Fed and BoE Wrestle with Fragile Confidence as ECB Cuts First

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Eurozone Market Update

In May, the flash figures show that eurozone headline inflation rose to 2.6%, from 2.4% in April (see Chart of the Month). Core inflation stood at 2.9% versus expectations of 2.7%. Services inflation was up to 4.1% from April’s 3.7%. However, despite the inflation bump, the market expectation at the beginning of the month was for the European Central Bank (ECB) to make its first rate cut at its 6 June meeting, which proved correct as a 25 bps cut came to pass. The region’s composite Purchasing Managers’ Index (PMI) continued to trend up in May, hitting 52.3. This beat the previous month’s score (51.7) and consensus (52.0). The increase was led by manufacturing PMI, which increased to 47.4 from 45.7, while services PMI remained at 53.3.

_{Source: Bloomberg, data as of 31 May 2024}

UK Market Update

The Bank of England’s Monetary Policy Committee (MPC) kept the base rate unchanged at 5.25% in May. The voting split was 7-2, with two members favouring a cut. Rate cuts are only likely in the second half of 2024 as the MPC seeks more evident signs from domestic-led inflation. The UK labour report was mixed, with unemployment up to 4.3% in March. Still, wage costs reaccelerated, as private sector average weekly earnings came in a little hotter than anticipated. Markets saw this as a positive sign for lower rates. UK headline inflation fell to 2.3% in April, but core inflation surprised to the upside at 3.9%, versus 3.6% expected. Services inflation is still running strong at 5.9% compared to the previous print of 6.0%. The inflation print led markets to push back the timing of a rate cut to November 2024. Elsewhere, Prime Minister Rishi Sunak announced the UK general election for 4 July 2024, but the consensus is that the election result will not cause any significant changes in the market.

_{Source: Bloomberg, data as of 31 May 2024}

US Market Update

The Federal Open Market Committee (FOMC) decided to unanimously leave the federal funds target range unchanged in May, which was unsurprising given the recent readings on inflation and public commentary by Fed officials before the meeting. The main message from the FOMC press briefing was that the path of economic data this year, especially the inflation data, had not given the Committee “greater confidence that inflation is moving sustainably toward 2%” and, as a result, it will take longer than initially expected for the Committee to start cutting rates. Annual headline inflation edged down to 3.4% from 3.5%, while core inflation dropped to 3.6% from 3.8%, the lowest in three years. The PMIs for May grew, with the manufacturing sector rising 1.3 to 51.3 and flash services activity rebounding by 3.5 to 54.8

_{Source: Bloomberg, data as of 31 May 2024}

Looking Ahead

While the FOMC and BoE left rates unchanged in May, the ECB signalled it would likely start easing in early June. The FOMC noted that recent inflation data hasn’t increased its confidence in reaching the 2% target, but Chair Powell did trim some tail risk by suggesting a hike is unlikely. The BoE inched closer to a rate cut, tweaking its statement by including data-dependent forward guidance. However, the varied views on inflation's persistence in the MPC statement lead us to believe a June cut would be premature. And while the ECB cut rates by 25 bps in June, guidance on the subsequent pace of the cutting cycle is vital. Central banks need more data on inflation to gain confidence in achieving their targets. Incoming inflation and labour data remain crucial for our interest rate outlooks.

Chart of the Month

_{Source: Bloomberg as of 31 May 2024}

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