AllianzGI: Focused Fed and ECB to show no let-up in inflation fight

AllianzGI: Focused Fed and ECB to show no let-up in inflation fight

December 13, 2022

Monetary policy ECB Fed
Rente (01)

Franck Dixmier, Global CIO Fixed Income, AllianzGI, looks ahead towards the US Federal Reserve and European Central Bank meetings in December 2022.

In the US, inflation seems to have peaked, as shown by the recent October indicators, with the consumer price index (CPI ) at 7.7% (compared with a June peak of 9%) and core CPI  at 6.3% (September peak at 6.6%). Furthermore, core PCE , which peaked in March at 5.33%, fell to 4.9% in September (peak in March at 5.33%). However, the inflation story does not seem to be over. Wages continue to accelerate: +0.6% month-on-month in November  (against +0.3% expected and +0.4% in October) and +5.1% over 1 year.

Despite an increasingly restrictive policy mix, the US economy continues to accumulate good news. Its resilience can be seen in services, with the ISM Service index  rising sharply in November (56.5 against 53.3 expected and 54.4 in October) and, more surprisingly, through the rise in industrial orders, despite the weakness observed in the ISM Manufacturing index. It can be seen above all in the health of the job market, which continues to surprise. November's data confirmed its resilience, with job creation up again (+263k against +260k expected and +284 in October), an unemployment rate of 3.7% and an increase in the ISM employment sub-component (51.5 against 49.1 in October). US companies seem reluctant to let go of employees they have struggled to recruit.

In this context, the US Federal Reserve will have to continue to slow down the US economy. After four rate hikes of 75 basis points (bp), Fed Chair Jerome Powell should certainly recalibrate the amplitude of the hikes, and we expect a 50bp increase at the next Federal Open Market Committee (FOMC) meeting on 13-14 December. But we remain cautious about what this move will tell us about the number of hikes to come to reach the terminal rate.

The 50bp hike is well anticipated by the markets. But they could be surprised by the hawkish tone that we expect Mr Powell to adopt. Indeed, they are currently expecting a terminal rate of 5% and a first rate cut in the second half of 2023. We believe that these expectations do not take into account any potential surprises in higher inflation figures in the coming months. Given the high level of uncertainty regarding the inflation level due to the strength of the US economy, we believe that the Fed's terminal rate could be between 5% and 6%.

Furthermore, we do not expect a rate cut in the second half of the year, as Mr Powell has clearly stated that we should not count on rapid rate cuts to avoid repeating the mistakes of the 1970s and 1980s.

Therefore, we should expect volatility in interest rate markets, especially the short-term yield curve, which could reprice more rate hikes than expected today.

Related posts