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Eco Focus is an aperiodic publication providing up-to-the-minute analysis of a current topic.
While the FOMC anticipates gradual adjustments in the stance of monetary policy it is by no means on a pre-set course and will respond to the incoming data. The Fed remains focused on the downside risks to growth from global turbulence.
The BoE left its monetary policy unchanged in February, in line with expectations. The decision was unanimous, making a change from the outcome of votes in previous months. The BoE made significant downward revisions to its growth and CPI inflation projections alongside its February Inflation Report, with inflation projected to remain below the 2% target until the end of 2017.
The ECB clearly opened the door for more easing, likely as early as the next meeting on 10 March. Among the probable measures, we expect a deposit rate cut and an extension of QE by six months. The ECB may consider other measures but, at this point in time, we do not see them as necessary. M. Draghi highlighted the uncertainties surrounding the Eurozone recovery and how it is weighing on price stability: Emerging market growth, financial volatility and geopolitical risks.
The referendum promised by David Cameron by the end of 2017 on the United Kingdom's membership in the European Union (EU) is without doubt one of the main risks to monitor in Europe in the months ahead. The possibility of leaving the EU (Brexit) cannot be ruled out. Such an event would constitute a precedent for Europe, which would be very damaging for the whole EU. Our scenario remains compatible with the United Kingdom staying in the EU following a favourable outcome in the negotiations.
The ECB cut the deposit rate by 10bp, to 0.3%. It extended QE to March 2017 or beyond, if necessary. Those measures strongly disappointed the markets, which expected more QE or more of a cut. In our view this is the good amount of stimulus that is needed by the Eurozone: soft but prolonged accommodation.
We confirm our call that the FOMC will hike rates by 25 bps at the December FOMC meeting. The October employment report cinched the case for a December liftoff, in our view. Monetary policy will still remain quite accommodative for some time as we see a gently rising rate trajectory with the Fed moving at a gradual pace towards a more normal rate structure.
Our Quantitative Easing impact indicator continued to edge down in October, following the virtually across-the-board deterioration in monetary and financial conditions observed over the summer. The monetary policy transmission channels that most immediately responded to the launch of the policy at the start of the year are those that have deteriorated most.
The meeting of the Bank of England on 5 November proved to be a non-event. The BoE left its monetary policy unchanged. The November Quarterly Inflation Report is dovish and the new projections for inflation suggest that the process of normalisation in monetary policy will come later than was thought back in August. The BoE expects CPI inflation to overshoot the 2% target in two years, which we read as a hawkish signal relative to market interest-rate expectations.
Q3 real GDP growth rose at a 1.5% annual rate, following a 3.9% increase in Q2, while the core PCE deflator slowed to a 1.3% rate in Q3. Domestic final sales grew at a healthy 3.0% pace led by a solid 3.2% advance in consumer spending. The deceleration in growth reflected an inventory correction that trimmed 1.44% points from Q3 growth. We see GDP growth reaccelerating in Q4 as consumer spending powers ahead and the inventory correction will be largely completed.
The fed funds target range was maintained at 0 to 0.25% as widely expected. And the FOMC guidance continues to anticipate that "it will be appropriate to raise the target range for the federal funds rate when it has seen some further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent objective over the medium term."
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