Euro area inflation & US payrolls top busy calendar

• Euro area inflation set to fall further, but ECB on hold for now
• Strong September payroll could pave way for change in language at Oct FOMC meeting
• Upward revision to UK GDP likely to raise question mark over degree of spare capacity

With the euro area on the verge of negative inflation, all eyes in the coming week will be on the region’s September CPI release and the ECB’s response at its policy meeting. We look for the annual CPI to drop further to just 0.2% from 0.4% in August, primarily due to lower energy prices. Excluding energy (and food), however, the “core” rate is forecast to remain at 0.9%. With inflation still well below target, the question going into Thursday’s ECB’s meeting will be where next for policy? ECB President Draghi has promised further details on the ABS purchasing programme but otherwise the emphasis is likely to be on monitoring the initiatives already in place. We expect Draghi to play down the low initial take-up of TLTROs and to sound upbeat about the outcome for the next tranche. While an unchanged “core” rate is likely to help the ECB to justify keeping policy unchanged for now, the prevailing weakness of growth and inflation has shortened the odds of further stimulus (QE) over the coming months.

In the UK, the policy debate is very different. Mark Carney's acknowledgement this week that the point at which interest rates “begin to normalise is getting closer” underscores the importance of upcoming UK data. In this regard, eagerly-awaited revisions to the UK's national accounts are published Tuesday. The ONS has already released some of the key findings. These include: (i) the level of GDP is set to be revised up by 4%; (ii) the recent recession is likely to be shallower and the recovery more pronounced; and (iii) the household saving ratio is likely to be revised up sharply, courtesy of a change in the way defined benefit pensions are treated. Since most of the changes are already known, we expect the market impact to be relatively limited. That said, to the extent the upward revisions to GDP raise question marks over the degree of spare capacity they could still weigh on bond market sentiment.

With the PMIs later in the week likely to be softer, however, any adverse bond market reaction to the GDP revisions could be short-lived. Uncertainty over the Scottish referendum and associated currency volatility are expected to have dampened activity in September. The manufacturing PMI is already at a level consistent with some softening in output growth, but is still predicted to post a further (modest) fall this month. We suspect the services PMI may have greater capacity to surprise. Last month’s rise to 60.5 probably overstates the strength of sector activity and we look for this to reverse. Our forecast is below consensus at 58.5. Otherwise, the latest M4 money supply, mortgage approvals (both Mon) will also attract interest, as will our own Business Barometer (Tues).

In the US, it is also a heavy week for data - including the September labour market report (Fri). Following August’s smaller-than-expected payroll gain, a number of Fed officials have noted growing signs of a slowing in the pace of employment. Indeed, the August outturn was a key factor in persuading the Fed to keep its forward guidance language unchanged at its recent policy meeting. Given this, the September payroll report takes on particular importance. Another outturn below the year-to-date average of 215k is likely to reinforce the arguments of the doves on the Committee, while a jump back above 200k would likely prompt speculation about a change to the ‘guidance’ at the late October FOMC meeting. Overall, we expect a gain of 225k, and an upward revision to August . The unemployment rate, meanwhile, is predicted to drop to 6.0%, although earnings growth is likely to remain very subdued.

Other key US reports include the September manufacturing (Wed) and non-manufacturing (Fri) ISMs; along with August consumer spending (Mon); construction activity (Weds) and external trade (Fri). All should be consistent with decent Q3 economic growth.