Central Bank action in focus today and tomorrow

• The main focus this morning has been on China which, as expected, lowered the economic growth target for the second consecutive year from 7.5% in 2014 to 7% in 2015.

• As we pointed out before, the rand is ultimately a commodity currency, with its fate tied to the global growth cycle and to commodity demand specifically.

• The focus over the next 36 hours will be on central bank policy.

• Firstly, Brazil’s central bank hiked interest rates again yesterday – the second time this year. Brazil is one of few EM countries hiking rates at this stage.

• The Bank of Canada left rates unchanged yesterday after a surprise cut in January.

• Today, the ECB and BoE will meet. The focus will be on the ECB who may flesh out the QE plans which is set to start in March.

• Lastly, tomorrow is the US non-farm payroll data which should add more clarity on the path of Fed policy over the next six months. The market seems split between a Fed rate hike in July or September. We pin a rate hike in September.

• As far as South Africa is concerned, we still believe that the SARB will keep the repo rate unchanged in 2015.

• Today will see NT hold its second switch auction of the year at 12pm SA time. Up to R10bn of source bonds will come from the R203, R204, R207 and R208, switching into one of the R186, R2030, R2032, R2037, R2044 and R2048 bonds. In the prior auction, pre-Budget, the majority of short-term debt was switched unexpectedly into the R186.

International developments

The main focus this morning has been on China which, as expected, lowered the economic growth target for the second consecutive year from 7.5% in 2014 to 7% in 2015. And, like last year, the government is expected to miss this target in 2015. Interestingly, despite 26 out of the 28 provincial-level governments having cut their targets by between 0.5 and 3 pps for 2015, nearly half have still set targets above the rate of expansion that actually materialised last year.

Although we have been expecting this drop in the growth target, and in fact forecast growth of only 6.9% y/y for China this year, a decline in the growth target has to be rand-negative. Slower growth in China implies slower commodity demand growth and as a result rand-negative. As we pointed out before, the rand is ultimately a commodity currency with its fate tied to the global growth cycle, and commodity demand specifically.

Brazil’s central bank raised the benchmark interest rate again yesterday by 50bps – the second time this year. This bring the official benchmark rate to 12.75% as the central bank tries to fight inflation which printed 7.14% y/y in January – well above the target range of 2.5% - 6.5%. The central bank has been in a rate hiking cycle since April 2013. The Brazilian real has depreciated by almost 30% against the dollar since the start of 2014, which is adding to the inflationary pressures. Brazil’s real interest rate – as calculated by the benchmark rate minus inflation – now stands above 5.5% which would be one of the higher real interest rates in EM. This is growth-negative but may well start to support the currency at some stage.

South Africa’s short-term real interest rate has also started to rise steadily over the past few months as inflation prints come down and the SARB holds the repo rate steady. South Africa’s real interest rate, using the January inflation print is at 1.35%. We expect this to move closer to 2% by April, which may provide some support for the rand which is still facing substantial headwinds.

Yesterday’s, US ADP report fell a bit short of the 220k consensus at 212k. It was nevertheless a decent number despite being short of the sort of averages we've seen recently. Steve Barrow (our G10 FIC Strategist) points out that the ADP report is not particularly good at predicting the month-to-month changes in nonfarm payrolls but the averages run close together. Steve still thinks that payrolls will more likely be a bit short of the 235-240k consensus on Friday. The US non-manufacturing ISM was firm at 56.9 after 56.7 (the consensus was 56.5). Of note here was a good reading for the employment component which rose to 56.4 from 51.6 — which bodes well for service sector payrolls in Friday's nonfarm payrolls report. Prices paid still soft at 49.7, albeit up from 45.5 last time as energy prices stabilise.

The Bank of Canada left rates unchanged, as generally expected, although there were a few calls for a rate cut after the surprise cut in January. Instead, the Bank left rates unchanged and gave the impression that its satisfied with the current level of accommodation. This might make the market think another cut is unlikely but you have to remember that the Bank is no longer so interested in guiding the market after Governor Poloz talked of dropping guidance last October. And, as we saw in January, the BoC is willing to follow this up because the rate cut was largely unexpected. But while we can't be sure the rate cuts are over at least, for now, the Canadian dollar may stay a bit firmer and rates a little higher.

The ECB meets today and the Bank will probably put more flesh on the bones of the quantitative easing (QE) plan it unveiled last month; it almost certainly won’t ease policy again. The Bank will also reveal new forecasts and this time they will go out to 2017 (not 2016). Steve thinks that this could be of significance because, while the ECB’s QE program is due to end next September, it will be contingent on inflation being on a path back to the target — that is, close to 2.0%. Unlike the BoJ, the ECB has not said that inflation needs to be clearly back to target to end QE. Hence we have to judge just what constitutes sufficient progress back towards 2.0%. Last December the ECB said that the CPI would be 1.3% in 2016. If the new 2017 forecast is close to 2.0% the market will conclude that the ECB expects to end QE around the current target time — of next September. But, if the inflation forecast is still some distance from 2.0% (say 1.5% or less) the market won’t be sure whether this constitutes sufficient progress, and hence won’t be so sure that QE will end next year. The bottom line is that the ECB’s 2017 inflation forecast could be the most important bit of information today.

The Bank of England also announces its latest policy decision today but clearly nobody is looking for any change. Steve does not expect the first rate hike to occur before Q4:15. It is possible that one, or both, of the two members that had been voting for higher rates up until recently will reinstate their rate hike call soon. But even if this happens, Steve thinks that it will be some months before sufficient numbers join up to create a majority.

Markets

The rand weakened against the dollar on Wednesday, closing at 11.81, compared to Tuesday’s close of 11.75. The rand’s depreciation against the greenback occurred in line with dollar strength against all of the majors; the dollar posted the largest gain against the euro and pound. In terms of the other major crosses, the rand managed to strengthen against the euro and sterling, -0.5% and -0.3% respectively, but lost ground against the dollar. The rand put in the second-worst performance amongst the commodity currencies we monitor for purposes of this report, ahead of only the NOK. The rand, however, put in the third-best performance amongst EM currencies, only behind the RUB and the THB. The rand traded between a low of USDZAR11.7381 and a high of USDZAR11.8578 intraday.

Commodity prices were mixed on Wednesday. Gold and platinum were down by 0.3% on the day, while copper increased by 0.3%. Brent fell by 0.8% on Wednesday to close at $60.55/bbl. Both the developed market MSCI and MSCI EM were down on Wednesday, by 0.4% and 1.0% respectively. The ALSI was down by 0.5% on the day. The EMBI widened by 5 bps and SA’s 5yr CDS spread widened by 8 bps on the day. The CBOE VIX Index, a volatility-based proxy for global risk appetite/aversion, increased by 2.7%.

Latest SA publications

SA Macroeconomics: Economics Note: Monetary policy divergence continues: PPI declines, the Fed remains patient, and Rating Agencies respond to the Budget by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (2 March 2015)

SA Macroeconomics: Economics Note: Jan trade balance –R24Bn: Exports -14%, imports -3.6% by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (27 February 2015)

SA Macroeconomics: Economics Note: Jan private credit 9.2% y/y: Household credit slowed to 3.5% by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (27 February 2015)

Credit & Securitisation Weekly: Eskom in National Budget by Steffen Kriel and Varushka Singh (27 February 2015)

SA Macroeconomics: Economics Note: Fiscal slippage & tax increases: GDP revisions lower debt to GDP by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (26 February 2015)

SA Fixed Income Budget note 2015 Budget: Trying to stick to MTBPS forecasts by Asher Lipson, Walter de Wet and Shireen Darmalingam (26 February 2015)

SA Macroeconomics: Economics Note: 2014 GDP 1.5% y/y, 1.3% q/q: Q4:14 outperforms post strikes by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (24 February 2015)

SA Fixed Income Trade Idea: Time to receive 8x11 FRA by Asher Lipson (24 February 2015)

Credit & Securitisation Flash Note: Curro Holdings Ltd by Steffen Kriel (23 February 2015)

SA FX Weekly: Budget 2015: time to deliver by Marc Ground and Shireen Darmalingam (23 February 2015)

SA Macroeconomics: Economics Note: 2015 Budget: commitment to consolidation: GDP, Budget, PSCE, PPI & Trade data to be released this week by Kim Silberman, Thanda Sithole and Kuvasha Naidoo (23 February 2015)

Credit & Securitisation Weekly: Upcoming National Budget by Steffen Kriel and Varushka Singh (20 February 2015)