?
More worryingly, it is also due to the tendency of the politicians to take their
collective foot off the gas when markets calm down. A more effective way to
bolster confidence in a lasting way would be to surprise markets positively
with a swift, credible agreement when the markets are already in a positive
frame of mind. We live in hope.
4.5
Eurozone: Pay Pressures Contained
4.0
Hourly Labour Costs (% y/y)
3.5
3.0
2.5
2.0
1.5
Negotiated Wages (% y/y)
1.0
Compensation per Employee (% y/y)
0.5
97 98 99 00 01 02 03 04 05 06 07 08 09 10
Source: Reuters EcoWin Pro
ECB inflation worries
overdone…
…given subdued pay
pressures
UK inflation concerns point
to MPC shift
JGBs in the range
The level of anxiety at the ECB over upside risks to inflation has increased
and the risk of an earlier start to the tightening cycle than we have forecast
(from spring 2012) has risen accordingly. The ECB still expects inflation to
remain in line with its definition of price stability over the medium term but it
intends to monitor the risks to this scenario very closely – as will we.
One of the risks to monitor is second-round effects on inflation via higher
wage growth. As in December, the assessment of labour cost developments
in the eurozone in this month’s ECB Monthly Bulletin was benign. To quote:
“Labour cost indicators…continued to show subdued wage pressures…in
line with continuously weak labour market conditions.” Growth rates in hourly
labour costs and negotiated wages are both at their lowest on record. No
panic required.
In the UK, we expect the BoE MPC minutes next week to show increasing
unease about the deterioration in inflation prospects. The MPC will have
been made aware of the latest upward surprise in inflation (up to 3.7% y/y)
which has reinforced our belief that inflation will exceed 4% by February –
double the Bank's target. The market will look for clues as to how soon the
first rate hike will be delivered. The initial focus is likely to be on whether
arch hawk Andrew Sentance was joined by any other MPC members in
voting for an immediate hike and to a lesser extent, whether Adam Posen
has backed down in his bid to secure a second round of QE. Given the
mixed picture on activity and labour market data, we suspect that the latter is
more likely than the former at this stage.
The JGB market continues to lack direction and 10-year yields should stay in
a range of 1.1–1.3% for the time being as investors sit on the sidelines. Next
week's BoJ Monetary Policy Meeting is not expected to result in any new
action from the central bank.
Ken Wattret 20 January 2011
Market Mover
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