EZ – September industry sentiment expected to remain at high level

• US Fed – No rate change, forecasts could move markets

• EZ – September industry sentiment expected to remain at high level

Will FOMC confirm its forecast of another rate hike before year-end?

The most watched event next week will be the meeting of the US Fed's rate-setting body (FOMC). An interest rate hike is highly unlikely.
However, the economic data coming from the US in recent months would not speak against a hike and less support for the economy from interest rates. The data released over the last few weeks showed strong expansion of the economy in 2Q and this is likely to have continued in 3Q, at least until hurricanes Harvey and Irma hit. The devastation caused by the two hurricanes is likely to trigger a severe drop in the economy's growth rate compared to 2Q, although only temporarily. The growth dynamics of the US economy will be decisive; these were only interrupted by the hurricanes and should again lead to a higher pace of growth in 4Q. The inflation indicator most relevant for the FOMC (PCE core inflation) has come down considerably compared to the initial months of the year. However, this was due to one-off impacts from very few product categories, a fact that was also acknowledged by the FOMC.
Nonetheless, the main reason why a rate hike rate next week is highly unlikely is the lack of preparation of the markets by FOMC members for such a step. Since the markets are pricing in a zero probability of a rate hike next week, FOMC members would likely have issued a warning if they were planning otherwise, as happened in January and February of this year, when FOMC members "corrected" market expectations for unchanged rates at the FOMC's March meeting.

So what do we expect from next week's meeting? It will be exciting, even though interest rates are set to remain on hold. The markets will focus on projections by FOMC members. At the previous meeting in June, the median estimate was equivalent to another rate hike before the end of the year. Should this be confirmed next week, a rate hike at the December meeting would become highly likely. A correction of market expectation would follow, as the markets are currently giving a rate hike in December a probability of slightly less than 50%. Further, the FOMC member's outlook for 2018 will be crucial. The median in June called for three rate hikes next year.

Further, we expect a decision next week on the start of the reduction of the Fed's securities portfolio. The procedure was already announced and foresees a monthly reduction of the portfolio by USD 10bn, which will be achieved by not fully reinvesting principal payments. The monthly amount not reinvested is set to rise by USD 10bn every three months until USD 50bn is reached. At this pace, the so-called balance sheet normalization will take years, even considering that the security holdings will not be reduced to pre-crisis levels, as has been communicated by the FOMC. We expect the start of the whole process to be announced next week for October. We do not expect any significant market impact from this decision, as the FOMC has quite clearly prepared the markets to expect the start of balance sheet normalization before the end of this year.

EZ – September industry sentiment (PMI) expected to remain at high level

Next week (September 22), a flash estimate for September industry PMI data for the Eurozone, Germany and France will be released. After a slight decline, sentiment rebounded in August to the record-high levels seen in June. The upswing in August was led by Germany, the Netherlands and Austria. Domestic demand remained robust, whereas foreign demand picked up strongly to levels not seen for 6.5 years. This had a positive impact on order balances as well as job growth. Furthermore, price pressure gained momentum.

We expect Eurozone industry sentiment to remain clearly in expansionary territory in September, although it may slow down somewhat compared to the August data. The global environment remains favorable for the Eurozone, while capital flows to Emerging Markets continued and prices for cyclically sensitive commodities are charging ahead. We expect GDP growth in the Eurozone in 3Q17 of around 2.1% y/y.

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