Big week ahead

A two-week period is about to begin that could usher in a new phase for the global capital markets.  Most of the major central banks hold policy meetings, and the US and Europe report the preliminary estimates of Q3 GDP.  The US holds its national elections. A clearer sense of UK-EU trade talks ahead of the mid-November summit is likely.  China holds a plenary session for the central committee of the Communist Party to hammer out the new five-year plan (2021-2025).  In terms of high-frequency data, the eurozone estimates October CPI amid deflationary worries. The US will report its October employment data a couple of days after the election.  There is some concern that seasonal factors and the winding of census workers could see a weak report, and some warn of the risk of an outright decline in non-farm payrolls.  

Next week, the Bank of Canada meets on October 28, followed the next day by the Bank of Japan and the European Central Bank.   None of them are expected to move.  The Bank of Canada already announced that it would pull back some of its emergency efforts as market conditions have improved.  It announced it will cease its support for the banker acceptances and its purchases of mortgage-backed bonds.  It will also reduce the frequency of its repo operations.  The use of these facilities has declined in recent months.  Canada is likely to be among the strongest of major economies next year.  The IMF's recent World Economic Outlook puts it just below 5%, and the Bloomberg survey found a median forecast of 5.8%.  

Although the Bank of Japan may soften its economic assessment as it updates its forecasts, it will not prompt the central bank to act.  Governor Kurdo and the BOJ will look through the deflationary readings (core -0.3% year-over-year in September) as they partly reflect the government's efforts to promote tourism with discounts.  There had been some speculation that the BOJ's emergency measures could be extended. Still, there is no rush as there is plenty of time to monitor developments as the facilities do not expire until the end of the fiscal year (31 March 2021). Note that Japan's composite PMI remains below 50 (as do both the manufacturing and service components).  The IMF forecasts the world's third-largest economy to grow by 2.3% next year, while the Bloomberg survey's median projection sees a 2.5% expansion. It would be the strongest in a decade. 

The ECB meeting will be the most interesting.  There appears to be a clear preference to link policy shifts to new staff forecasts.  These will not be available until the December meeting.  Nevertheless, the proverbial handwriting is on the wall.  The risks are firmly on the downside.  The poor preliminary October PMI readings (composite at 49.4, below the 50 boom/bust level for the first time since June, falling for the third consecutive month) underscore that the risks have begun materializing.  The surge in the virus and new social restrictions can only add to the risks of poor economic outcomes.  

Much ink is being spilled on the exchange rate impact on measured eurozone inflation, but it should not be exaggerated.  Over the past 12 months, the euro has appreciated by around 6.5% against the dollar, and the bulk of it (5.7%) has taken place here in H2 20.  Of that, the lion's share was in July (4.8%).  The low inflation problem in Europe pre-dated the euro's rise.

Before the monetary union, Europe was a collection of mostly small and open economies.  After monetary union is larger and less open, meaning much trade is within the common currency area.  The price of oil that also feeds into inflation expectations and forecasts is off nearly 30% from a year ago.  Since the ECB met in September, the euro has appreciated by about 0.35%.  Talking about why higher oil prices are necessary does not capture the public imagination as much as currency anxiety.  As an aside, higher oil prices provide more market incentives to shift to renewables, and countries with large reserves and low population density like Saudi Arabia traditionally recognized this.  

The day after the ECB meets, the first look at Q3 GDP and the preliminary estimate for October CPI will be announced.  After contracting by nearly 12% in Q2 (11.8% quarter-over-quarter), the eurozone is expected to have grown by around 9%.  Growth is believed to be slowing markedly in the current quarter, maybe 2%, according to the Bloomberg survey, which may be optimistic given the contagion.  Economists surveyed by Bloomberg expect the eurozone to expand by 5.5% in 2021, while the IMF's new forecast was shaved to 5.2% from 6.0% in June.  While the IMF's forecasts for external balances seem not to have taken onboard the US and China's diverging trajectories, the GDP forecast for the eurozone and Japan next year is lower than the market, judging from the Bloomberg surveys.  Estimates for October CPI are essentially unchanged from September's -0.3% year-over-year headline and 0.2% core rate.  

The US will report its preliminary estimate of Q3 GDP around the outcome of the ECB meeting is announced on October 29.  Although new doubts have been expressed about China's GDP report's accuracy, we need to be careful about the real issue.  The US first estimate will be continuously revised several times and for more than a year.  We are talking about economies of $15-$20 trillion and estimates to the tenth of one percent.  Let's not make a fetish over accuracy.  What investors really want is an unbiased process; that is where the trust lies or doesn't.  

The question is how big of a bounce was there for the world's biggest economy after a 31.4% contraction (seasonally adjusted annual rate) in Q2.   The Bloomberg survey found a median forecast of almost 30% in a range between 17% and 35%.  The NY Fed's model is tracking 13.7%.  It is the least confident.  The St. Louis Fed's and the Atlanta Fed's model puts it puts Q3 growth near35.3%.  

Beyond the headline risk, investors typically do not spend much time looking in the rearview mirror. Nearly a third of the Q4 is behind us.  How the economy is doing now and what it says about the trajectory is more important.   The synchronization of the business cycle among most of the high-income countries continues.  A historic collapse in Q2 was followed by a powerful re-opening and a dramatic surge of activity in Q3.  

However, it became clear that Q3 growth was frontloaded, and by the middle of the quarter, there were signs of a loss of momentum.  The NY Fed's GDP Nowcast estimates Q4 growth near 3.5%, while the Bloomberg survey is slightly higher at 4%.  Turning 2021, economists in the Blomberg survey expect US growth of 3.8% year-over-year.  The IMF forecasts a little more than a 3% expansion.  

It is often not top of mind, but some meetings of the Chinese Communist Party may be increasingly important for international businesses and investors to follow and understand.  The fifth plenary session of the Central Committee of the Communist Party is important.  It begins Monday and runs for most of the week, and is the last in the cycle,  marking a new period.  Plans for the next (15th) Five-Year Plan (2021-2025) will be drafted and approved by the National People's Congress next March.  

It will present a series of aspirational goals and social priorities, which will likely include more market-opening measures.  Foreign interest is not only in tariff barriers, but China has, arguably, stronger non-tariff barriers to imports.  There is also a keen interest in the growth target, partly because there is a deep-seated conviction among many that the target becomes what is said to have been achieved regardless.  The target in the five-year plan ending this year was 6.5%.  In the first four years of the plan, it reported year-over-year growth averaged about 6.6%.   The growth target of the next five-year plan is likely to be around one percentage point less.  

Two memes have risen.  The first is the concept of "dual circulation," which sounds better to the foreign ear perhaps than Made in China 2025, but it is essentially the same thing.  Rely more on local production and consumption while maintaining a strong presence abroad.  The second is the rise of Xi Thought.  This is precepts and insights from the President of the People's Republic of China,  General Secretary of the Communist Party, and Chairman of the Central Military Commission.  

The point of this is that it another sign of the concentration of power in Xi's hands.  He is taking on more of the symbols the no one has dared reach for since Mao.  The cult of personality that this fosters may ultimately lead to increasing resentment and opposition by other ambitious people.  However,  the fact that the longer-term vision through 2035 is on the agenda may be another tell of Xi's intent to remain in charge for many years to come.  Perhaps, one constructive sign coming from the gathering is that the end to all birth restrictions could be announced, as some have suggested.   The current five-year plan formally ended the one-child policy, but other state laws remain.